On Wednesday we called for guest posts on Greenbackd-style stocks. Our first guest post is from Wes Gray on CombiMatrix Corporation (NASDAQ:CBMX). Wes is a former Marine who, along with several partners, launched his maiden hedge fund, “Empirical Search Strategies” a year ago. He’s also a PhD candidate at the University of Chicago Booth School of Business, helps to run the Empirical Finance Research Blog website and has written a book, Embedded: A Marine Corps Adviser Inside the Iraqi Army, which you can purchase from Amazon. Phew. Here’s Wes’s idea:
There are a number of undervalued micro cap companies in this market, but not all values are created equal. Combimatrix (Symbol: CBMX) is a small biotech company that is tremendously undervalued by the market and has catalyst in place to realize its intrinsic value in the near term (~6months or less). Management is smart, downside is limited, and upside is huge( 100-200%+). There’s a lot to like at the current stock price.
Valuation
a. Cash
The company doesn’t appear to even remotely be a net-net by glancing at the balance sheet, however, closer inspection of the company’s contingent claims suggest otherwise. In 2005 the company won a lawsuit against National Union Fire Insurance relating to its director’s and officers’ insurance policy and was awarded a $32.1 million judgment by the US District Court. It was later awarded an additional $3.6 million by the court for attorneys’ fees and has continued to earn interest since this time.
National Union appealed, at which point the court required it to post an appellate bond of $39.2 million with the court. This means that the creditworthiness of National Union is not an issue and the only thing standing between CombiMatrix and the current value of the judgment is the Circuit Court. It appears very unlikely that the ruling will be overturned based on our legal due diligence: the decision was a bench verdict by a federal judge, and there were $0 dollars in punitive damages so the appeal theory is very weak. All briefs have been submitted to the court by both parties and only the oral hearing remains, meaning that a disbursement of the funds could happen soon. A decision is expected to be finalized by Q4 2009.
The $36mm lawsuit money and $10mm supplement represent $46mm. After the 20% lawyer fee we are left with ~30mm plus the $10mm supplemental (which we would likely do a settlement for 7mm to expediate process). Add back the $11mm cash balance on June 30, 2009 and the company is sitting on nearly $6.4 in cash per share (based on 7.5mm outstanding).
If we assume $3mm in cash burn and $12mm in liabilities (convert debt+misc liabilities+liquidation costs) at December 31, 2009, we are still left with a cash balance of ~$4.4mm per share ($33mm/7.5mm s/o).
b. CMDX laboratory (creates diagnostic products)
We visited the lab facilities at the beginning of August 2009 and were highly impressed (Robert Embree rembree@cmdiagnostics.com is the director of operations and is happy to give shareholder tours). The lab churns out a variety of diagnostics, but its primary value is in the top 4 tests (they have 11 tests in total): Prenatal/PostnatalScan, Her2Scan, HemeScan, and ProstateScan. These tests alone are easily worth more than the current market cap of the company (See the Benchmark April 2, 2009 research report for details on valuation/DCF, etc.). The lab in its entirety is hard to value exactly, but various estimates from the lab director, CEO, DCF analysis, and industry insiders put it north of $150-$200mm in the current market environment. To back this claim, just recently EXAS sold the IP for an unfinished test that is similar to the CBMX PP test for $18.5mm in cash and our test is better!
However, let’s be ultra conservative and say they fire sale it for $50mm (While at the lab I collected estimates on the resale value of the equipment in the lab and estimated the actual property inside to be worth $10mm at a minimum).
c. CCA
This is where things get really interesting. The latest technology from Combimatrix blows our minds – they call it the comprehensive cancer screening test (CCA). To put it in non-mad-scientist terms, here is how we would explain it: the test takes a drop of blood and puts it on a microchip. The microchip then detects if you have a certain DNA sequences that can determine if you have a variety of cancers. With obvious benefits to just about everyone, the market potential for such a product is enormous. Here is a presentation on the CCA and another (.pdf).
