11/16/2007 2:28:00 PM SNTKY ($0.32) <Senetek > by canuck272 Rating 5 (7 users)
Description:
At $0.33,
SNTKY is currently trading at its net cash value and is on the
verge of bringing to market a stream of products that have the potential to drive
the value of the company to a multiple of the current price. The company
is a player in the cosmeceutical skincare/anti-aging market, and has already had
one successful product, which it recently monetized. It has signed a very
favorable marketing agreement with a reputable partner to launch the next product
early in 2008. Behind that, it has several other products in various
stages of development.
The company’s annual cash burn rate is around
$2mm; however, that does not take into account $6.5mm of guaranteed net cash
payments the company will receive next year from a recent marketing partnership.
Thus, Senetek trades at a 20% discount to its projected net cash position at the
end of 2008. We believe Senetek’s current trading price is a result of its tiny
market cap, lack of coverage, and an unsophisticated investor base that is either not
focused on or does not appreciate the recent developments and
prospects.
About the Company
Senetek is primarily a cosmeceutical product development
company in the skincare/anti-aging category. Cosmeceuticals are
cosmetic products that are sold at retail or by physicians and that make certain claims
about effectiveness without rising to the level of requiring FDA approval.
The company was started in 1983, and existed for many years as a penny stock
(listed in the
UK, with ADR’s) without meaningful revenues. In 1999,
the company licensed a product called Kinetin to Valeant Pharmaceuticals (VRX), and
Kinetic became a key ingredient in a Valeant cosmeceutical product called
Kinerase. Over time, Kinerase became one of the most successful cosmeceutical
products in the market, registering sales of $30 million in 2006, from which Senetek
earned a royalty of $6 million. Earlier this year, Senetek monetized its
right to future royalties in exchange for a lump-sum payment of $21 million from
Valeant.
Over time, Senetek has assembled a portfolio
of products and intellectual property, partly through its R&D partnerships with the
Polish
Academy of Science and
the Institute of
Advanced Botany
in the Czech
Republic (I admit
these sound like organizations out of a Mel Brooks movie). The company
has signed a very favorable marketing agreement with a reputable partner, Triax
Pharmaceuticals, for the first product, due to launch in early 2008, and expects to
launch at least one product annually after that.
Investors should be aware that the company is planning on
a 8 for 1 reverse stock split in December.About the
industry
The worldwide market for facial skin care products is
estimated at $20 billion. The physician-dispensed channel is a tiny part
of that, estimated at $250 million in the
US, but is growing at an estimated
20% annually. The leading company in the space is Obagi (OMPI). Key
drivers of the growth are:
· Currently, less
than half of the 22,000 physicians specializing in dermatology and plastic surgery in
the
U.S. are selling cosmeceuticals. Both the penetration level of dispensing
physicians and the average level of sales per physician have been growing, as an
increasing number of physicians view this as a significant source of additional income.
Also, dermatologists have a tendency to use multiple tools when treating an aliment,
so cosmeceutical products are often used along with other
treatments.
·
Patient demand has been on the rise, as aging baby boomers want
to continue looking like children of the 60’s. The strong growth of
non-surgical cosmetic procedures such as Botox are evidence of the same trends.
Skincare pipeline
Senetek’s skincare products differentiate themselves from
many of its competitors through good product efficacy and solid clinical
data. While we believe the company has a number of promising products in its
pipeline, the main driver of performance over the next year or two will be Pyrapine-6,
which is scheduled to hit the market in early 2008.
Clinical trials have demonstrated P-6 to be a
substantially and quantifiably superior compound relative to Kinetin with respect to its
anti-aging properties. In fact, management claims that they chose to monetize
Kinetin because they preferred to bet on P-6, and saw a great opportunity to sell a
product that was past its peak. The company recently signed a
marketing collaboration agreement for P-6 with Triax, a private equity backed company led by
two seasoned pharmaceutical/cosmeceutical executives. Triax has $200
million of private equity backing, and the PE firm and Triax’s top executives check
out very well. We consider this to be a very positive development, and
we believe the fact that Senetek was able to negotiate such terms is a strong
endorsement of P-6 by a smart industry player. The key terms are as
follows:
·
SNTKY is guaranteed a minimum
of $10.8mm in payments in 2008 regardless of actual product sales, in exchange for a
marketing contribution by
SNTKY totaling $4.5mm within one year. (We believe this part of the
agreement was structured to allow
SNTKY to recognize a smooth picture of revenues over FY2008; however,
the spirit of this agreement essentially that Triax is paying
SNTKY a $6.5mm net initial
payment.)
