By Brian Nichols
With Apple Inc. (NASDAQ:AAPL) trading lower and Nokia (NYSE:NOK) trading higher, there are many who haven’t noticed the performance of the most controversial biotechnology stocks of all time. Very quietly, since November 1 2012, shares of Dendreon Corporation (NASDAQ:DNDN) have rallied by nearly 60%. In the first three days of 2013 the stock has traded higher by nearly 14%; and in this article I am looking at several reasons that Dendreon may continue to rise.
The Morris Plains Effect
With any company, lower costs and better efficiency equals a brighter future. But in regards to Dendreon these things are crucial to its survival. Therefore, when the company decided to close and sell its Morris Plains, New Jersey manufacturing facilities it was a sign that the company was moving in the right direction; and realized that it could not continue to operate with such high costs.
In my opinion, Dendreon’s decision to close the manufacturing facility was the best decision it has made since its FDA approval. The company should have never built such an elaborate facility, especially considering that it needed over $150 million in revenue per quarter to reach profitability. Following its closure, the company needs just $100 million per quarter to generate positive cash-flow. The $43 million raised from the sale is less meaningful than the 50% decline in COGS with the 40% cut in the company’s workforce; therefore the company should see positive cash-flow in 2013, which is a major improvement/catalyst moving forward.
Slow & Steady is Better
In the second quarter of 2012, Dendreon grew its top-line by more than 65%, and the stock closed with a loss of 23%. However, in its most recent quarter, the stock gained just as much, after growing its revenue by only 27% year-over-year. The strong gains followed the first quarter after the company closed the Morris Plains facility, which is a good indication of what investors want to see from this company.
Here’s the thing: Investors no longer care about 100% sales growth; because after many quarters of massive loss investors now realize that costs are most important. The days of this level of growth are over. The company has reported revenue of $442 million in the last 12 months and if it can maintain growth of 15-20% then I think investors will remain satisfied. Furthermore, if the company can reach revenue of $500 million in 2013 then it will not only generate positive operating cash flow, but possibly net income, which would be a major catalyst for this company.
Expectations Have Been Lowered
When Provenge was first approved, it had sales expectations of more than $1 billion from just about every analyst that covered the stock. And the company itself traded with a market cap of $6.5 billion, or 6.5x peak sales, before the company had ever sold one product. As a result, the company spent money on the manufacturing facility and really bought in to its own hype.
Today, Dendreon trades with a market cap of less than a billion dollars; and arguably has more upside than at any point since its approval. The company now has a clear path towards profitability yet continues to have low expectations. As an investor, that is often a beautiful combination for large returns.
Sometimes, a company’s weakness if also its greatest strength: When everyone is betting against a company, it can often change directions fairly quick. Dendreon, has over 30% of its float being short, with a short ratio of 12.40 as of December 14. For those of you who do not short stocks, anything over a 10.0 is often considered to have a high chance at being pushed lower. However, when shorts cover the stock can be pushed significantly higher, sometimes more than doubling. With Dendreon trading higher the last few months, and having a strong start to the year, I view its short interest as a good indication that the stock could continue to rise abruptly.
Over the last two years, I have been one of the more crucial writers on Dendreon. I’ve always said that its costs are too high, the logistics to Provenge are a nightmare, the expectations were too high, and the balance sheet poses too many threats. And although these problems still exist, to some degree, I do think that the positives are creating a compelling story for this stock.
Back on August 1, I wrote an article “Costly Mistakes Crush Dendreon But Upside May Lurk” in which I called for the stock to rise following the news of its restructuring plan. It turns out that I was correct, but I still think that further upside exists for this stock. The key moving forward is that the company continues to execute a “slow and steady” approach. It needs to continue to maximize its returns to physicians, add new accounts, cut its COGS, and strive towards profitability. If the company continues to move in this direction then I think there is a great amount of upside in shares of the oversold company, and that 2013 could be a great year for longs.
Brian Nichols is a blogger, author, and investor. Brian studied in the field of psychology and has researched extensively into behavioral finance, which include fear, emotional reaction, and all other emotions and or decisions that are clouded from an investor’s thought process as a result of money making (or losing) decisions. Brian uses his knowledge of psychology as a way to find value in the market and capitalize on the fear and irrational thinking that creates value in fundamentally strong companies. Brian is neither a long or short-term investor but invests with a system that includes selling once certain price targets are reached. The strategy can take weeks, months, and sometimes years but if the company is truly undervalued it will almost always return sizable gains. Brian explains this process in detail in his upcoming book “Taking Charge With Value Investing: How to Choose the Best Investments According to Price, Performance, & Valuation to Build a Winning Portfolio” which will be released in January 2013 by McGraw-Hill.