The projected launch for CCA continues to be mid-2010 and management disclosed that it is evaluating technology that could accelerate launch to as soon as Q1, 2010. CombiMatrix intends to complete CCA study protocols in the current quarter and to complete CCA studies in the first half of next year in time to support product launch. Larger clinical studies are anticipated after launch. We estimate that the CCA’s total addressable market could be up to $12-$15 billion at $250- $300 per test. Estimated the value of the CCA asset is difficult, but the potential is absolutely mind-blowing and the test would revolutionize medicine. Certainly not worth 0, but potentially worth 100’s of millions, if not 1 billion if things continue on the current track.
d. Leuchemix
CMBX also owns a 1/3 stake in a company called Leuchemix, which is developing a leukemia drug. Recent test results indicate the drug is both effective and well tolerated by patients. Here is a summary of multiple conversations we have had with the CEO of Combimatrix on the value of Leuchemix: Assuming phase 1 is completed and looks good, and Phase II is completed and looks good also (hopefully by first half next year), then CBMX will partner the drug with a big pharma company to support the phase 3 costs. The value of the compound will be dependent on the data, which will directly correlate with the size and structure of the partnership. In the past 5 years or so, there have been two or three deals with pharma and biotech companies that have been anywhere from 500 MM to 2 Billion dollars. These deals are usually structured as some money upfront, money to support the trial, and then money to be paid upon achievement of milestones and then royalties. With a drug, there is always a chance of failure, despite what the previous data looks like. However, the phase 1 data looks good so far, and if phase 2 looks good as well, the valuation will be driven by how good. If it looks great, then CBMX can easily achieve the several hundred million dollar valuation. If it looks bad, then it could be worth nothing. And it could be anywhere in between. When Leuchemix does 40 patients, and all 40 respond, then the sky is the limit on valuation. If none respond, then it’s zero. If 10% respond, then it might be worth 20 million, etc. If half respond, then it would be worth a few hundred million.
The bottom line is that most drugs don’t make it. And there have been many failures in leukemia. The research will cost money to do phase 3 and that money will come from a partner once Leuchemix has good phase 2 data. So CBMX needs to finish the phase 1 and show good phase 2. In its current stage, the entire thing is worth $15mm in this environment where risk-taking is so low for early-stage projects.
e. Government contracts/misc.
The company has other products as well. One is the Influenza Detection system, which works with technology similar to that of the cancer-screening tests. This product line got a big boost with the outbreak of the H1N1 Swine Flu, which the system is able to detect. When the swine flu broke out earlier this year, the FDA issued the Emergency Use Authorization which approved two tests developed by other companies for immediate use to detect the H1N1 strain. CombiMatrix’s flu detection system is far more complex, accurate and comprehensive, and thus also more expensive. This makes it more appropriate in research settings, where it has already been used. But if the swine flu gets really bad (as CEO Amit Kumar describes it, “more pathogenic and communicable”) then this cost will not be as important and CombiMatrix’s test will likely be adopted.
In early April the Ontario Agency for Health Protection and Promotion verified CombiMatrix’s Influenza-Detection system. Ultimately, these tests may help guard against H5N1 bird flu outbreaks. As public health ministries become accustomed to CombiMatrix’s technology, there is a possibility that CBMX could win a large contract anywhere from $10m to $100m could be awarded to CombiMatrix based on an average cost of the CBMX’s ‘in-house’ oligo array automated system, which costs around $200-300k per unit plus additional fees for customizable chips. Governments may want to use this platform for military use or civilian outbreaks and so the size of any potential contract is highly variable. Regardless, Canadian validation is a step towards drawing investment from more government agencies. Already, China has expressed some interest and Canada has been interested since its outbreak of severe acute respiratory syndrome (SARS) in 2003. Additionally, in March 2009, NASA awarded CombiMatrix $858,000 from NASA over three years for the Company’s semiconductor microarray that can be used in automated genetic analyses suitable for use in satellites. Later this year, the Company plans to launch a cell phone-sized array reader that can monitor genetic changes to bacteria as researchers circle the Earth. Beyond government contracts, academia and other research laboratories are potential buyers of CombiMatrix’s platform technology that enables ‘in-house’ customizable array services. Sales to these institutions represented about one-third of total revenue on average.