· Subsequent to year
one, the companies will share product revenues 50/50, with Triax responsible for
sales, marketing, and order fulfillment and
SNTKY responsible for the cost of product manufacturing.
·
Triax is obligated to hire no less than 20 experienced sales
force professionals in year one for the marketing of this product.
Most of the risk in taking a new product to market lies
in the front-end loaded marketing costs. On the other hand, according to
management, product and packaging costs for these products are in the range of 10%
of sales (or 20% of
SNTKY’s share of sales) and will be a completely variable cost since
SNTKY will use a contract manufacturer.
As a result, there is little risk to the company’s cash position should
P-6 fail to meet expectations.
In addition to extensive discussions with
Senetek management about P-6, we have also talked to Triax top management. Data on P-6
from a clinical trial at UC-Irvine’s Department of Dermatology shows high efficacy in
several anti-aging metrics, dealing with reduction of wrinkles, fine lines, redness
(in contrast to other existing products that tend to cause redness and irritation),
and skin discoloration. Dermatologists we have spoken to says that if the clinical
data holds up, P-6 has the potential to be a leading cosmeceutical product.
Triax has cited a $100mm sales target for P-6, which is
typically a year 4 or 5 number. While this appears to be a fairly ambitious target in
light of Kinerase’s $30mm of sales and industry leader Obagi’s $90mm of sales, it
is not inconceivable given the product’s apparent efficacy and the strong overall
industry growth.What is very clear is that Triax is making a
substantial investment in the product and is anticipating significant levels of product sales
in order to generate a reasonable return on their investment. ($6.5mm of year one
net guaranteed payments plus what we estimate will be a $10 million investment in
sales and marketing investment). We estimate that in order to achieve a 20% IRR on the
partnership, P-6 will have to generate revenues of $25mm in year 6. At
that level of sales, and using the same 20% discount rate, we estimate that the NPV
to Senetek would be $19mm, or $0.32/share. Clearly, there is a huge
discrepancy between the value Triax is placing on P-6, and the how the market is
valuing it through Senetek – essentially worthless.
It is important to note that the Triax agreement pertains
to distribution in the physician-dispensed channel only; management is in
negotiations with a major cosmetics company for a retail product that will be marketed under
a different name and emphasize different features to avoid cannibalization.
After P-6, Senetek has another product,
4H-BAP, which has shown some
different anti-ageing properties than P-6. Assuming that the P-6 launch
is successful, the company expects to be in a position to sign up a marketing
partner towards the end of 2008, for an early 2009 launch. If the
relationship is going well, Triax would be the obvious
partner.
Invicorp
Outside of its skincare business, the most significant
product is Invicorp, an erectile dysfunction treatment with an injection-based method
of delivery (yes, a self-administered needle). It addresses the
estimated 30-50% of the potential ED patient population is either non-responsive to or
contra-indicted (as a result of taking certain cardiac medications) from using the
existing oral treatments. We note that the company considers its core
competency to be in skincare and might monetize its right to future Invicorp royalties if
the opportunity arises.
Invicorp is licensed to Plethora
(
PLE-AIM) in the
US and Ardana in
Europe.
SNTKY will receive a double digit royalty and can potentially earn
large milestone payments. The distribution partners are responsible for all product
approvals, marketing, and manufacturing. Invicorp was approved in
Demark on December 2006, with other European approvals expected in 2008.
US approval and product launch are expected in late 2009 or
2010.
