Wednesday, 24 August 2016

Prepare For A Buyout On Portola Pharmaceuticals

Incompetent management can kill a stock. However, incompetent management whose actions result in a battered stock price on a company with a valuable asset represents a tremendous buying opportunity. No matter how incompetent a management team is, it cannot destroy the value of that asset to shareholders unless it is lost to poor balance sheet management that results in creditors taking over that asset.

This description fits Portola Pharmaceuticals, Inc. (PTLA) quite well which is why we are recommending this as a strong buy to readers even though at a market cap of over $1 billion it is far larger than companies we have recently been covering that are less than $100 million in market cap. Why? Because we believe that this company is destined to be bought out if it remains at such a low price. So shareholders will either benefit from a hostile takeover event, or they will benefit from execution of PTLA's business as it seeks to get its drug andexanet alfa to market. While it may be an overreach to describe PTLA's management as "incompetent", nevertheless, some investors strongly feel that this is the case and this is impacting the stock price.

PTLA dropped under $20 last week for two reasons:

1. The FDA issued a complete response letter to the company for andexanet alfa. Some investors thought management's conference call giving details on the CRL was weak.
2. The company's stock price fell suddenly in late day trading on August 17th prior to the announcement. Almost certainly there was a news leak and some investors blame the company for it.

First, to deal with issue #2, it is ridiculous to conclude that the company was responsible for a leak. It is within the realm of possibility, however, it makes much more sense that the leak would have come from the FDA, either intentionally or unintentionally. This is not the first time that a biotech stock has moved up/down based on a favorable/unfavorable outcome for its drug a few days beforehand. Look how blatant it is on a stock like Sarepta Therapeutics, Inc. (SRPT). SRPT dropped under $15 in January and as low as $8 in April on negative recommendations from the FDA panel. Then market commentators tried to interpret Janet Woodcock's smiles and affection towards DMD boys as a sign that eteplirsen will be approved and the stock has been on a steady rise to nearly $30 since. Leaks/interpretations of emotions/good guesses happen all the time for people who sniff around close to FDA headquarters.

Does it not make more sense for a hedge fund to have a friend in the FDA leaking information to them, or have a team of researchers who are very adept at getting FDA information early so that they can benefit from trading many biotech stocks rather than having a mole inside PTLA so they can benefit from trading only ONE stock? If PTLA management leaked the information to investors, they could face severe penalties from the SEC. So is it really worth the risk to them to help out outside investors save a couple of bucks on news that was bad but not devastating? Think about this whenever you hear someone blame management for this leak.

The first issue is described in a company press release:

"In the CRL for AndexXa, the FDA requested that Portola provide additional information primarily related to manufacturing. The agency also asked for additional data to support inclusion of edoxaban and enoxaparin in the label, and indicated it needs to finalize its review of the clinical amendments to Portola’s post-marketing commitments that recently were submitted."

For those worried that PTLA is unable to meet the standards of FDA for its manufacturing facilities, understand that the company outsources its production of andexanet alfa to CMC Biologics and the agreement can easily be found on the company's Q2 filing:

CMC Biologics claims the following on a marketing document found on its website:

"CMC Biologics successfully manufactured more than 120 biologics for pre-clinical studies through commercial supply. Both the Seattle and Copenhagen facilities have been inspected by the
U.S. FDA and approved for the commercial manufacture of our clients’ FDA-approved products"

Furthermore, reading the screenshot above, we see that PTLA has committed to purchasing $276.1 million worth of clinical and commercial batches from CMC through 2021. PTLA has the ability to terminate the deal with CMC if CMC is unable to meet certain obligations or volume thresholds. With CMC having successfully manufactured over 120 biologics that have passed FDA inspection, do you think that they will be at risk of losing out on $276.1 million in revenue? Whatever issues the FDA raised with manufacturing processes and volume will get solved by CMC and PTLA. Both companies have incredible incentive to make sure this deal gets done. Keep that $276.1 million commitment in mind as well. What's PTLA's gross margin? 90%? That means the company expects a minimum revenue of $2.76 billion through 2021, and that will only grow with time as we can be sure that the company only signed an obligation that it was 100% sure it could fulfill - a low end range number.

What makes PTLA a buyout target?

Now that we have settled the issues that have spooked investors,we can focus on this opportunity and what makes PTLA an obvious buyout target. We have all heard pumpers say that x biotech company is a buyout target for y reason, and y can often be pretty far-fetched. But the key to PTLA's desirability is the fact that andexanet alfa works to improve other drugs and those drugs are owned by "big pharma".

This well written Seeking Alpha article explains andexanet alfa in simple terms about as well as you can find, so we will quote that and encourage readers to read the whole thing so the author can get properly compensated by the site for his good work:

"Andexanet alpha reverses the effects of two latest-generation blood thinner drugs: apixaban and rivaroxaban. These drugs are currently being sold by Big Pharmas that cannot sell as much as they could have due to the unavailability of a reversal agent. The safety and efficacy profile of the drug, going by its P3 data of healthy volunteers and by management's hinting of the good P3b/P4 data in bleeders (interim data August 30), is unequivocal.