Summary:
$4.4/s in “cash liquidation value”
+~$6/s CMDX lab ( $50mm conservative value, potentially worth $150mm+)
+~$4/s CCA technology ($30mm ultra conservative value to immediate buyer with huge option value)
+~$1/s 1/3 Leuchemix (conservatively worth $5mm in current state, but huge option value)
+~$1/s govt contracts/misc (worth $5mm+ based on comparable p/s ratios in the space)
=ultra conservative $16.4/s value versus current stock price of $6/s
Catalyst
1. CEO buying
Amit Kumar has purchased over 10,000 shares on the open market since November 2008 (6,000+ shares in August) and has reiterated numerous times in conference calls and private phone calls that he believes the equity is “grossly undervalued.”
2. Short interest (representing over 5% of s/o and over 10x average daily trading volume) may come under pressure as asset sales are announced.
3. Bidding process is about to begin.
Last week, the company announced that it has engaged multiple investment bankers to aid the company in an “effort to unlock shareholder value.” This could mean, according to CEO Amit Kumar, the sale of all or a portion of the business. This is the catalyst the stock needs to unlock the value in its underlying assets. Recently, comparable companies have successfully monetized their assets in the diagnostics space. For instance LabCorp (NYSE: LH) offered $4.55 per share of Monogram Biosciences (NASDAQ: MGRM) to acquire the company in July, for a total valuation of Monogram of $155 million (including the assumption of debt).
It’s hard to say how the market will value the various assets owned by CBMX, but one can be fairly certain that purchasing the stock around $6 creates a huge margin of safety for the patient investor.
[Full Disclosure: We have a holding in CBMX. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]
[…] in Combimatrix (CBMX). We haven’t shared our write-up on it but will point folks to the one done by Wes Gray. We generally agree with the write-up although we think there is substantial upside that the […]
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[…] 1, 2010 by greenbackd In August last year Wes Gray and Andy Kern supplied the first Greenbackd guest post on CombiMatrix Corporation (NASDAQ:CBMX). The thesis was as follows: There are a number of undervalued micro cap companies in this market, […]
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interesting discussion, thanks for your counter opinion Jason and cheers to this site :) please try to keep the discussion fact based and unemotional too guys, good investing is done without emotions.
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FYI, the new court date for the hearing has been set for February 2, 2010. Here’s hoping for a pop following an affirmation of the previous judgment.
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Fine. I personally assume a value of $0 for Leuchemix in my own mind, fyi but it could easily be worth $5-10/share (CBMX’s 1/3 ownership). It is the 11 tests (incredibly valuable to a larger entity) and the CCA test which is a “game changer” that interests me. Study the CCA data yourself from May, you will be pretty impressed. More to follow in the next few months. The lawsuit is a separate thing and we shall see.
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What a spirited discussion!
I can’t comment on the court case or the medical devices, those are both outside of my realm of expertise.
Jason does have a point about valuating a company which only has pre-clinical data. “Anti-Jason”, please understand how silly it is to make statements such as “this company is at least worth X, because they have EXCELLENT preclinical data”. This is silly because literally every biotech has Excellent preclinical. If the pre-clinicals aren’t outstanding, the project doesn’t get funded. Unfortunately, the statistics behind even the most promising pre-clinicals turning into a profitable product very ugly.
I can’t comment on the court case, but I wouldn’t assign much value to anything still in pre-clinical stage.