The only existing non-oral ED treatment of significance
is a product called Caverject, with $60mm in worldwide sales and growing. Caverject
is also an injection based system and is marketed by Pfizer. Ardana is targeting
$30mm of product sales in Europe, while
Plethora is targeting over $200mm of sales in the
U.S. for
Invicorp.
We have met with Plethora management, who are very
optimistic about Invicore’s prospects based on the targeted marketing strategy they intend
to pursue, and their belief that Invicore is a superior product to Caverject.
Plethora is an early stage company targeting the urology space, and has
several products in their pipeline. We have not done a lot of work on the
Invicore/Caverject comparison, but note that Plethora’s market cap on the
AIM is less than $60 million, so
the market is not giving them much
credit.
Valuation
As Senetek’s financial commitments relating to P-6
consist of entirely variable manufacturing costs, there will be no material erosion of the
company’s cash position if P-6 flops. The same is true for Invicorp.
As a result, if we attribute no value to the company other than its cash
position, the current price is a 20% discount to the expected cash position by the
end of 2008 after factoring minimum royalties and expected cash burn.
Currently, the company is running at an operating expense level of $4 million
annually, but that is partly offset by interest income and some small income items on other
products, for a net cash burn of slightly more than $2 million annually.
If fact, assuming nothing happens over the next three years - but also assuming
that management does nothing beyond the current expense level to squander its cash
position - the company is trading at its projected year end 2010 cash
balance.
There are different ways of looking at upside.
With a 1-3 year time horizon, any upside will likely be driven by P-6, and if
that is successfully launched in 2008, it will likely be followed by 4H in 2009.
Assuming no significant increase in corporate overhead, and no other
products, Senetek’s approximate overall pre-tax profit at different levels of P-6 sales are
as follows:
Senetek
Est.
P-6 Sales Pre-Tax
Income
$10 mm $2
mm
20
6
30
10
50
18
100
38
Obviously, it is hard to know what level of sales P-6
will reach, and over what time period. A best case scenario might be a
successful launch in 2008, leading to a marketing deal on 4H, and projections a year
from now of P-6 reaching $20-30 million of 2009 sales, plus 4H beginning to
contribute. At that point, with Senetek looking like a successful cosmeceutical
company with a strong pipeline of products, it could be given a market cap of
$100-200 million, or $1.60-$3.20 per
share.
Recent Guidance
Management recently released projections for 2008 and
2009, which they claim represent a conservative outlook. P-6 is the main driver, and we
estimate that it accounts for 85% of 2009 projected revenues. Most of
the remaining revenues are projected to come from the sale of a P-6 derived product
in prestige channel (higher end retail establishments) through a partnership with a
major cosmetics company. However, management anticipates that the terms
of that revenue sharing agreement will result in a fairly low gross profit margin.
Thus, most of the projected $5mm in operating income comes from the Triax
agreement.
2008 2009 Revenue 13,397 21,891 Gross Profit 10,492 12,872 EBITDA 2,262 5,645 Operating Income 1,634 5,017
Why is it
cheap?
Besides the obvious reason of being a penny
stock trading over the counter,
SNTKY is cheap for the following
reasons:
1. Management
has been overly optimistic in the past and has low credibility.
2. Except for
Valeant, previous marketing partnerships have not contributed meaningfully to
profitability.
Minimal IR effort.
4. Cash burn in
the past two quarters has been unusually high due mainly to a $1.6 million tax
payment on the monetization of Kinetic in Q2, and the first installment of the marketing
contribution to Triax for P-6. Cash willcontinue to fall
through 2008 and should bottom at around $15 million, or $0.25 per share, as Senetek
will not receive the guaranteed royalty payments from Triax until late
2008.
Risks
- P-6 is not successful, which throws the
entire strategy of positioning the company into a cosmeceutical business into
doubt
- Management does something stupid with their
cash hoard and destroys value
- Something “bad” happens – always a risk with
a penny stock
Catalyst:
* Successful launch (anticipated to occur on 2/2008) and market acceptance of P-6.
* Announcement of other distribution partners expected by the end of this year or
early next year one of which could be a “big household
name.”
* Potential monetization of future Invicorp royalties.
