AEterna Zentaris Inc. (AEZS)

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AEterna Zentaris: The Bear Case In Front Of The November 5th PDUFA

Oct. 29, 2014 9:24 AM ET | 3 comments | About: AEterna Zentaris, Inc. (AEZS)

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)
Summary

There has been significant analysis of the bull case for AEterna Zentaris (AEZS), but there has not been significant work on the financial issues supporting the bear position.
The company's significant cash burn and many past dilutions illustrate the risks of a long position.
A decent chance of approval is likely already priced in and investors will want to see evidence of commercial execution before substantially bidding the stock up.
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For a stock down over 97% since it started trading in 2000, there has been significant investor support for this stock recently, highlighted by Trevor Lowenthal's piece emphasizing AEterna Zentaris' (NASDAQ:AEZS) value proposition and Samreen Agha's writeup suggesting that AEZS presents an attractive risk/reward opportunity. The sell-side has even gotten in the action recommending a buy of AEZS with H.C. Wainwright analyst Swayampakula Ramakanth placing a $3 price target on the stock on July 17th (and maintaining the buy rating on October 27th), suggesting 156% upside. Per TipRanks, the analyst has had an 11.1% success rate with calls, with an average return of -25.9%. Maxim Group analyst Jason Kolbert sees even more upside, placing a $5 price target on the stock and suggesting an incredible 327% upside. The PDUFA data of November 5th for the company's lead drug (Macimorelin Acetate) for patients with Adult Growth Hormone Deficiency (OTC:AGHD) is fast approaching. While previous pieces have touched on the merits of assets in the AEZS pipeline, I will look to present the financing concerns associated with this stock, touching on the company's past history, increasing costs, and my views of the risk/reward pending the November PDUFA. Due to the risks, I would not recommend owning shares in the current situation and place a sell rating on the stock.

Past History

AEZS has certainly not been a company one would claim has minimized raising cash or diluting shareholders, especially recently. The company even acknowledges this in the most recent 6-K filing on August 7th stating:

In the past, we have had access to liquidity through non-dilutive sources, including investment tax credits and grants, interest income, licensing and related services and royalties. Over the past several years, we have increasingly raised capital via public equity offerings and drawdowns under various ATM sales programs.

If this doesn't illustrate that management is not exactly the most careful group in terms of making a concerted effort to minimize spending, take a look at the laundry list of most recent cash raises in just the past two calendar years:

May 9, 2014 = Aeterna Zentaris Announces At the Market Issuance Program (This program announced that up to 14,018,692 shares were available for possible sale through the ATM, with already 1,373,142 sold on the market as of the last update in the August 7th 6-K. It would certainly be reasonable to question why management would be interested in using a feature like this at this time given other recent cash raises and the belief that the company will experience a ramp-up in revenue from various product launches. It would also seem that they raised at a very low price when the cash need was not immediate if one believes the high analyst target prices.)

January 9, 2014 = Aeterna Zentaris Announces Pricing of US$13.2 Million Public Offering of Common Shares and Warrants

November 20, 2013 = Aeterna Zentaris Announces Pricing of US$15.1 Million Public Offering of Common Shares and Warrants

July 25, 2013 = Aeterna Zentaris to Raise US$7.8 Million in Registered Direct Offering

May 21, 2013 = Aeterna Zentaris Announces "At-the-Market" Issuance Program. (Under this program, 1,700,000 shares were sold at-the-market in 2013. An additional 201,960 shares were sold in accordance with this ATM in 2014. This ATM was discontinued with the addition of the new, larger ATM in May 2014.)

The company impressively has initiated five separate raises in calendar years 2013 and 2014. While the company had a weighted average of 24,181,462 shares on a basis at the end of 2012, this number has ballooned to an incredible 56,531,969, illustrating that the number of shares has increased by over 130% since the end of 2012. Also, there are a significant amount of shares remaining on the May 2014 ATM (just over 12.5 million shares per my calculations) and management has shown a willingness to use the ATMs quite liberally.

