"Be down at the old oak tree near Boot Hill at twelve o'clock sharp for your hanging. And bring your own rope." -- The film, The Apple Dumpling Gang (1975)
The Apple Dumpling Gang starred Don Knotts and Tim Conway as two bumbling outlaws stumbling through the Wild West. It was a comedy.
These days, Wall Street's version of The Apple Dumpling Gang (hardly a comedy) is biopharmaceutical company Chiron (NASDAQ:CHIR).
Is it a buy after committing a number of non-comedic gaffs? Let's look at the play.
Act 1
Last July, Chiron announced it was prepared to deliver an estimated 50 million doses of flu vaccine Fluvirin to the U.S. market -- an increase from an earlier projection.
Chiron and competitor Aventis SA (NYSE:AVE) each dominate roughly half of the U.S. flu vaccine market -- although MedImmune (NASDAQ:MEDI) is trying to establish a small beachhead with its FluMist nasal mist, even though its partner Wyeth (NYSE:WYE) has decided to exit the business altogether.
Act 2
Last August, Chiron found what it called "a small number of lots that do not meet product sterility specifications." The company offered this reassurance: "We currently expect Fluvirin doses to be available in early October, in time to meet public health needs for this influenza season, and we expect to provide even more Fluvirin doses this season than last season."
Act 3
In October, the U.K. Medicines and Healthcare Products Regulatory Agency (MHRA) withdrew Chiron's license to manufacture vaccines at the Liverpool (England) operation where Fluvirin is produced. Chiron shares fell as much as 21% on this news.
Act 4
On Jan. 26, 2005, the Fluvirin fiasco's financial impact became clear when the company issued financial results for 2004. Consider this: In 2003, vaccine sales were 50.4% of total sales (flu vaccines were 24.7% of total sales, while Fluvirin alone accounted for 12.4% of total sales) and gross margins were a strong 53%. Vaccines were clearly the core product at Chiron.
In 2004, total vaccine sales fell 29.0%, as flu vaccine sales plummeted a spectacular 53.6%, and gross margins for vaccines fell by more than half, to 25%. The company did its bit to create rose-colored glasses for shareholders by providing a separate table to show that Fluvirin sales were down 99%, but all other vaccine sales were up 13%.
Act 5
On Feb. 22, 2005, Chiron said that during a financial review after issuing 2004 financial results in January, it had identified a number of post-close adjustments that would lower income by a further $0.02, to $0.08 a share.
Act 6
In March, MHRA reinstated Chiron's license to make vaccine at its Liverpool manufacturing facility. Chiron had official clearance to initiate full production.
Act 7
Yesterday, Chiron issued a press release saying that the start-up of production for Fluvirin had been delayed and that fewer doses would be produced. The company lowered GAPP estimated earnings guidance for 2005 from between $1.06 and $1.16 to between $0.86 and $1.11 a share. Ah, but that wasn't the only bad news.
The U.S. Food and Drug Administration (FDA) will inspect the Liverpool facility in July, and if Chiron has not adequately addressed matters listed in a previous FDA warning letter, the FDA may take further action that could reduce the ability to market Fluvirin. Yikes!
End of play: Lobby conversation
In 2000, King Pharmaceuticals (NYSE:KG) had vaccine manufacturing shut down for quality problems; it never reopened. Could this be Fluvirin's fate -- if the FDA takes further action?
There is competition coming, too. As chronicled by contributor Brian Gorman, GlaxoSmithKline (NYSE:GSK) has filed for FDA approval to sell its Fluvirix vaccine (used around the world) in the U.S. this coming flu season, and Vancouver-based ID Biomedical (NASDAQ:IDBE) is in clinical trials with its Fluviral vaccine, with the intent of applying for FDA approval in its fourth quarter -- too late for flu season in the U.S.
Fellow Foolish contributor Rich Duprey points out that Crucell (NASDAQ:CRXL) and Aventis have teamed up to develop new technology, using human cells (instead of hens' eggs) to develop a new class of vaccines. Baxter (NYSE:BAX) is trying something similar using monkey cells.
Add it up. Chiron has bungled flu vaccine manufacturing once and is clearly in a position to do it again. It also bungled the year-end financial results. Established competition is on the horizon, and new technology for producing vaccines has the potential to be waiting in the wings.
All this bad news has hardly made Chiron's stock cheap, although it is down 21% from its level 52 weeks ago. The stock is trading at 32.5 times forward earnings (using this year's $1.11 high guidance). Although analysts expect the company to compound earnings at 16% annually over the next five years -- handily beating the 10.6% the S&P 500 is expected to produce -- it's my opinion that there is just too much risk for this stock to be trading at a premium to its growth rate.
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Fool contributor W.D. Crotty does not own shares in any of the companies mentioned. Click here to see the Fool's disclosure policy.
