Furiex Pharmaceuticals (FURX) breaks down like this:
1) It is a spin-off from PPDI with ideal spin-off dynamics. That means that it appeared in the portfolio of many mid-to large cap mutual funds and due to its micro cap size it was indiscriminately sold. Boo-ya! We have selling pressure driven by something other than the underlying economics of the business. Smells attractive already, eh? The stock debuted at $20 and promptly fell below $10.
2) Also typical of a spin-off, the new management team priced their incentive options based on the average price of the stock over a period of several days post-spin. We spoke to the management team and found out the strike price on their options is $9. That ought to be a little motivation to get the stock back to $20!
3) Not only is the management team incentivized, but we believe they are high quality. They are still led by Fred Eshelman who founded PPDI. He is very entrepreneurial minded, which I love! And he will have the best interest of the shareholders in mind. I am also attracted to the idea that he would take time away from his first love (PPDI) to devote to Furiex, a project that is basically about 1/10th the size. IMHO opinion, based on a conversation I had with Mr. Eshelman, I believe he sees real opportunity to fundamentally change the nature of the pharmaceutical trial business. If this is the case we could have a huge homerun. Under no circumstances would we ever base our investment case on this, but it’s always nice to know the possibility could be there.
4) The investment case is simple: Furiex owns royalty interests on two drugs in late stage development. They both look to have excellent prospects based on sell-side projections, partnerships with other industry giants like J&J and Takeda, and management optimism. But let’s be honest. I don’t know beans about big pharma or the likelihood that these drugs will actually succeed. What I do know is that if either come close it more than justifies the current stock price of $12.
5) And the best part, in my opinion, is the cash on the books at approx. $10 per share. That gives me the kind of downside protection I need to put FURX in the portfolio. I recognize they will be burning through much of their cash in an effort to bring new drugs to market over the next two years, but I really like that management has committed to us that should their efforts not succeed, they are willing to return this cash to shareholders.
PPDI spun-off FURX because it was burning cash. The spin made sense form PPDI’s perspective because the got to jettison a cost center. And not only that, but FURX has contracted for PPDI’s services so they have now effectively become a revenue center. FURX owns royalty rights to Priligy and Alogliptin:
Priligy: premature ejaculation drug (this one just doesn’t resonate with me. Do people really need this? J) marketed by a subsidiary of Johnson & Johnson. No approval in the U.S. yet, but OK in Europe. FURX has the right to receive $50 million in sales incentives provided the drug hits certain milestones. WOW! Sales incentives alone could amount to nearly half the current market cap of this company. The royalty stream should be somewhere in the low teens. Here again, it is tiered, so it’s tough to model, but we can use sell side estimates as one indication of the drug’s potential. Goldman for one saw sales of Priligy reaching over 200 million in the next 5 years which would indicate royalties to Furiex of $20+ million. Given our level of familiarity with the industry we have to severely haircut these numbers to provide a comfortable margin of safety, but you can see this could potentially be huge!
Alogliptin: diabetes drug approved in Japan and marketed by Takeda. Similar story: FURX is entitled to $30mm in sales incentives contingent upon certain milestones with royalty payments of ~10% depending on sales level. Here again, Goldman is modeling total sales in excess of $200mm over the next 5 years, for a potential royalty of $20+ million.
For further reading about the strategy of Furiex to revolutionize the outsourcing of Phase I and II clinical trials I would recommend their investor presentation (attached). In conjunction with other opportunities they have in their pipeline, this could spell significant upside. All-in-all we feel like we have a wonderful asymmetric risk reward opportunity.
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