Interesting Value Proposition Despite Setback - PART I

By Shas Dey - December 11, 2012 | Tickers: CELG, CLVS, PFE | 0 Comments

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NOTE: This is an exhaustive study of Clovis Oncology , and as such, I have broken it up into 3 parts. Part 1 will deal with pros and cons of investing in the company, part 2 will outline the product pipeline and the company's cash position, and the last part will do a valuation of the company using the P/E multiple valuation method. If you want a thorough grounding in this company, I suggest you read each part.

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Despite a recent setback in the failure of its CO-101 drug trial, Clovis Oncology has a strong product pipeline and a good amount of cash to fund its operating plan through at least the next 12 months. In my opinion, this setback actually presents a buying opportunity for investors willing to bet on the product pipeline of an apparently undervalued company.

On Nov. 12, the company announced negative results from its pivotal "LEAP" phase III trial for its lead clinical stage asset "CO-101". Thereafter, Clovis decided to suspend all development work on the drug CO-101, leaving it with the following two products in the pipeline:

1. CO-1686 is, an EGFR mutant inhibitor in NSCLC. Proof-of-concept data in non-small cell lung cancer with the T790M+ mutation is expected by June 2013. If this trial is positive, then Clovis could initiate a registrational trial in 2014.
2. Rucaparib is a PARP inhibitor. Clovis plans to expand an ongoing PI/II trial in breast and ovarian cancer (with germline BRCA mutations) and initiate a registrational trial in platinum sensitive ovarian cancer with deficiencies in BRCA and other DNA repair genes in 2013. Phase III dose will also be decided by mid 2013.

The company's third product candidate, currently in the discovery phase, is a novel cKIT inhibitor targeting resistance mutations for the treatment of gastrointestinal stromal tumors (GIST).

I believe that most of the value in Clovis was in CO-101. Following the suspension of development work on CO-101, CLVS shares tumbled by 42% falling from $21.49 to $12.50. On Nov. 30 (close price $15.38), the stock was trading at a 28.3% discount of its 200 day moving average of $19.70 and a 23.7% discount of its 50 day moving average of $19.00. On Dec. 3, the stock opened at $15.48 (Please refer to the chart below)

Source: Nasdaq Website

However, there is still clearly some investor interest and value within CLVS' two early pipeline assets (price catalysts) that are likely to read out over next 12 months i.e. (1). CO-1686 and (2). Rucaparib.

We think that the recent pullback in CLVS stock provides a good buying opportunity. Assuming a 50% probability of success of PI/II trial in NSCLC, the stock has potential to move up significantly in the next 12 months. A 50% probability is a base model statistic; its assumption rationale is simply the Yes/No categorization of the event and has nothing to do with any analysis of scientific viability of the drug, which is beyond the scope of statistical analysis at this point in time.

Apart from the major price catalysts, the company fundamentals are also strong that would support the demand for CLVS shares.

1. Clovis ended 3Q12 with a cash balance of $162.5 million and expects to end FY12 with $140 million in cash. I believe the company has adequate cash to fund CO-1686 and Rucaparib development programs through at least the next 12 months.
2. The company has very good management in place. The present CEO Mr. Patrick J. Mahaffy, one of the co-founders of the company, founded Pharmion Corporation in 2000 and sold it to Celgene Corporation (NASDAQ: CELG) in 2008.
3. The company's association with reputed firms like Celgene (acquired Avila Therapeutics Inc. in March 2012) and Pfizer (NYSE: PFE) for development of its product pipeline and their interest in Clovis for receiving development, regulatory and sales milestones and royalties in net sales of the products. I think the company has partnered with experienced diagnostic companies that have the ability and commitment to gain the required regulatory approvals and support global commercialization for these companion diagnostics.

However, CLVS stock is a risky bet. The reasons are listed below:

1. High volatility of the stock and the company being in development stage with no source of revenue so far.
2. The company's complete reliance on equity and debt funding to manage its operations. Through Sep. 30, the operations have been funded using the $75.5 million of net proceeds from the sale of convertible preferred stock, the issuance of $35 million aggregate principal amount of convertible promissory notes, and $199.3 million of net proceeds from public offerings of its common stock completed in November 2011 and April 2012.
3. As of Sep. 30, Clovis had an accumulated deficit of $163.4 million and had a cash balance of $162.5 million that should be sufficient to fund the company's operations at least for the next 12 months. However, if the upcoming trial results turn out to be unsatisfactory, the company's share might fall below $10. Moreover, the company would find it very difficult to raise debt and equity from the market. If at all the company is unable to obtain additional financing, it may be required to reduce the scope of, delay, or eliminate some or all of its planned development and commercialization activities, which could harm the business.
4. For CO-1686, the company faces competition from established, experienced and financially strong players like Pfizer, Boehringer Ingelheim, Abbott, Tesaro Inc., Eisai, Teva and Biomarin. For CO-1686, major threat is from Boehringer Ingelheim's BIBW-2992 (afatinib) which is already in phase III trial. And for CO-338/Rucaparib, major threat is from Abott's ABT-888, which is in phase II trial. If the competitors develop the drug and receive regulatory approvals faster than Clovis, then CLVS stock might lose its value significantly.

I think this analysis would be incomplete without providing further details of the pipeline products of Clovis Oncology. I have done this in the second installment of this article, while the third part focuses on company valuation.

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