Why is a reversal agent so important?

So, for example, let's say you take a blood thinner like Eliquis (apixaban), and you're in a car accident. If you start bleeding, it becomes very difficult to control your bleeding because there is no reversal agent, especially if you are older or more frail. That is what andexanet alfa is critically needed for.

Analysts and SA commentators have previously stated that drug companies such as Bristol-Myers Squibb (BMY) and Pfizer (PFE) have in combination billions in revenues to gain due to the existence of this blood thinner. Pfizer, Bristol-Myers Squibb, Bayer, Daiichi Sankyo Company, and Janssen [Johnson & Johnson (JNJ)] all have collaboration agreements with Portola and need this antidote to increase their Factor Xa inhibitor revenues. With the FDA granting Fast Track, Breakthrough Therapy, and Accelerated Approval for andexanet alfa, as well as near-perfect antidote results and the support of the biggest pharmas in the world, this company essentially cannot fail and thus has great intrinsic value."

Big pharma names like PFE, BMY and JNJ generally get what they want, and they definitely want andexanet alfa in the market. Whether that is in the hands of PTLA or through their own ownership, it will happen. The biggest obstacle in our view to a buyout is that PFE and BMY both hold Eliquis in a joint venture. If just one company held this drug the incentive to buy out PTLA would be massive. Although there might be some moral obligations to allowing collaboration agreements to continue to ensure all blood thinners have a working reversal agent.

Still, the incentive for a company to buy out PTLA just to ensure it has control over the manufacturing process and necessry volume for its blood thinner is great, especially at these cheap prices.

Let's review the details of the collaboration and license agreement between PTLA and BMY and PFE in Japan, again, found on the company's Q2 filing:

"In February 2016, we entered into a collaboration and license agreement with BMS and Pfizer whereby BMS and Pfizer obtained exclusive rights to develop and commercialize andexanet alfa in Japan. BMS and Pfizer are responsible for all development, regulatory and commercial activities in Japan and we will reimburse BMS and Pfizer for expenses they incur for research and development activities specific to Factor Xa inhibitors other than apixaban. Pursuant to this agreement, we are obligated to provide certain research and development activities outside of Japan, provide clinical drug supply and related manufacturing services and to participate on various committees in exchange for a non-refundable upfront fee of $15.0 million. We are also eligible to receive, contingent payments totaling up to $20.0 million which may be earned upon achievement of certain regulatory events and up to $70.0 million which may be earned upon achievement of specified annual net sales volumes in Japan. We are also entitled to receive royalties ranging from 5%-15% on net sales of andexanet alfa in Japan."

In total, PTLA is to receive $105 million in payments and a 5% to 15% royalty assuming regulatory and sales targets are achieved in one country with a total population of 130 million. The present value of this deal would exceed $100 million. A deal of this size in the EU would be four times bigger and in the United States two to three times bigger. The aggregate present value of a licensing deal on andexanet alfa would likely exceed $800 million for these three regions. That does not include Canada, Australia, the BRIC countries or any other nation that has approved Eliquis or may approve it in the future. Nor does it include agreements for Bayer's rivaroxaban or for PTLA's betrixaban. Incidentally, imagine if PTLA was to announce a licensing agreement in Europe for $400 million. News of that would spike the stock several dollars back to where it was before the CRL issue. Even if a buyout seems far-fetched to some readers, a licensing agreement in the EU or U.S. when one already exists in Japan would seem like a pretty reasonable expectation in lieu of an equity financing should the company need one in late 2017 or early 2018.  

PTLA's working capital is $330 million, including $353 million in cash and equivalents. Therefore its $1.15 billion in market cap leads to an enterprise value of $820 million, around the present value BMY and PFE would pay to secure licensing agreements similar to the one in Japan for the U.S. and EU. A $30 buyout would come at a $1.7 billion market cap and $1.4 billion enterprise value. We believe this is well within the range of interest for either BMY or PFE and think that investors should watch carefully for an offer to come sooner rather than later. 

Summarizing why big pharma would want to buy out PTLA:

1. To secure a reversal agent for their blood thinner.
2. To ensure the reversal agent gets on the market ASAP, given some possible reservations over PTLA's management team to get it done diligently. 
3. To avoid paying licensing fees and royalties in Japan and wherever else licensing agreements may develop.
4. The value proposition on PTLA is there. 

We recommend PTLA as a buy, or at least one to put on your watch list to see if it does get bought out over the next several months. 


  1. Other anticoagulants are reversed by discontinuation and Vitamin K shots so why is this drug needed?

    1. Vitamin K only reverses Coumadin (warfarin), the old blood thinner that the new big money ones are trying to replace. Coumadin's primary advantage from a safety standpoint, as outlined above, is the ability to be reversed in event of traumatic injury/massive bleed event, overdose, etc. For large segments of both the prescribing and patient populations, the absence of a reversal option for these newer thinners is the only reason they end up staying with Coumadin.