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One more thing I forgot, and yes I aplogize for my venom, but I don’t like when people post things that don’t make sense. Anyway, the lawsuit. It was a BENCH VERDICT from a FEDERAL JUDGE. National Union completely screwed over the company and acted in a bizarre fashion, I have read almost all pertinent docs. Its a very solid case and objective attorneys I had look at it called it 95/5 or 99/1 as far as the chances of the co prevailing. They said its unbelievably rare for a group of federal judges to overturn another federal judge’s ruling that was 100% proper and based on facts and law. The lack of payment from National Union impaired the co immensely financially and one can even trace their recent dilutive sale @ $7.50 to the fact that the $ was not paid to us back then or even in the last year since winning the verdict. Once again, best of luck. The premium in the stock over this verdict is so absurdly low that I don’t even know what to say. These tests are superb quality and the tech platform is unique and is continously expanding as more pieces can be added to each test. The “problem” if anything is the tech is AHEAD of its time 2-5 years as Dr.’s and the market have not caught up with it yet. But some large enity will recognize that and pay a handsome price to get that huge benefit a bit down the road.
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Jason: your comments are moronic and seem to actually be the words of someone that is SHORT. Why on earth would u go on and on and make some truly idiotic remarks? the CCA is a pipe dream? there is REAL data already on it that shows it works and it is nearing completion as we speak. Its specificity and accuracy and ability to catch certain cancers before any other test is quite astounding. Your comments on Leuchemix are beyond moronic as even some people I know that absolutely HATE this company have agreed that it is worth $10 million right now since its well into Phase I and had EXCELLENT pre-clinical data and the co has been approached ALREADY by partners, which is highly unusual. Anyway, its pointless to respond to everything you said. Lets see what happens. One of us will be wrong. Why dont u short us some stock so we can buy it from u? That would be fun. By the way, i find it funny you passed on it @ 4.80 and then the co raised $ @ 7.50 from sophisticated investors….so u would have had a measly 55% return in that short time frame. Good luck.
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Whoa. We’re all friends here and divergent views are encouraged. Passion is great, but keep the ad hominem attacks to a minimum please.
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jason, thxs for the comments. good luck. we played vxgn, avgn, ntii, caps, and some other biotechs–all fun. a difference of opinion is always a good thing.
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for liq value of Leuchemix should have been 5 and 15, instead i typed 15 and 45 – sorry guys. Typing while trading.
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typo – amatures *amateurs
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Folks I would recommend that you DON’T buy this stock. This blogpost was e-mailed to me by my superior at work, as he thought it was funny. At these prices this stock makes a decent short candidate (note the short interest, shorting biotechs is not an arena for amatures and these guys are short for a reason). We are not short or long CBMX.
My shop took a look at this company back in November 08 when it broke below 5 dollars/share. After two afternoons of work, we quickly decided that at that price (it was trading around 4.80-4.95) that it was probably over priced and not worth investment. To claim that the stock is fairly valued at these prices, or worse still, to claim that at 6 dollars there is a margin of safety is completely ridiculous. At today’s price (which is 40% higher than when we looked at it) this stock may make a decent short-swing trade, but that’s not our investing style. I’ve invested in the biotech/pharm space for 7 years now, so please allow me to rant.
First off, CBMX’s Influenza Detection system is a failure, will never be profitable, and should be discontinued. This is very simple, they created a product that achieves the same benefit as its competitors at an insanely higher price. The government and the private sector have no use for a test which produces similar results for twice the expense! Stating that a flu pandemic will drive sales for this ultra-expensive test is like saying that a nation-wide transportation crisis would drive sales of Ferraris. The exact opposite is true. If we have a pick up in H1N1 or H5N1 the government will purchase the cheapest effective tests available for mass distribution. The government has already made its decision and passed over CBMX’s test.
Next issue, the 1/3 investment in Leuchemix has a liquidation value between 250K and 500K. Leuchemix is a venture-capital stage company with some neat ideas (the concept of identifying ‘Combretstatins’ from a tree species indigenous to s. africa is neat). However, this is a pre-clinical stage company, and you are valuating it at 45MM USD!?! The entire suite of licenses (LCVJ2, LCVJ, LC812, LC-913) are collectively worth 2 to 4 million TOPS, and I’m being very generous. If you had to firesale these, you would probably have troubles getting more than one million dollars for the whole collection. I don’t mean to attack personally, but I’m sorry – if you think that CBMX’s 1/3 stake in Leuchemix is worth 15MM you have absolutely no business investing for yourself within this sector. Leuchemix’s pre-clinical patents are a free-option, you should give it 500K to 1MM in your intrinsic valuation work.
