The Life Sciences Report: Brian, your coverage universe is bunched into a narrow market cap range of $20–25 million ($20–25M), with a couple of outliers—one down at $6M and one up at $63M. I can't help but think that this market cap range embraces your theme. Is that the case? Do you have a theme?
Brian Marckx: Our theme is providing coverage for very small companies that have little or no existing analyst coverage and are largely unknown. It's essentially about uncovering companies with compelling stories that most of Wall Street may not have heard about and that may be trading cheaply.
TLSR: With so little coverage and so few people on the buyside able to own these stocks, doesn't that make the difficulty level two or three times greater than if you were to follow companies with wider coverage? You are really into these stories by yourself, without a life vest, aren't you?
BM: Absolutely, yes. And it does make coverage more of a challenge when you're the only one looking at the stock. There is limited information on the company, and you're going in blind for the most part, starting from ground zero.
TLSR: How do you begin? I'm thinking that you probably start with company management and then move outside to verify that technologies are actually valid. Does that sound right?
BM: Yes. I start with management, which can answer questions and guide me. Then we do our own due diligence, which entails talking to people outside the company, the experts in the industry, and looking at any public information that might be available. I usually come up with a number of questions during due diligence, and go back to have a longer conversation with management before writing and finishing my initiation report. It can be a lengthy process, particularly for companies that aren't well known and especially for proposed products that are novel.
TLSR: Isn't it difficult to value tiny medtech companies like these? A company may have a valid and workable technology, but doesn't have the scale of an Abbott Laboratories (ABT:NYSE), or even of a mid-cap company. How do you value penny-stock companies? I'm asking because a sum-of-the-parts valuation is not really germane when you consider the risk discount you have to apply to companies that trade at such low valuations.
BM: Valuation is always a challenge with very small companies. Some are at the development stage, or the very early revenue stage with no earnings, and they may not generate positive income for several years. Using a standard valuation metric like a comparable (comp), or a price:earnings ratio (P/E), or even a price:earnings:growth (PEG) ratio, doesn't necessarily work with a lot of the micro caps that I cover. In that scenario, I'll use a discounted cash flow (DCF) model, as it allows me to look out maybe 10 or more years, at which point a company is either likely to be generating positive cash or to be in real trouble. Either way, it provides a method of valuing a development-stage company that currently may not look very good from a financial perspective, but takes into account estimated financial performance that may be stronger several years into the future.
If the company does have current earnings, I think PEG is often a better metric than a P/E comp, as the indicated earnings can be less stable with these small companies, particularly compared to the large-cap universe. I don't think using a P/E comp captures that inherent volatility risk. Incorporating your growth estimate with PEG allows you to account for more of that inherent earnings volatility.
One other thing: A sum-of-the-parts valuation often doesn't work with these micro caps because a lot of the companies are one-trick ponies—one product, one operating business and one major market.
TLSR: Even when you have products moving through the regulatory pathway successfully, or even if you have approved products, these medtech stocks don't react like a small drug-development stock might react. It's frustrating, isn't it?
BM: In a biotech or a small drug company, U.S. Food and Drug Administration (FDA) approval is huge. That oftentimes can be seen as the catalyst. But in medtech, the FDA hurdle—or the regulatory hurdle in general—is often much lower. It is not necessarily the catalyst, or necessarily a huge catalyst, particularly with class 1 and class 2 devices, in which the FDA approval hurdle can be relatively low. Oftentimes investors won't get too excited if a device is approved in the U.S., or in any country for that matter, like they might with a drug.
TLSR: So the catalyst in medtech is going to be product sales, right?
BM: Sales, profitability and, ultimately, cash flow are the end catalysts. But there are earlier catalysts, too—things like additional positive clinical data, which is similar to a drug; recommendations from medical organizations in favor of using a product; and even things like positive changes in reimbursement. Those earlier catalysts can make a big difference.
