Dendreon: A Case Study in Pharma - The Science of Finance Column



By: Naveen S. Kumar
The Science of Finance Column takes a look at healthcare and analyzes it through the financial lens of a Wall Street Analyst.

Working in finance has made me appreciate the interconnectedness between what I hear on CNN and what I see when I flip open my Bloomberg terminal. Sure we’ve all heard about the “globalizing” world where everything is connected…but its one thing reading about it in Thomas Friedman’s “The World is Flat” and entirely different to experience it in real time. This may seem obvious: what happens out there in the real world really does – almost instantaneously – effect what happens to an individual stock, industry or sector. Health Care is no different, and this simple fact might be the reason why so many active managers have historically cautioned away from the sector that, by itself, accounts for over 17% of our GDP.
 
It’s hard to find a sector that’s both so evolutionary and revolutionary. When looking at company as a potential investment, you need to inspect a variety of factors. You might want to look at the company’s balance sheet, how much debt it has, or the quality of the management team. But what differentiates healthcare and what ultimately makes it so interesting is that for many of its companies – especially drug companies – their future rests on the success or failure of a single drug. So in order to be a smart investor in these companies, you have to understand the drugs. And to understand the drugs, you have to understand the biology and chemistry behind them.
 
Dendreon (NASDAQ: DNDN) is a perfect example of this. The Seattle based $1BN market cap biotech company focuses exclusively on developing cancer treatment options for patients. Its flagship product is PROVENGE – the only FDA-approved treatment for certain men with advanced stage prostate cancer. It’s the first drug of its kind to use the body’s own immune system to fight cancer, and has allowed patients to live up to 4 months longer. A patient prescribed Provenge must have a sample of their white blood cells extracted and sent to a product factory where they are incubated to create the vaccine. From there, the vaccine must be transferred to an incubation center to be infused into the patient. To the say the least, it’s a revolutionary drug that uses a very unique and novel process. Wall Street is intrigued.
 
Now back to the stock. Below is a Bloomberg screen shot of the stock price for the last 5 years – as you can see it’s not exactly the straightest line. I want to draw your attention to 3 inflection points in the chart. What could possibly lead such drastic movements? As I alluded to earlier, the movements of Dendreon are completely synced to the outlook of its flagship product: Provenge.

Dendreon


Jump 1: On April 14, 2009, Dendreon announced that the results for the Phase III trial for Provenge were positive, saying that there had been a reduction in the odds of death compared to a placebo. Clearly a positive Phase III result is great news for the prospects of the drug and the company’s stock price soared.

Jump 2: On April 29, 2010, the FDA approved Provenge for use in the treatment of advanced prostate cancer. Same story as Jump 1...great news for the drug and as a result the company as well.

Jump 3: This is where it gets interesting. Around August 2011 Dendreon came out saying that they had to withdraw their forecast of ~$400 million in full-year sales, and that they were unable to offer any revised projection in its place. The stock plummeted 60% and erased more than $2.5 billion of the company’s market valuation overnight. The company generated ~$50 million in sales in the quarter, plus another $19 million in July which was “substantially” lower than its own internal forecasts. As an investor this was definitely bad news, but as a smart investor it’s important to understand WHY this happened.

Why was Dendreon so difficult to sell? Because Dendreon was not able to quickly ramp up sales of Provenge because doctors were afraid they wouldn’t get reimbursed when they prescribed the drug. Even though Medicare said it would fully reimburse the costs, which totals about $93,000 per patient, AND created an expedited reimbursement process, many doctors in community treatment centers were unaware of the faster process. Ultimately, the problem with Provenge has been its unfamiliarity, something Wall Street prized it for. Although top academic centers have grown accustomed to the drug through clinical trials, smaller offices have had more difficulty. The drug requires the physician to adopt a new process and works far differently than any other drug on the market. To put it another way, there is a cost of revolutionizing: growing pains.

Investing in a company is not an exact science. At the end of the day, it’s a little like gambling: making a decision given imperfect information. Nobody can sit here and tell you that Provenge is going to be the next Viagra. Nobody can sit here and say it will be the next flop either. Dendreon illustrates that there are hundreds of behind the scenes factors that are integrated into and reflected by the stock price. Sure the price might fluctuate but it’s pointless, from the eyes of an investor, if you can’t understand these fluctuations.

Dendreon, like many other health care companies, is a tremendous example of the interconnectedness of the world. Just knowing fundamental financial analysis isn’t enough. To achieve exceptional skill in the investment game you have to understand EVERYTHING. You might not have to know that when someone takes Provenge, the blood product is sent to a factory and incubated with a fusion protein consisting of two parts: the antigen prostatic acid phosphatase (PAP) and an immune signaling factor granulocyte-macrophage colony stimulating factor…but hey, it could certainly help.


Naveen S. Kumar is currently an Analyst at JP Morgan Chase in New York, NY and a recent graduate of Northwestern University. He can be followed on twitter @the_real_naveen

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