By The Swiss Trader
Last week Galena Biopharma, Inc. (NASDAQ:GALE) announced earnings and a corporate update, and its stock immediately rallied. However, the week itself remained challenged for investors, as the same PropThink author posted not one, but two bearish articles that repeated the same information. These articles overshadowed the developments that led the stock higher; but now at lower prices, the stock is presenting large upside into the last month of the year. As a result, I am looking at three key developments from Tuesday that led to a gain over 20% after earnings. Then, I am looking at the company from a bearish point-of-view to determine if the risk is worth the reward.
Earnings Beat
Galena Biopharma (GALE) closed on Monday at $1.40, but then traded to $1.70 on Tuesday after announcing Q3 earnings. The company beat Wall Street consensus with a loss of $0.10 per share, a $0.01 beat. The company showed that it is operating more efficiently than some expected, despite being in the middle of a large Phase III trial. Galena announced cash in the amount of $15.42 million, which provides the company nearly three quarters worth of continued operations based on the previous four quarters of operating loss. However, we must also keep in mind that operating losses are typically more expensive in the first part of a large clinical study.
Final Analysis
In the company’s press release, it made mention within the “recent business highlights” that final Phase II trial data will be presented at the 35th Annual CTRC-AACR San Antonio Breast Cancer Symposium (SABCS) held December 4-8. In previously reported data, patients were at different stages in the study, and some patients were not included in previous announcements of data. Thus, the “final” data remains very important and a major catalyst moving forward to give investors an idea of the product’s potential success in a larger trial.
With data being less than three weeks away, it makes sense that Galena would rally into the announcement, seeing as how all data has been positive to-date. Currently, there are no treatments for women with low-intermediate levels of HER2 that are in recovery from breast cancer. This indication is a large unmet medical need and could prove to be a highly profitable indication for the company upon regulatory approval.
With the company now progressing through a large 700 patient Phase III trial, the final analysis of the Phase II could be used as a gauge of the Phase III success. If the data is positive, then expect yet another year of great returns in 2013, followed with several upgrades and initiations of coverage. If not, then expect profit-taking and a stock that trades with far less momentum, and lower valuation.
Upgrades and Initiation of Coverage
On Tuesday Galena’s rally might have been mostly related to the reissued “Buy” rating from Maxim Group and a $5.00 price target. The company has been one of analysts’ favorite small cap biotechnology stocks over the last six months. Other recent coverage was an October 29th initiation by Maxim and McNicoll Lewis & Vlak with an initial “Buy” rating and a $6.00 target price target.
The majority of Galena’s “Buy” ratings and initiations of coverage have occurred in the last nine months, during its rally period. It’s important to remember that prior to 2012 this was only a $35 million company. Yet because of countless catalysts, which were highlighted in a recent article, the company has appreciated with large gains, and may continue to end the year.
As I said, upcoming data for Galena is crucial to end the year. The company has a current institutional ownership of 6%, and is quickly approaching a valuation in which the stock can be rebalanced into index funds and attract new ownership with a successful showing of final analysis. If data is strong in December, then look for even more upgrades and bullish price targets as the company further develops NeuVax and aims to add to its clinical team and obtain new patents in 2013.
Is Galena Worth the Risk?
After a back-and-forth week there are many investors left with more questions than answers. The two primary arguments on behalf of bears are that A) NeuVax doesn’t work and B) that the company will dilute shares with $100 million worth of financing. First, in my opinion, the argument regarding whether or not NeuVax works is irrelevant. To me, updates on enrollment for its 700 patient trial and updates on the Herceptin trial seem more relevant. I am yet to see one bearish reason to convince me that NeuVax does not work. All arguments are based on previous trials and testing in oncology, and is based on the notion that it doesn’t make sense to target low-intermediate levels of HER2.
Cancer is a disease in which we have no cure. We have treatments, but nothing we can consider a cure. Hence, success is measured in disease-free survival for a product such as NeuVax. The product does not have to achieve a 100% success rate in preventing recurrence of breast cancer. All it has to do is be better than standard of care, and it will be approved. So far, in a 187 patient trial of both node-positive and node-negative patients, 89.7% of NeuVax patients remained disease-free compared to 79.6% in the control group. The endpoint for the trial is 36 months, and at that point 0% of patients with low-intermediate levels of HER2 had seen a recurrence, which is why the company is testing its vaccine on this particular indication.
The argument of how or why the vaccine doesn’t work is beyond me: the vaccine has been tested and it was found that it works best on those expressing low-intermediate levels of HER2. This targeted group is the remaining patient population of those who don’t qualify for Herceptin, a $6 billion per year drug. This brings me to the next point, which is the issue of dilution.
It is a fact: Galena will raise money at some point in the future. With over $15 million in cash, it does not need cash at the moment, and conventional wisdom suggests that it would want to wait until after announcing final analysis for the Phase II trial before raising cash. However, IF NeuVax is effective, then it has multi-billion dollar potential. But for argument’s sake, let’s just assume it has max potential of $1 billion in annual sales.
With $1 billion in sales Galena should trade at 3-5x sales, or a minimum valuation of $3 billion IF NeuVax is successful, using conservative numbers. Let’s assume the company raises $100 million over the next five years, which is the argument of bears; in my view the money raised will be closer to $70 million over 44 months. Using a $100 million model, let’s also assume it dilutes shares by 50%, although if NeuVax is successful, then less dilution will be needed as the valuation will be higher. With a $3 billion valuation, or $1 billion in sales, the real question becomes if Phase III success is greater than the assumed risk or the effect on shares of GALE due to dilution.
With a $110 million market cap and billions in potential sales, the issue of dilution shouldn’t determine an investment decision. Because, IF the vaccine is effective, then GALE will still present industry-leading upside for many years to come — even IF the company dilutes shares by 50%. These are all conservative numbers for bulls and aggressive figures for the bears. When it’s all said and done, the questions that should determine an investment are whether or not the product will be successful in Phase III, if early results indicate success, and finally, if dilution is already priced into the stock.
Conclusion
The expectation of dilution is always enough to keep investors on the defensive, and that’s okay. Unfortunately, raising capital is a necessary part of the process for any development-phase biotechnology company. However, if the Phase II final analysis is successful, if the company continues to acquire intellectual property, and if it sees success in its upcoming study with Herceptin, then the stock will most likely reach the price targets set forth by analysts, and the dilution will be much less impactful on the price of the stock.
When deciding on an investment, it is imperative that you properly assess all sides of the trade. In regards to Galena, you have two sides: the bullish and the bearish side, very rarely is something in the middle.
Galena Biopharma is hoping to join an exclusive list of companies, such as Cougar Pharmaceuticals and Questcor Pharmaceuticals, Inc. (NASDAQ:QCOR) that turned relatively small investments into profitable drugs. In history, there are countless examples of small investments that have appreciated with large gains; it simply comes down to a company having a good eye for potential and then properly developing the drug and executing to perfection. However, the book is yet to be written, and investors must try to remain neutral as to whether or not Galena will succeed in reaching this feat until more evidence is presented.
In early trials, all data have been positive; and if the company is successful in a 700 patient trial, then it will be the lone treatment for a large indication. The good news for GALE longs is that this is a stock that doesn’t seem to have been appropriately valued with regard to its early trial results. This implies even more upside if the therapy is successful. So far, I have yet to identify significant risks with its valuation being so low. But outlooks can change quickly in this industry. Therefore, you need your own due diligence, and shouldn’t rely on anyone else’s.
Disclosure: Long GALE.