TLSR: Why should a small- and micro-cap investor be interested in medtech, versus a micro-cap biotech or drug developer? Why would you take the risk that is inherent in a low double-digit market-cap company in medtech, instead of in a company with a drug?
BM: There are undiscovered micro-cap gems in any industry, whether it's biotech, medtech, oil and gas, financials or whatever. Companies are going to be undervalued, even taking into consideration the inherent risk of investing in a very small, and potentially very thinly traded stock.
Specific to medtech, there are definitely some challenges in the industry. Some of those are new, like the medical device excise tax. But there are also real reasons to be interested in medtech, because diagnosing and treating diseases earlier is a major emphasis in improving healthcare and patient outcomes. With an aging and more sedentary population, the demand for healthcare is going to grow. Age-related diseases are addressed by new drugs, but are very much dealt with by medtech as well.
TLSR: Let's talk about companies. Pick one for me.
BM: Verisante Technology Inc. (VRS:TSX.V) makes a device called the Aura for the detection of skin cancer. It has both a CE mark in Europe and Health Canada approval, has recently launched its device in those regions and already has distribution in Canada and Europe, including in Germany, which is a very big medical device market. It booked initial sales in Q1/13.
"A sum-of-the-parts valuation doesn't work with these micro caps because a lot of them are one-trick ponies — one product, one operating business and one major market."
Skin cancer is a virtually untapped market as far as detection devices go. The way that skin cancer is diagnosed or screened now is somewhat antiquated. A dermatologist essentially looks at the skin and makes a determination of whether a particular lesion should be biopsied.
TLSR: Give me the quick take on how the Aura works.
BM: The Verisante Aura uses what the company calls Raman spectroscopy. It's essentially a near-infrared laser that vibrates the molecular bonds in the lesions, which changes the light reflected back to the sensor. The biochemical makeup of the tissue is determined that way, and then the results are compared to a database to determine whether the tissue is cancerous or not. It's totally noninvasive. The device has gone through clinical trials, and it looks relatively accurate.
There is only one other device on the market that's of significance in terms of competition: the MelaFind, which is made by MELA Sciences Inc. (MELA:NASDAQ). There haven't been any head-to-head studies performed between the two devices, but Verisante's technology looks to be more accurate, which is very important. It also has a number of other significant advantages, one being that it's much faster—you can scan a whole body rapidly, whereas the MelaFind system would take a long time to do that. The U.S. market is a goal, but it's probably down the road, after some U.S.-based studies are done. Verisante's game plan is to roll the Aura out overseas first, to help finance the U.S. studies.
TLSR: If the product is ultimately filed and approved in the U.S., this would be through a premarket approval (PMA), not a 510(k) clearance, right?
BM: Most likely, yes. That's right.
TLSR: Would there be a procedure code to go with this diagnostic, or would the dermatologist or clinic have to absorb the cost of the device?
BM: Most likely there would not be reimbursement, initially at least. That's a big question mark, and has been a big question mark since before MELA launched its device. Verisante can use that as a measuring stick to see if insurers are going to pay for the Aura. The dermatologist would charge the patient, and the patient would have to pay out of pocket. Based on MelaFind's launch, which hasn't been that spectacular, it appears that patients are willing to pay.
TLSR: Do you imagine that the Centers for Medicare & Medicaid Services (CMS), which determines payment eligibility of services, could look at this and consider it to be another toy for the dermatology practice, which is already a very big cash business with patients?
BM: I don't know; only time will tell. I know CMS can take a long time to make a decision, so potentially it's on the radar screen and already being looked at.
TLSR: CMS would have to see a clear benefit ratio here, wouldn't it?
BM: That's certainly what it has indicated in the past. Not necessarily for this device, but historically CMS wants to see a clear benefit. If Verisante can show that, it has a great shot at reimbursement. If the Aura is just a toy to make money on, CMS is not interested in that.
