My colleague, Reef Anderson (see bio on Seeking Alpha), Head of Research at the fund I manage, has put together this detailed research report for our investment team. Reef Anderson believes the recent news events for Novavax (NVAX) was extremely big, but he says "the bigger news is yet to come."
Novavax is extremely undervalued and the recent pull back from the $3.50 level represents an extraordinary entry opportunity. By the end of summer, Reef Anderson expects Novavax stock price will easily double. His 12 to 18 month price target is $11 to $14 per share, returning to its 2002 stock price levels. The details of his analysis will be presented later in this article, but first, he address the key drivers that make Novavax a compelling "buy and buy more" proposition.
Novel, Patented Technology and Recent Developments
Novavax, Inc. (Novavax) is a biopharmaceutical company focused on developing recombinant vaccines. Recombinant protein-based vaccines are widely used and accepted. Examples of vaccines currently available that use recombinant protein particle technology include Recombivax HB by Merck (MRK) and Engerix by GlaxoSmithKline (GSK), which protect against Hepatitis B, and Gardasil (Merk) and Cervarix (GlaxoSmithKline) which protect against human papillomavirus.
However, the key difference of NVAX is the production technology which uses insect cells rather than chicken eggs or mammalian cells. The technology platform is based on proprietary virus-like particles (VLPs). VLPs are not made from a live virus and have no genetic nucleic material in their inner core, which renders them incapable of replicating and causing disease. This platform offers several potential significant advantages over traditional vaccine production methods, including: (1) higher yields than traditional mammalian or egg-based system, (2) faster facility commissioning time, (3) significantly lower capital expenditures on infrastructure, (4) competitive cost of goods, (5) shorter lead time to produce vaccine than egg-based technology, and (6) a scalable production process that can respond rapidly to pandemic outbreaks, which is a key concern for the U.S. and other governments.
There are some notable facts and recent developments which attest to the viability, efficacy and superiority of Novavax's Technology and Pipeline:
1) BARDA Contract Award – In February, 2011, the U.S. Department of Health and Human Services (HHS) Biomedical Advanced Research and Development Authority (BARDA) awarded Novavax a contract valued at $97 million for the first 36 month base-period, with an option period of 24 months valued at $82 million, for a total contract value of up to $179 million. The HHS BARDA contract award provides significant funding for the continued ongoing clinical development and product scale-up of seasonal and pandemic influenza vaccine candidates. This is a cost-plus-fixed-fee reimbursement contract in which HHS BARDA will reimburse Novavax for direct contract costs incurred plus allowable indirect costs and a fee earned in the further development of seasonal and pandemic H5N1 influenza vaccines. This award eliminated a significant overhang for the company in that they achieved a significant source of funding and a tremendous increase to its top line revenue. The key to the award is that Novavax' technology meets HHS' goals for increasing the capacity to produce flu vaccine in a much shorter time frame, in particular, the ability to enhance pandemic vaccine manufacturing surge capacity. I do not believe Novavax will have any problems achieving the extension of the contract into the second period which will allow them to receive the additional $82 million. The following two examples highlight the company's ability to achieve shorter time frames and hence increase the probability of the second award:
- In 2009, using VLP technology, NVAX manufactured an H1N1 VLP vaccine candidate under cGMP at their vaccine manufacturing facility in Rockville, MD within eleven weeks after receiving the gene sequence from the CDC. The company's named above (Merk and GlaxoSmithKline) typically take over 6 months to ramp up production.
- Per the company's form 10-K filed March 28, 2011, "The agreement with Xcellerex expired by its own terms on February 15, 2010. Although the H1N1 manufacturing campaign with Xcellerex did not result in the manufacturing of acceptable vaccine to Novavax, we did achieve proof of concept by scaling-up to a commercial grade bioreactor. The success in scaling-up our VLPs in stir tank bioreactors using single-use disposables potentially provides an additional path to large-scale, commercially viable vaccine production. During 2010, we manufactured multiple large-scale VLP production runs using our 1,000 liter bioreactor in our Rockville, MD facility and have successfully demonstrated that we can produce VLPs at high-yields, a competitive cost per dose of manufactured vaccine at acceptable quality standards."
2) First Licensing Deal for VLP Vaccine Technology – On March 1, 2011, Novavax announced an exclusive license of its VLP vaccine technology to manufacture, develop and commercialize influenza vaccines in South Korea and certain emerging market countries. Novavax will provide technology transfer and manufacturing support and in return receive upfront and milestone payments from LGLS as well as double-digit royalty rate payments from commercial sales. Dr. Rahul Singhvi, CEO and President of Novavax, commented, "LGLS is an affiliate of LG, a global conglomerate. LGLS is a leading provider of vaccines to supranational health organizations such as UNICEF and the Pan American Health Organization. We welcome this opportunity to develop a recombinant influenza vaccine solution for South Korea and other countries served by LGLS. This new partnership with LGLS is further validation of our VLP technology and, as we have done previously with our joint venture in India with Cadila Pharmaceuticals, further expands our development efforts into new territories. LGLS will help us advance our technology in Korea and other countries, consistent with our commercial strategy of developing regional partnerships and in-country manufacturing solutions with leading pharmaceutical companies around the world."