Increasing Costs and No Significant 2014 Revenues

Costs are increasing in multiple areas for the company in the second half of 2014. Research and development costs will rise as the company continues to progress with its zoptarelin doxorubicin phase 3 trail for treatment of endometrial cancer. Also, the company is taking a $1.8 million charge in relationship to restructuring and the termination of 30 employees. While this will be a small benefit for long-term costs, the restructuring will not be completed until 2015 and savings will only be $2.2 million annualized. It will take some time before this move actually saves the company a respectable amount of money, and the $1.8 million charge will further reduce the company's cash balance in the short-term. Due to these factors, the company raised R&D cost estimates (the restructuring is included in R&D) to $25 to $27 million for 2014. SG&A will also increase in the second half of 2014 due to pre-commercial efforts in regards to Macrilen and with expenses in relationship to the Co-promotion agreement with Ascend Therapeutics for EstroGel, which is used for estrogen replacement therapy. Cash burn is currently expected to be in a range of $35-$37 million for 2014.

In regards to revenue, management does not expect to record any significant revenues for the remainder of the year. While the bull thesis highlighted revenue from the deal with Ascend as a source of cash and catalyst for 2014, I want to make clear that management has noted in filings that they do not expect to any significant revenues in 2014 from this agreement. Also noted was that the company will need to exceed specific minimum thresholds before they are even entitled to receive commission from this. Given a cash balance of $39.6 million at the end of Q2 and operation expenses of $16.6 million for the first six months at the end of Q2, I would project cash to be at approximately $20 million when Q4 ends in two months given management commentary.

Positives

There are certainly a few positives to note on the bull side. David Dodd, the Chairman and CEO of AEZS, has an impressive background, including being part of the all-cash sale of Serologicals Corporation that provided shareholders that held the stock for six years through the buyout with over a 1700% return. Furthermore, the company has over 120,000 compounds in its library, giving it plenty of options to pursue future clinical research.

Current Risk/Reward

While I don't possess any knowledge definitively telling me which way the PDUFA will go, I think that the miniscule institutional ownership of less than 2% (only one holder holding more than $75,000 in the stock) as of the Q2 holdings update illustrates the confidence that the institutional community has in AEZS successfully receiving approval and bringing the product to market. The company even notes in its recent quarterly filing that its lack of experience filing NDAs could lead to delay of or rejection of filed NDAs. The company also correctly notes that commercialization by no means guarantees market success, which will be dependent on many factors including numerous that the company does not control. Given the small size of the company, bringing a product to market and achieving substantial revenue is certainly a significantly more difficult task without a big-pharma partner. Many would also claim that, if the Macrilen had a decent chance of becoming a substantial revenue-driver, a larger biotech or pharma company would have already bought AEZS.

Given that the entire market is aware of the PDUFA date and given the positive commentary surrounding the stock, I think a decent chance of approval is already priced in to the stock, providing a scenario where an initial pop from approval would be shorted by traders and institutions. After all, NDAs recently have received approval 77% of the time on first review. If the company does receive positive news out of the PDUFA, I also think that AEZS's large cash burn and high projected expenses in the future due to its other product candidates as well as commercialization expenses will make it likely that the company will again dilute shareholders either with the current ATM or a new offering, which would put a cap on any possible upside. Even if the company receives negative news due to a delay or even a rejection, the company will still soon need to raise cash as its dwindling cash reserves will only fund operations through Q2 2015.

Conclusion

I am initiating AEterna Zentaris with a sell rating in front of the company's November PDUFA due to increasing costs and a likely dilution within the next six month. I believe that, even with an approval, the market is already pricing in a good chance of approval and will want to see AEZS executing commercialization before rewarding the company with a significant stock price pop that is sustained. I also think that any pop due to a positive response from the FDA will soon be followed by a cash raise, significantly reducing any upside this potential catalyst would provide.

Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.
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http://seekingalpha.com/article/2609795-aeterna-zentaris-the-bear-case-in-front-of-the-november-5th-pdufa?uprof=46

(I do not have shares of AEZS)

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