TLSR: Basal cell carcinoma is highly invasive but it does not metastasize frequently. On the other end of the scale, melanoma is very aggressive and does indeed metastasize. Is the Raman spectral analysis valid and accurate, as far as you know, for basal cell, squamous cell and melanoma—all three skin cancers?
BM: It is—and that's a differentiation between MELA and Verisante's product.
TLSR: Brian, I'm noting a recent price of about $0.23/share, and your target price is $2.25/share. Is that a 12-month or 18-month target?
BM: That's a 12-month target.
TLSR: Can you give me another idea?
BM: My next idea is SANUWAVE Health, Inc. (SNWV:OTCBB). It makes a device called dermaPACE for the treatment of diabetic foot ulcers, which is a roughly estimated $2 billion ($2B) market in the U.S. And that market is growing as the number of diabetics grows.
"With an aging and more sedentary population, the demand for healthcare is going to grow. Age-related diseases are addressed by new drugs, but are very much dealt with by medtech as well."
The device uses shockwaves to promote blood flow and tissue growth. In late 2011, dermaPACE was in a PMA device trial and just barely missed the primary endpoint. The FDA came out with a denial. SANUWAVE designed a new trial, which is supplemental in the sense that it can build off of the initial trial data, which was mostly positive. The FDA approval of the use of Bayesian statistical methods is a real benefit to SANUWAVE, as this method applies sequential analysis, meaning that the supplemental data can build on the positive results from the initial study. The totality of the data will hopefully show statistical significance on the primary endpoint. The FDA typically approves Bayesian methods when there's already compelling data to build upon, so we view that as another vote of confidence.
The new trial is smaller than the first, but it is still a multicenter study, and has just begun enrolling patients. It's designed very similarly to the first trial, but uses more treatment procedures to help improve the efficacy. At this point, the trial is expected to complete in Q2/14, and the company is shooting for PMA submission in late 2014, with potential approval in 2015. This product would compete against Kinetic Concepts Inc.'s (private) wound-healing device, which uses negative wound pressure. SANUWAVE's device potentially works better.
This is a tiny company entering a very big market. Although it would compete directly with a fairly dominant product on the market now, dermaPACE looks like it could be very competitive.
TLSR: SANUWAVE is up 267% in the past six months. What has been the driver here? Is this performance due to it being a penny stock with a $13M market cap and easy-to-drive shares?
BM: Part of it may be that. Sometimes it's difficult to tell with these micro-cap stocks because, as you know, the shares get pushed around easily.
SANUWAVE was in what I would characterize as a holding pattern between the time it got the negative FDA news and when this new study started gearing up. The company needed money, it needed to cut costs and it needed to consolidate to be able to fund the new study. During that period the stock languished; there wasn't much going on or much volume. But over the last few months, the company has brought on new management and a new CEO, it has secured initial financing to start the study, and it got Institutional Review Board approvals at its study sites. In short, SANUWAVE has made a lot of progress, and the company has a solid game plan in place. My opinion is that this second study has a good chance of succeeding, and it may be that investors are on board with that same theme.
TLSR: Could I hear another idea?
BM: VolitionRx Ltd. (VNRX:OTCPK) makes a noninvasive cancer test that is based on epigenetic markers and requires a simple blood draw. The company is initially targeting colon cancers, but breast and lung cancers will be a focus after this first indication. Initial small studies have indicated that the test, called NuQ, has a relatively high degree of both sensitivity and specificity.
VolitionRx is ramping up its clinical studies, and just announced a big, 10,800-patient study in colorectal cancer, which is going to be run in Denmark. It's a head-to-head study versus colonoscopy, and this could be a big deal. Analysis on the first 1,000 patients is expected within the next few months, so we will be able to get an early look at the test's accuracy. The company is going to use that data, assuming it's positive, to support a CE mark application. The game plan is to launch in Europe in early 2014. The U.S., of course, is going to require more clinical studies, and therefore the U.S. market is probably a few years off.
TLSR: Is this a screening to determine if asymptomatic patients should have a colonoscopy?