Next, the CCA technology is quite frankly, a pipe dream. Utilizing micro RNA for your array screening is a good idea – which is why so many companies are pursuing this very same concept. CBMX is in the very early development stage of this project, they are still performing R&D and they haven’t even developed their assays yet! But you are talking about it as if there is a pretty good chance it will happen. The odds of this technology working and of CBMX being one of the leaders in the market and of CBMX meeting these two goals profitably are somewhere between 1 in 1,000 and 1 in 10,000. The odds are about 99.99% that this will be another money loosing experiment.
Next, the Court case for cash. Maybe I should have started here. I believe you are not understanding the outcome probabilities of the CBMX vs. NUFI court case. This is not a slam dunk. There is a very good chance (50/50?) that CBMX does not receive payment, receives a dramatically reduced payment, or that ultimate outcome is delayed indefinitely. The entire investing thesis rests on this case being a sure thing! It is anything but. We had our attorney look at it first thing, he suggested we use a 50/50.
Finally, the lab equipment isn’t worth diddly squat. I encourage you to poke around this VERY WEBSITE and look into a company called Vaxgen. Please notice two things: 1)Notice how quickly and effectively things have progressed since the company promised its major shareholders that it would pursue ‘strategic alternatives – anyone who invested based on the CEO’s promise to pursue strategic alternatives was almost completely wiped out 2) notice how much value they are getting for their lab equipment (let me save you the time – ZERO).
The reason this stock has maintained a price/share over 4 dollars is because Kumar is promising everyone that he will pursue strategic alternatives. We had to wonder, what exactly can CBMX sell to a strategic buyer? All of their assets are ‘options’ – things that might someday work. The truth is, this is a money losing company without any profitable products. The most likely case is that CBMX turns into another Vaxgen, trading below 1 dollar within a year.
I’d bet my life savings that the author of this piece doesn’t have much investing experience within the biotech space. It’s very easy to get seduced by the starry-eyed dreams and hopes of biotech CEO’s. If they weren’t good at selling their dreams, they wouldn’t be in business.
p.s. I don’t mind if you publish my real name, but please don’t publish my e-mail address.
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Thank you for your input, Jason. Counter-views are great, but ad hominem attacks are to be kept to a minimum. Wes was the source for some of the best ideas on this site, and his investing record speaks for itself.
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Wes,
Any view on the competitive landscape for CBMX. How far ahead of the competition are they?
Thanks
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The below paragraph from their latest 10Q: It is interesting because the outside consultant also must believe that the warrants would be worth something, i.e. stock is going beyond 9.00.
On May 19, 2009 (the “Grant Date”), we issued three warrants (the “Consultant Warrants”) to a consultant to purchase a total of 125,000 unregistered shares of
our common stock with an exercise price of $9.00 per share and a term of five years. The first warrant is for 25,000 shares and becomes fully vested six months
after the Grant Date. The second and third warrants (the “Contingent Warrants”) are for 50,000 shares each of common stock, and become fully vested only if
our underlying stock price achieves or exceeds $12.00 and $14.00 per share, respectively, for five consecutive trading days as quoted on Nasdaq, over a period of
twenty-four months from the Grant Date. If these terms are not achieved during this twenty-four month period, the Contingent Warrants will expire on May 19,
2011. Otherwise, if the vesting conditions are achieved within twenty-four months from the Grant Date, the Contingent Warrants will become fully exercisable
for the remainder of the five-year term. The warrants were issued pursuant to an exemption under Rule 506 and/or Section 4(2) of the Securities Act of 1933.
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AMAZING work. this is so much fun to read :) thanks! i’ll try to put some of my ideas together soon i as clear a presentation. this site is amazing.
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great post! thx Wes
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This is an interesting idea with merit. However, i would question the need to pay investment bankers to “unlock value”. This seems to be a waste of professional fees.
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