Description

BVF is a specialty pharmaceutical company domiciled in Canada - BVF is a US ADR - that is in the mold of companies like Cephalon, King Pharma, Shire, and Forest Labs. Specialty Pharma companies are like Big Pharma companies (e.g. Merck, Pfizer, etc.) without the R&D function. These companies purchase branded drugs at or near the end of their patents, reformulate them to modify the delivery mechanism, daily dosages, or indications and then sell them either through licensing deals or through direct sales forces.

BVF is trading for 15x 2003 earnings and 10x estimates for 2005 earnings. The company is a legitimate 20%+ grower and should trade at closer to 15-20x the 2005 estimates over the next 18 months for a $50 price target. The comparables all carry 20+ multiples of earnings and trade at 4-8x sales.

Most specialty pharma companies focus on niche products (e.g. Colorectal products, Urology products, O/B products) where they can fly under the radar of the large firm's and more importantly the sales forces of the large firms. In practice, this means that most specialty pharma companies don't progress past a royalty model (never develop a sales force and/or manufacturing capability) and play in small markets.

BVF plays in the three of the largest markets: CNS disorders, Cardiac drugs, and pain therapy. During the last 5 years BVF has built a sales force and high quality manufacturing operations. BVF has also aquired the rights to or entered into manufaturing agreements for several high profile drugs that create a very visible product pipeline over the next 3-4 years. The most exciting of these is a new, once-daily formulation of Wellbutrin, a popular anti-depressant that is being re-launched by Glaxo-Smith Klein (owner of existing Welburtrin franchise) with a large advertising and sales campaign.

BVF's competitive advantage lies in:
1) Size relative to other specialty pharma companies - only 4 or 5 can really take on a big drug like Welbutrin,
2) Leadership/focus on oral drug delivery technology - BVF matrices can be readily adapted to deliver molecules orally in a timed release mode (reduce number of daily doses increases efficacy and likelihood of doctor persciptions) or a flash delivery (pill dissolves on tongue without water),
3) Integrated delivery capabilities - building a sales force is a necessity to become a big player requiring a large investment of time and money. Manufacturing operations are important too though not as critical. BVF has both now.
4) High quality/High visibility pipeline - BVF has purchased the rights to and is in the process of receiving FDA approvals for new formulations of some highly successful drugs.

Pros:

Relatively low downside - these companies never trade much below 4x sales even at their worst. BVF is going to put up $1bn revenue next year for a valuation of $4bn or about $25/share with nice confirmation on the recent support level.

Good upside valuation and a long term growth story possible.

Cons:

Potential accounting issues - part of the reason the stock tanked was speculation by a BofA analyst that BVF was being "aggressive" in its accouting including the use of off balance sheet financing vehicles. I (of course as a long) discount this.

Management execution issues - Management has dissappointed the street several times this year by missing forecasts. Many lost confidence in the team. (I think it reflects it reflects management optimism about the future and inexperience handling the street).

Poor performance of existing drugs - Two of their existing drugs produced lower than expected results amid competition from generics. This is a real issue, but should be compensated for by strength of new pipeline.

Catalyst

Welbutrin product launch - ongoing
Clarification of sales/product forecasts - two weeks
Receeding fears of accounting issues - ongoing