January 19, 2014

Getting to a Worth of $150 per share: Melanoma

In my post Provectus Biopharmaceuticals: Worth of $150 per share I wrote the company is worth at least $150 per share. At the time of an acquisition, I expanded, using approximately 200 million fully diluted shares outstanding, my per share figure implies a $30 billion worth. Worth of $150 per share or a total of $30 billion is my estimate of Provectus' intrinsic value on a net present value basis, an amount I believe could accrue to shareholders when the company is acquired and over time through an earn out. I reminded readers worth may not or may never be share price or market capitalization. Worth doesn’t contemplate deal structure. "You take what the market gives you" (or you negotiate with it), whether that is the public market or the pharmaceutical M&A one. Monetizing some, most or all of this worth lies in the hand of management and their financial advisers. I wrote I planned to post my valuation, scenario and sensitivity analyses. I'd like to begin with describing how I got there. The first step is to discuss the contribution of the company's lead indication, melanoma, to worth.

Let's establish a starting point. When thinking about risk/reward, I contemplate possible risk through an assessment of Provectus' baseline valuation: For what can or could management sell the company if they had or wanted to do so, and under what circumstance(s) or scenario(s) would this take place. You can arrive at a baseline through either traditional, reasonable, practical valuation for biotechnology companies (that some sell-side analysts practice well) or certain relevant precedent transactions (and their respective contexts). I examine potential return exclusively as the outcome of management's end-game strategy (always leaving room for me to reduce or close our position as that strategy is evaluated on an on-going basis), and using a sum-of-the-parts approach and analysis. Return paints a picture of potential value that may exist over the above mentioned baseline. I don't rely much on the work or views of other people for return, but I constantly assess risk by, among other things, examining how and what other people think about Provectus.

The story goes, or so they (whoever they are) say, Big Pharma could have convinced Craig, Tim, Eric and Peter to hand over the golden goose for $5 billion, lock, stock, and barrel and feathers. No need for future promises, milestones, payments, payouts, etc. Just cash upfront, thank you very much. At that time fully diluted shares outstanding were about 80 million, which would imply a price per share of $62.50. Pfizer, the pharmaceutical company with the largest amount of cash on its balance sheet of its peers and no discernible oncology business strategy (yet), could have taken them out for what I think over time will be proven to have been a bargain.

The drug's clinical (safety, local and systemic efficacy, multi-indication viability), patient/medical provider (lack of toxicity, ease of administration, user friendliness, ready reimbursement) and business (very inexpensive to manufacture at scale, inexpensive to store and ship, very high gross margins, fully owned cancer asset) value propositions have not changed from when the above mentioned story purportedly was told. Here's what's changed:
  • The clinical value proposition has gotten better. More data has expanded its breadth and increased its depth. A breadth example: Setting aside Provectus' clinical trial work in melanoma, liver cancer, breast cancer and the cancers treated at the compassionate use program sites (squamous cell carcinoma, scalp sarcoma, colorectal, pancreatic metastasis to the liver, ocular melanoma metastasis to the liver, neuroendocrine tumors metastatic to the liver), and lost amidst Moffitt Cancer Center's August 22nd press release Single Injection May Revolutionize Melanoma Treatment, Moffitt Study Shows, Moffitt's PLoS One paper Intralesional Injection of Rose Bengal Induces a Systemic Tumor-Specific Immune Response in Murine Models of Melanoma and Breast Cancer concluded: "These studies have demonstrated that intralesional PV-10, in addition to reducing the growth of a directly injected tumor, leads to the induction of a robust anti-tumor T cell response and supports the use of PV-10 to induce systemic anti-tumor immunity for the treatment of metastatic melanoma and breast cancer." Bold underlined emphasis is mine. An example of depth: Germane to this post is the expansion of "label" from metastatic melanoma to recurrent melanoma. You'll see me argue the latter is a much larger addressable market than the former, and a gateway to the entire melanoma patient population.
  • The biopharmaceutical industry is broadly catching on to what the company and others have said in regards to immunotherapy in general and focusing on the tumor in particular. What separates PV-10 from most of the competitive landscape, aside from its pristine safety profile, are three unique characteristics that deeply matter to PV-10's proposition and make it so broadly efficacious: a delivery mechanism (for now) of intratumoral injection, multiple targeting through a full expression of antigens in context, and tissue specificity that sees the destruction only of diseased tissue.
  • The pharmaceutical industry is bereft of real product as the healthcare industry (insurance companies, payors) moves toward cost per unit efficacy.
The above serves to highlight that management's expectations for value and worth have gone up. While dilution may have increased 150%, worth has increased at least 500%.

