Dendreon On the Ropes
DNDN

November 23, 2012

Back on April 29, 2010, Dendreon announced that Provenge had been approved by the FDA. That day DNDN opened at $40.09 and closed at $54.58. On March 6, 2009, it had opened at $2.77 per share. Today DNDN closed at $4.45. Was FDA approval really that meaningless?

Recent Q3 sales results for Provenge were down sequentially from Q2, which is not reassuring, although not as bad as some of the anti-Dendreon crowd had predicted.

Dendreon still has a couple of shots at getting off the ropes and becoming a valuable company, but a further drop in Provenge sales, or even stasis, could lead to bankruptcy. Investors have mostly erred on the side of safety, and abandoned hope. This means there is more upside than downside at today's price, but the downside risk is still considerable.

Provenge is an immunotherapy that is approved by the FDA for asymptomatic or minimally symptomatic metastatic castrate resistant (hormone refractory) prostate cancer. Like most cancer therapies it is not a cure, but has demonstrated statistically significant benefits in survival times for patients. Unlike many cancer therapies, it has relatively minimal side effects.

Dendreon's past management made a number of strategic mistakes, but that is only knowable in retrospect. When Provenge should have first been approved by the FDA (in my opinion), competing new drugs were a couple of years from potential approval. By the time Provenge was finally approved, competitors were on the verge of approval. Management's primary concern was building out the facilities needed to produce Provenge (treating patients white blood cells to recognize cancer antigens) as rapidly as possible, which was a capital intensive prospect.

It isn't that management thought Provenge would sell itself; they also had a sales force prepared to sell Provenge. However (and Provenge is by no means the only therapy this has happened to in the last few years) there were doubts raised in the medical community about the value of Provenge. More importantly, doctors are used to handing out pills or hooking up patients to IV's, and Provenge instead required taking white blood cells out of patients, shipping them to processing facilities, and then shipping them back to the doctors for re-infusion into patients. Provenge built three facilities in different areas of America so that the logistics would work out.

Provenge revenue was first reported for Q2 2010, $2.8 million for a partial quarter. Revenue then jumped in Q3 2010 to $20.1 million. After that there was a ramp that was slower than original guidance by Dendreon management, which finally peaked at $82.0 million in Q1 of 2012.

Q2 2012 revenue declined to $80.0 million, and Q3 revenue was $78.0 million. Management claims there is still considerable unmet demand for Provenge and revenue can be ramped to at least $100 million per quarter. To reduce costs employees have been laid off and one of the three manufacturing facilities has been closed. Management believe $100 million per quarter is cash flow break even.

Since debt ($554 million) exceed cash ($445 million), a few more quarters of revenue under $100 million could cause Dendreon to seek bankruptcy protection, wiping out shareholder value. The debt is in the form of convertible notes due in 2014 and 2016.

However, there are several positives going for Dendreon, which could increase revenue in both the short and the long run. Because it is an immunotherapy, there is an argument that Dendreon should be the first therapy tried once a patient arrives within its FDA label. Right now that does not yet appear to be the consensus within the set of physicians who are potential prescribers. Thus the future value of Dendreon stock currently highly dependent on the educational capabilities of the Provenge sales force and leading physicians who are advocates for the therapy.

There is potential expansion of the label, with clinical studies underway that could provide the factual basis for this. Even that is another double-edged sword. If studies fail to find statistically significant benefits for patients outside the current label, that might weaken physician interest for patients inside the label. If the studies are positive the expansion of the addressable patient base should easily take Dendreon past the $100 million per quarter line.

Finally, there is Europe. If you already own Dendreon stock, this is certainly worth waiting for. There should be an EMA decision around mid-2013. But it is not a sure bet. The EMA is not obliged to follow the FDA, although it typically does. The European health care system has shown more price-sensitivity than America, which could stall adoption or reduce margins. Finally, another capital-intense facility would need to be built. Maybe they can move the machines from the closed U.S. facility to Europe if approval is granted.

Dendreon is one of the most interesting stock stories in the past five years. It peaked at $55.43 on May 3, 2010, as brokers who worked with analysts had dismissed it a year earlier hyped it as the hot new stock. On March 6, 2009, it had opened at $2.77 per share. That was some ride. It was a great illustration of how auction pricing systems can get wildly out of touch with reality.

The way I look at it, there are three ways for Dendreon investors to win: if sales start ramping again in the U.S. within the current label; if the label is expanded in the U.S.; and if Provenge is approved in Europe. That is not bad odds, but the downside is potentially losing the entire investment. Market cap ended today at $687 million, which normally would assume profits can run something like $15 million per quarter in the foreseeable future. Since the future is not foreseeable, buying or selling DNDN at today's price comes down to how much risk investors are willing to take on.

Disclaimer: I am long Dendreon. I won't trade DNDN for 1 week following the publication of this article. I buy and sell Dendreon depending on my assessment of its statistically likely true value in comparison to its price.

See also my Dendreon Q3 2012 analyst call summary

William P. Meyers

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