Celgene: A Promising Biotech.by Christopher_NW // December 13, 2017
Recently I interviewed for an investment research position in Edinburgh. For this I had to put a stock pitch together, and so I decided to make a pitch for the North American biotech company Celgene. Below is the pitch I gave and it should be noted that since making the pitch the stock has steadily increased by around 5%.
I am making a recommendation to go long (‘’buy’’) on Celgene (CELG) which, as of close of business on Friday the 24th of November this year, had a share price of $104.50 USD. Celgene is a North American biotechnology/biopharma company that discovers, develops and commercializes medicines for inflammatory, immunopathological and cancer-related disorders. They carry this out via mergers and acquisitions activity, in-house R&D and collaborative arrangements with other companies such as AstraZeneca.
Recently in the second half of October this year, Celgene lost around 35% of its stock value that had, until then, been showing consistent and steady growth in the 5 years prior. The catalyst for this was the failure of GED-301 in a late stage study for Crohn’s disease treatment due to the level of positive effects not outweighing the negative side-effects. I think this presents an excellent opportunity to invest in a strong biotech (in the top ten globally with respect to market cap) that has suffered a significant stock decline following investor over-reaction. This over-reaction was based on a single prospective product failure, and one that looks still set to move into phase 2 trials for another indication (ulcerative colitis). Further, the company was growing before GED-301 was in development due to their other product lines including medicines that even when off-patent in the near future, will still have a controlled distribution system due to the need for specialty pharmacist services for their dispensing. In fact, hedging against the prospective failure of GED-301 is another drug in phase 2 development, Ozanimod, a drug for the treatment of ulcerative colitis and multiple sclerosis, that has a net present value of $8.2 billion and is one of 8 drugs in mid-to-late stage development with blockbuster potential.
In addition to the above positives going for Celgene, there are numerous catalysts for significant growth in the company in the next 1 – 5 years. This includes their sales of anti-multiple myeloma drug Revlimid with $8 billion in sales this year and by 2022 it is expected to be the number one cancer drug globally with projected sales up to $14 billion. Additionally, another prospective blockbuster drug is already on the market, Otezla and Pomalyst, which are prescribed for psoriasis and psoriatic arthritis. Sales of these drugs are currently growing faster than Revlimid which has been the result of extensive overseas marketing and an overall increase in doctors now prescribing the drugs compared to competitors. Further growth in sales is expected as Celgene is currently pursuing markets in Japan, Europe and emerging Eastern European, Asian and Latin American countries. This would help hedge against a future developmental product flop similar to GED-301 (though of course should be monitored). A final note on Otezla and Pomalyst; they are currently in trials as various combination mixes for other inflammatory indications (this could also help extend the patent life). For these reasons, Celgene is expected to generate annual earnings growth of around 20% over the next 5 years.
This is a good bet against the major risks that Celgene faces. This includes further prospective blockbuster drugs flopping during trial development, generic rivals entering the market, and/or a new high-performing drug against multiple myeloma entering the market. Celgene has around 17 products in late-stage clinical trial development. If too many of these flop, particularly those estimated to be blockbusters or near-blockbusters, then the stock price would continue to take a hit that may be difficult to recover from. Any clinical trial setbacks for Ozinamod was, in December 2016, thought to be potentially devastating due to the lofty sales targets for its multiple indication use; however, this month it has been reported that its use in a large phase 3 multiple sclerosis clinical trial to be successful and is entering the FDA approval process. Regarding Ozinamod’s use for ulcerative colitis, it has also just completed a successful phase 2 trial and is in the midst of the phase 3 study. With respect to Crohn’s disease, Ozinamod is commencing its phase 3 trial early next year. Collectively, this shows a great deal of promise for hitting success for all 3 indications so as to eventually meet the lofty entrance sales of around $6 billion.
Generic’s as mentioned are a risk, especially with Allergen challenging some of Celgene’s patents for their anti-cancer drug Abraxane. However, following an EPO ruling against Celgene, an appeal is under way which is expected to take several years. Additionally, Celgene owns numerous patents for Abraxane indications which will help slowdown any challenges from rivals. Further, given the extensive range of anti-cancer drugs both in pipeline and sales by Celgene, there is a clear strategy against generic competition, so this concern, whilst it calls for monitoring, is relatively minimal.
Addressing the final major risk facing Celgene, that of a new competitor drug entering the market, we have seen J&J receive regulatory approval of their multiple myeloma drug Darzalex. However, this is a drug typically used if Revlimid and/or Pomalyst are not giving the expected levels of success in a patient (and normally they have a decent response rate). Therefore in essence, Darzalex is not a true direct competitor. In fact, Celgene was quite pleased when last October (2016), the FDA approved Darzalex as a first line treatment since the approval was on the condition that it was given in combination with Revlimid.
The reality is that many of the above risks are either already well-hedged against or are several years away. This is why I make a strong buy recommendation for Celgene stock, with monitoring of the aforementioned risk factors and perhaps put/call options factored in. Now some analysts have suggested abandoning Celgene since 60% of the company’s revenue comes from a single product, Revlimid. I think this is a massive misstep given the fact that sales continue to grow, the patents remain protected and its distribution relatively protected. Further, the company has a diverse enough product range without spreading themselves too thin on any one area (they have both products in the market and in various stages of development, plus do not have an over-reliance on M&A activity or in-house development alone).
Over the last 5 years, Celgene has outperformed every other large biotech and grew its earning by 25% over that period, with numerous Wall Street analysts believing the next 5 year period to be relatively similar. Its current debt/equity ratio is 1.69, which is significantly lower than the average biotech, and whilst higher than the past 3 years, is the result of acquisition activity to help them enter the oral oncology market and so should be seen as a positive. Plus, their strong operating margin of 28.2% and increasing sales performance suggest overall strength and that there should be no problems in the company meeting any of its debt obligations going forwards. Finally, with a low cost of capital at 8.87% compared to their return on invested capital of 32.24%, Celgene clearly generates higher returns on investment than it costs the company to raise the capital needed for that investment.