Melanoma. Provectus' lead indication for its clinical trials started out as metastatic melanoma (Stage IIIB-C, Stage IV M1a-c). The label may end up being recurrent melanoma; see Moving towards approval. Label getting bigger. (January 16, 2014) under the blog's News tab. "Recurrent melanoma, for now, may refer to patients refractory to treatment (as I've written before) or a much larger population set. Patients  with  recurrent or refractory metastatic melanoma may be divided into 2 groups: patients who have failed initial systemic therapy (chemotherapy and/or biologic therapy) and experience progression or recurrence after an initial response to treatment or patients who have local recurrences (skin and/or regional lymph nodes) after initial surgery or surgery and adjuvant therapy." (Source). "Treatment of melanoma that comes back after initial treatment depends on the stage of the original melanoma, the prior treatment, and the site of recurrence." (Source)

Traditional (Baseline). A baseline valuation can be derived several ways (e.g., a net present value ("NPV") or discounted cash flow ("DCF") with or without a terminal value ("TV"), precedent transactions, a multiple of peak sales with or without a DCF adjustment, etc.). Using NPV/DCF w/ or w/o TV, I can arrive at a contribution to worth of metastatic melanoma (i.e., Stage III) anywhere from about $1 to $4 per share. Recall the stock closed on Friday, January 17 at $2.93 per share, which is about $2.10 adjusted for my assumption of fully diluted shares outstanding upon end-game.

The work below uses assumptions, which are just that, assumptions. I try to mimic a typical practitioner's valuation work, making assumptions for a belief in the applicability of PV-10 to the melanoma patient population (Stage III), the growth rate of newly diagnosed cases (3%), PV-10's market share at its peak penetration (30%), a geography (U.S.A.), the launch year for the drug (2015), the year peak sales are achieved (2015, 5 years later), a weighted average cost of capital ("WACC") for use as a discount factor (8%), the number of years over which to calculate sales (10), treatment price ($20,000), and a risk adjustment factor analysts use to hedge or fudge their initial valuation calculation. If you change any or all of these assumptions, valuation drops below $0.88 per share (50% risk adjustment factor) or above $1.76 (no adjustment).
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Traditional w/ a terminal value (baseline). Terminal value has a role to play in this kind of valuation, and there's a context to it as it relates to why the practitioner uses it and the part it plays in his or her narrative. Here too there are assumptions: a TV year (2025), a TV revenue discount rate (75%), and a TV growth rate (2%). If you change any or all of these assumptions, valuation drops below $2.05 per share (50% risk adjustment factor) or above $4.10 (no adjustment).
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Precedent transactions. I also may rely on specific transactions that push the baseline valuation to at least $5, with no consideration for inflation, deal inflation, scarcity, macro and micro market dynamics, etc. since those transactions took place. At least two billion dollar acquisitions come to mind: first, Amgen's January 2011 acquisition of BioVex for $425 million up-front and milestone payments of up to $575 million (BioVex's melanoma drug was intralesional agent OncoVEX, now talimogene laherparepvec), and second, Daiichi Sankyo Company's February 2011 acquisition of Plexxikon for $805 million up-front and near-term milestone payments of up to $130 million (Plexxikon's melanoma drug was PLX4032, now vemurafenib/Zelboraf). 

A note about multiples of peak sales. Peak sales may be a useful valuation tool for some; you can read one article on it here. It's a piece of information to observe, but I would not use in my analysis save for considering the valuation you could derive from it when times are irrationally exuberance.

My take on traditional. I believe the ultimate use of, and thus the ultimate addressable market for, the drug will be the entire melanoma market from Stage 0 through Stage IV, from start to end (i.e., before and after surgery). I say this because, given PV-10's clinical and patient/provider value propositions, I think the case clearly can be made to utilize the drug prior to surgery of any kind, presumably so long as the tumor burden (one or more lesions or tumors) are accessible, whether Stage 0/IIIIII or IV. As a result, I adjust the NPV/DCF w/ or w/o TV to include a greater population set, but for now use the same parameter set. Contribution to worth increases to $12.54 per share (end-game number of shares outstanding), which can be higher or low depending on assumptions.
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My take on traditional w/ a terminal value. Using TV, the figure derived from the much larger patient population is $29.29, which can be higher or low depending on assumptions.
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Worth. Finally, I look at the contribution of melanoma to worth, still in a sum-of-the-parts framework, but in the context of management's end-game strategy and the transaction that should result. Note that there are changes to certain assumptions. Here, melanoma's contribution to worth is $5.83 (higher or lower depending on assumptions) and about 4% of my $150 per share estimate.
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$5.83 is lower than either of my takes on traditional valuation, $12.54 and $29.29, respectively, because one may use the traditional methods to model an all-cash price takeout today (upfront and/or milestone payments) if management were inclined to pack it up and call it a night. They are not, and $5.83 models worth, and contemplates much bigger value and impact.

Takeaways. Don't necessarily compare the valuations derived above to each other because there is context for the use of each of them. Provectus' valuation (on a per share basis) from its application to melanoma, however assumed and derived, is larger than the current share price. More importantly, should one consider PV-10 a true and profound paradigm shift treatment in of cancer, reaching $150 per share of worth and beyond is attainable.

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