PROLOR: An Upside Story

PROLOR Biotech is one of the hottest stocks on the Street with significant upside, limited downside, and a well-deserved "strong buy" rating from equity analysts. According to Raghuram Selvaraju, Ph.D., of Morgan Joseph:


"2012 should be a transformational year for PROLOR, in our view, with one Phase 3 project, two Phase 2 candidates, and one Phase 1 candidate all moving forward simultaneously".

PROLOR has solid liquidity with a current ratio of 9.5 and a net cash position of $17.6M, which represents 7.6% of market value. Add in innovative platform technologies, relatively short and safe clinical trials, a stellar pipeline, multi-billion dollar market potential, and backing from the industry's most successful investor - PROLOR is simply trading well below intrinsic value. I find that, based on industry standard numbers, the hGH-CTP and MOD-6030 blockbuster products alone indicate 420% upside for the emerging biotech company. Let's review:

hGH-CTP

This product will be the first FDA-approved long-acting version of human growth hormone and target a $3B market that is growing 7% annually. In the Phase II study, hGH-CTP demonstrated a strong pharmacokinetic profile and that it could be injected just weekly to return patients' average IGF-1 levels to normal range. This is stunning in light of the backdrop that all of the available products require daily injection. Pfizer (PFE), Eli Lilly & Co. (LLY), Roche (RHHBY), Merck Serono, and Novo Nordisk (NVO) are behind in this development and, in my view, will inevitably - and aggressively - seek a partnership with PROLOR. Thankfully, the company has solid IP protection as it has secured hGH-CTP with patents to everything from the product's composition to its manufacturing. 2012 is likely to be an inflection point for PROLOR as Phase III begins.

DCF Analysis: Considering the standard average for Phase III partnership deals is around 20% in royalties and assuming 35% penetration into the $3B market, PROLOR's take is $200M for the immediate 12 months forward. This will further compound 7% annually from market growth, to say nothing about other business deals. Discounting the stream of free cash flow backwards using the capital asset pricing model and accounting for risks yields a net present value of around $1B for hGH-CTP. This matches the valuation derived from assuming 5x sales - too low, if anything, considering the growth potential. Put differently, the hGH-CTP product warrants PROLOR being worth at least $18.50 per share.

MOD-6030

This diabetes type II drug is a long-acting version of oxyntomodulin and similarly would be heavily demanded in a buyout. According to the American Diabetes Association, 8.3% of individuals in the United States have diabetes. The World Health Organization estimates that 346M people worldwide are affected - more than 5% of the population. Having demonstrated superiority to oxyntomodulin in weight loss and reduction of food intake, MOD-6030 is yet another under-appreciated asset of the rising biotech firm.

Analysis: One can only assume that if a drug has better efficacy and safety than its analogues, it is only fair that it be worth more. Two improvements on oxyntomodulin have had deals that indicate the undervaluation of MOD-6030. In 2010, Roche acquired Marcadia Biotech for an implied value of $537M in order to gain rights to the lead compound: preclinical GLP-1/Glucagon dual receptor agonist. Then in 2011, Zealand Pharma reached an agreement with Boehringer Ingelheim over another preclinical version of oxyntomodulin. This deal was worth $57M in payments for the first 2 years and $480M more in milestones. Thus, improved oxyntomodulin variants are priced at a minimum of $200M for preclinical versions. Accordingly, PROLOR's MOD-6030 is worth at least $3.70 per share.

Still more…

Based on just MOD-6030 and hGH-CTP, the stock should be valued at $22.20 - significantly above the present market price. But investors should consider PROLOR's other strengths. Factor VIIa-CTP and Factor IX-CTP are two hemophilia treatments that target a market of $2B - one that is compounding 14% annually. Preclinical trials have already indicated superior length and clotting activity. As hemophilia is an orphan disease, these variants will offer premium pricing and smoothly transition to the market.

PROLOR also employs Carboxyl Terminal Peptide technology to develop biosimilars. Merck has licenses for 4 fertility-focused proteins while PROLOR has licenses for all other human therapeutics of natural or non-natural sequence. CTP technology is being leveraged in diverse applications and is heavily demanded by larger biopharmaceutical companies in need of pipeline innovation.

Investors should further be mindful about the limited risk that PROLOR offers. Whereas novel drugs are often a hit or a miss, biosimilars and biobetters face more certainty in terms of returns. PROLOR operates in the latter universe, which enables products to have minimal time to commercialization with clinical trials not being dependent on primary endpoints from outcome measures.

Finally, in light of the favorable risk/reward highlighted above, it is important to stress that a lack of news flow and behavioral anomalies are the main reasons for the company's undervaluation. It is only a matter of time - in my view and those of other analysts - before the fundamentals shift the stock price skyward to its rightful place. In closing, I would like to reiterate Morgan Joseph's comment in their November 29, 2011 "buy" call, which still holds true:

"We advise investors to take advantage of recent weakness to aggressively accumulate shares".
Disclosure