BM: I envision that initially it would be for symptomatic patients, but clearly the potential longer-term goal, which would be hitting the gold mine, would be to evaluate asymptomatic patients in place of colonoscopy. This current study, versus colonoscopy, will hopefully give us a decent indication of where the test could be used in the intervention process.
TLSR: You have a target price of $7.25/share, which is almost a quadruple from where shares are now. Is that a 12-month target price?
BM: Yes, it is.
TLSR: Your next idea?
BM: CytoSorbents Corp. (CTSO:OTCBB) makes a blood purification filter, CytoSorb, that removes cytokines and other toxic substances from the blood. The device is a cartridge filled with patented, highly porous, adsorbent polymer beads that remove the unwanted substances from the blood. The cartridge filter is connected to tubing through which blood flows. The blood is pumped with a conventional dialysis machine, although no dialysis cartridge is used. It uses patented polymer beads in a filter to remove those unwanted substances. The target market is for critically ill patients, such as those who have sepsis, trauma, respiratory distress. It's essentially for use in patients who could die if they don't improve quickly.
The system has been used in a fairly small clinical study in Europe, which showed that it was safe and that it reduced key cytokines. It's now CE-marked and being commercialized in Europe. It is also undergoing investigator-led studies to prove that it works. That is a drawn-out runway to help commercialization, but the company is making progress.
TLSR: This is for use in the intensive care unit, is that right?
BM: Yes, that is correct. It also has been awarded several government-sponsored grants, including a Defense Advanced Research Projects Agency (DARPA) award that is focused on developing a device for treatment of sepsis.
CytoSorbents is a micro-cap company, but it does have capital, which we think it is using very smartly. The company is not just coming right out and trying to sell the product without physicians understanding how it works and how it's used properly. I think the technology has a lot of potential, and early indications are that it works.
TLSR: Your next idea?
BM: OptimizeRx Corp. (OPRX:OTC) takes advantage of a certain niche, that being drug companies that market directly to physicians. The company has a revolutionary way of doing business. It has developed software called SampleMD, whereby every time a doctor writes a prescription, he or she can print out a coupon for the medication or send an e-coupon to the pharmacy. Every time a doctor prints a coupon, OptimizeRx gets paid $4 or $5. Pharmaceutical companies can reduce their costs by not having to rely so much on sales reps going to medical offices, where reps are increasingly being shut out by the physicians. SampleMD allows drug companies to continue to sample directly to physicians and patients without sales rep face-time. It is very revolutionary.
TLSR: OptimizeRx is up 36% over the past 12 weeks.
BM: Yes—there has been increasing awareness and increased interest in the company, which is reflected in the stock price. Electronic prescriptions are the fastest-growing segment of all electronic health applications. SampleMD has integrated its system into Allscripts Healthcare Solutions, Inc.'s (MDRX:NASDAQ) electronic prescribing system, as well as other e-prescription systems, including NewCropRx LLC (private) and DrFirst (private). Allscripts is the largest electronic prescribing provider, so this is a great relationship for OptimizeRx. OptimizeRx continues to build its footprint and just this week announced SampleMD will be incorporated into HealthTronics Inc.'s (HTRN:NASDAQ) e-prescribing workflow. HealthTronics is the largest provider of urology services in the U.S. On the other side, OptimizeRx has relationships with some of the big pharma companies, like Merck & Co. Inc. (MRK:NYSE), Abbott and Eli Lilly & Co. (LLY:NYSE).
TLSR: It's a software-based, not shoe-leather-based, business, and therefore it should be scalable. Do you see it that way?
BM: The business is incredibly scalable. OptimizeRx can essentially ramp revenue with very little additional operating expense. The company's game plan is to broaden its prescriber base to get its coupons into the hands of more physicians. It will also continue to expand the number of drugs promoted—OptimizeRx has been very successful on both of these fronts over the last couple of years. As it is now, the company is generating revenue, which has been growing. It has a very low cost expense base. It is very close to profitability and being cash-flow positive. In fact, OptimizeRx preannounced Q2/13 revenue and earnings, both of which showed dramatic increases and were ahead of my estimates. This company looks like it could really take off.
