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[October 31, 2008]
How Biotech Can Make Even Cash Look Bad
(BioWorld Today Via Acquire Media NewsEdge) Is your company on life support?
On Oct. 15, Eun Yang, an analyst with investment bank Jeffries & Co., put out a report titled "Cash Is King: Where Biotech Stands." It consists primarily of what might be termed deathwatch lists - charts tracking where more than 300 public biotech companies stand in terms of cash reserves, debt, burn rate and of course the product of those figures, time left until lights out.
It's not a terribly encouraging report. Out of 248 non-profitable biotechs examined, about half of them have less than a year's worth of cash remaining.
Needless to say, this isn't a great time to be on the prowl for capital. Stock prices are depressed, public markets aren't terribly interested in secondaries, and even private investors don't want to part with their cash.
About $3.2 billion has been raised so far this year in any form - secondaries, PIPEs, credit facilities - down about 62 percent from a year ago, according to Yang's data.
Yet one of the most interesting bits of data in the report is that 55 percent of public biotech companies with market caps under $200 million are trading beneath their cash value.
That might be expected to prick up the ears of savvy investors. After all, these are companies that theoretically could liquidate their assets and distribute a dividend higher than the stock price. In an industry like biotech, where so much value is wrapped up in intangible assets like patents, know-how and personnel, one hardly expects a company to be worth less than its cash in the bank.
But if you're wondering how we got to such a place, just remember that we've been here before . . . and not even all that long ago.
Look today at Vanda Pharmaceuticals, with $63 million in cash as of the end of the second quarter, no debt and a market cap of $22 million. That sounds like a two-thirds-off sale on cash, right? Surely investors should pile in, knowing that the company must be worth at least its cash balance to an acquirer, even if all other assets are deemed worthless. It's free money, right?!
History would say, no. Why? Because it's a biotech company, and management of most biotechs will never throw in the towel if they can help it. They're far more likely to throw good money after bad and slowly drive the company into the ground.
Vanda and companies in similar situations like QLT Inc., Adolor Corp., SuperGen Inc. and YM Biosciences Inc. follow in a grim tradition established earlier this century by one-time industry stalwarts such as Human Genome Science, Celera, Incyte and CuraGen Corp. Human Genome Sciences, for instance, trades at more than its cash value today, certainly. But those investors who saw it as worth less than its cash five years ago? They were absolutely right.
Let's step down memory lane, shall we?
Human Genome Sciences ended 2003 with cash and short-term, long-term and restricted investments of $1.29 billion, against $503 million in debt. In the five intervening years, total debt (long-term debt and its capital leases) has climbed to $755 million. Its cash and investments - even granting the company full value of long-term and restricted assets that may be fairly illiquid - has sunk to $542.7 million. Book value was almost $7 per share at the end of 2003; now it is negative.
The stock is near an all-time low (only a brief period in 1995 saw lower levels). Human Genome Sciences, it turns out, was worth less than its cash in 2003, because it just continued to spend. Those investments, in the eyes of the market, have produced little of value.
Celera, another company that once traded under its cash balance (shortly after trading at roughly the GDP of Iceland), had $802 million in cash and short-term investments in June 2003. As of June 2008, that was down to just $352 million. The stock price is virtually unchanged since then, which means the enterprise value of Celera has actually risen substantially over the past half decade. It just hasn't done a thing for shareholders.
The company can at least brag that investors now see more in Celera than its declining book value. But you also can say that every dollar management has invested in the business over the past five years has produced zero return. It's hardly an argument that Celera at under cash levels was a bargain.
And those were big, well-capitalized companies. Other companies that went for less than their cash several years ago - CuraGen, for instance - still go for less than their cash value. It's just that there's a lot less cash now, so the stock price has declined steadily.
Or there's Caliper Life Sciences, which in 2003 angrily turned down repeated offers from Little Bear Capital to buy out the company for just under its cash balance - then at $154 million. Now Caliper has $10.6 million (with $14.9 million in debt from a credit facility due next year). Little Bear's February 2003 offer of $4.50 per share probably looks pretty sweet to Caliper investors now.
To be fair, there have been exceptions. Transkaryotic Technologies, acquired by Shire Pharmaceuticals in 2005 for $1.6 billion, turned out to be a fantastic bargain when it traded under cash value. Those bold enough to gamble on SGX Pharma earlier this year got a nice payoff when Lilly stepped in as a white knight to take over the distressed company. But as an investor, I find a lot more to fear in biotechs trading under cash value than I do to lick my chops over.
So CEOs who throw up their hands and wonder how the markets could put such low valuations on their companies should take note: Investors' memories are not that short. And though we can't know for sure, there's reason to think that some companies that were willing to let themselves be acquired near cash value - Corvas going to Dendreon or Genomica to Exelixis back in 2003, for instance - did their shareholders a favor in the long run.
Certainly we're going to be entering a tumultuous and interesting period in the industry.
Just as 2003 saw some mergers and acquisitions at fire sale prices, we're likely to see a new round of takeovers, desperate financings and outright failures. It's going to be disruptive. It's going to be upsetting. But it is probably going to strengthen some companies in the industry that can selectively shop for distressed assets. And that's a good thing.
Those companies on the short end of the stick, however, shouldn't expect their cash in the bank to prop up valuations. n
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