3) The company has announced excellent pandemic and seasonal flu vaccine Phase II results.- The Center for Disease Control and Prevention (CDC) has indicated that currently approved seasonal influenza vaccines have shown to be as little as 30% effective in preventing hospitalization for pneumonia and influenza in older adults. However, per Dr. Rahul Singhvi, "Data from our Phase IIa trial in healthy adults showed that 50 to 73% of the volunteers immunized with our VLP vaccine had a 4-fold increase in the antibody that blocks NA activity." This is a marked improvement that increases the probability of FDA approval and subsequent market acceptance.
4) Competing technology remains egg-based. Below is a table of Novavax's competitors from the company's 10-k filed March 28, 2011
Company | Competing Technology Description | |
sanofi pasteur, Inc. | Inactivated sub-unit (egg-based) | |
MedImmune, LLC (a subsidiary of AstraZeneca PLC)(AZN) | Nasal, live attenuated (egg-based) | |
GlaxoSmithKline plc | Inactivated (egg-based) | |
Novartis, Inc. (NVS) | Inactivated sub-unit (cell and egg-based) | |
Merck & Co., Inc. (MRK) | Inactivated sub-unit (egg-based) |
Cash availability and cash burn
Seasoned biotech investors know that cash is essential to prevent dilution. As per NVAX's 10-k released March 28, 2011. "Based on our cash, cash equivalents and short-term investment balances as of December 31, 2010, anticipated revenue under the HHS BARDA contract awarded in February 2011, anticipated proceeds from the sales of our common stock under our At the Market Sales Agreement and our current business operations, we believe we will have adequate capital resources available to operate at planned levels for at least the next twelve months." There are only approximately 14 million shares left that the company can issue in the "At the Market Sales Agreement" and therefore, dilution is minimal. Note, in my valuation below, I assume a larger share increase through 2014 (approximately 27 million shares). There are a few key factors behind this assumption:
1) The HHS BARDA Contract offers Cost Plus payments, some of which include fixed costs. So the incremental costs of additional research have a minimal impact on margins.
2) The variable cost of vaccine manufacture is truly minimal at approximately 15%. This leaves fixed costs, most of which have been incurred in the ramp up of Novavax's facilities or will be incurred by licensing partners.
Valuation
Novavax has positioned itself to be a major player in several markets:
1) RSV- The company is on track with its respiratory syncytial virus vaccine which targets a $1 billion market opportunity.
2) Pandemic Viruses- Earlier this month, the company presented excellent immunogenicity data from Novavax' H1N1 vaccine clinical trial conducted in Mexico. Such pandemics represent multi-billion dollar opportunities as was demonstrated by Swine Flu and Avian Flu outbreaks
3) Influenza- Novavax is positioned to emerge as a major influenza vaccine player. Based on the expanding recommendation of vaccination to new age groups, the growing worldwide population to be vaccinated, and the need of an improved influenza vaccine for the elderly, global market projections of seasonal influenza are estimated to increase from $2.8 billion in 2007 to $6.5 billion by 2013. (click here)
Novavax has many potential applications of its technology and pipeline, and the first two applications given above are large. But to be conservative in the valuation estimate, let's consider only the Influenza application. It should be noted that I expect submission of the BLA for the Seasonal Flu Vaccine next year and Licensing of the Seasonal Flu VLP by 2013.
If we assume that Novavax licenses its Seasonal Flu VLP vaccine and that its partners capture 10% of the projected $6.5 billion market. Also, to be conservative, let's assume we completely ignore upfront licensing payments and assume a royalty of 18% payable to Novavax: $6.5 billion x 0.10 x 0.18 = $117 million annual royalties.
Now, if we also assume that the BARDA grant is extended for 2014 and 2015. Additional Annual revenues would be $41 million per year, for a total of $117 million from royalties + $41 million from BARDA = $158 million total.
Then, given that the licensing strategy will impose relatively low additional fixed and variable costs, let's assume that operating expenses increase to $42 million per year. Pre-tax income would be approximately $116 million and net income would be approximately $81 million.
As stated above under the cash burn section, let's assume the company will issue 26% more additional shares taking the shares outstanding from 105 million to 132 million. We derive an EPS of approximately $0.62 per share in 2014 ($81 million / 132 million shares). Discounting annually at 20% and assuming the stock will trade at 30x2014 EPS, fair value for the influenza application alone could be estimated to be $10.70 per share. Clearly, the stock is very undervalued and I expect to see the stock price triple by the end of this year and quadruple by the end of 2012.
Disclosure: I am long NVAX.
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