TLSR: Another idea?
BM: Biomerica Inc. (BMRA:OTCBB) is probably one of the least exciting companies that I cover, but that's not a negative in this case. This company has been in business for 40 years, so it has history. It sells diagnostic tests, mostly for gastrointestinal diseases, infectious diseases, diabetes and women's health. These aren't necessarily the newest, best or most exciting tests; what attracted me to the company was its growing revenue. It has positive cash flow and positive earnings. I like management; members of the team don't pay themselves a lot. The stock is incredibly cheap. This is one of those companies that you feel very comfortable about when you invest in it. You can sleep at night. In the micro-cap space, you don't always see that. Biomerica is an outlier when it comes to that, I think.
TLSR: Biomerica has a $6M market cap, a tiny valuation, but it makes money. Why doesn't management take the company private? It seems like it could buy this company for $20M or less.
BM: Yes, I think management could, and it's a good question. The company is not out there raising financing all the time, and it doesn't necessarily need to be public. But the business is run right, and that's another thing that you don't always see with very small public companies. Management isn't there to enrich itself. It is there to run a business, and it shows.
TLSR: Do you have another idea you could share with me today?
BM: iCAD, Inc. (ICAD:NASDAQ) has two business segments. Its market is cancer, and it is in both cancer detection and cancer treatment. Its cancer treatment segment is where I see the bulk of the long-term opportunity. ICAD makes a device for intraoperative radiation therapy (IORT) for breast cancer, and this is a big growth area. As opposed to traditional external-beam radiation, which delivers radiation to the tumor from outside of the body, IORT radiates from within the body, directly to the cancerous site. IORT, for those patients where its application is deemed appropriate, has been shown to be more effective than external-beam radiation and, since it is more targeted, reduces the risk of killing healthy tissue. It essentially radiates only part of the breast. Reimbursement has been somewhat of an issue, but has gotten better and could continue to get better, because surgeons are interested in this technology. The company has been selling the devices, and utilization has been increasing.
"Sales, profitability and, ultimately, cash flow are the end catalysts."
The company also has an applicator for the treatment of skin cancer. The device has already started to take off, and this could be big. There were a number of question marks early on, particularly about reimbursement and whether iCAD could sell the device into the market without significant reimbursement. But that has gotten better. As reimbursement improves and awareness increases, this stock has a lot of potential.
TLSR: This is the largest company in your coverage, at least that I am aware of. It has a $63M market cap. Also, investors seem to like it because it is up 178% over the past 12 months. Any comment on that?
BM: Investors are certainly looking at iCAD. Management does a fantastic job on conference calls. The company provides a lot of detail. It's a story that you feel very comfortable getting behind.
TLSR: Is there a last idea you would like to share?
BM: BioLife Solutions Inc. (BLFS:OTCBB) develops biopreservation media for cells, tissues and organs. Biopreservation media are solutions used to maintain the viability of biological material such as cells (including stem cells), whole blood and tissues following removal from the body, during storage and transportation, and while undergoing handling, manipulation and processing by researchers engaged in regenerative medicine product development.
It is estimated that demand for biopreservation media will grow at an annual rate of almost 20% for the next several years. BioLife expects to benefit from the emerging field of regenerative medicine (including cell therapy and tissue engineering), which has recently experienced rapid growth, largely as a result of recent advancements using stem cells to regenerate and repair tissues and organs, as well as to treat a number of diseases.
Today most of the biopreservation market is dominated by "home brews," or in-house solutions. BioLife Solutions' products, based on independent testing, appear to offer certain advantages over these home brews in terms of performance, reliability, shelf life and in the overall preservation of the viability and stability of cells. BioLife has drawn on more than two decades of molecular research that focused on how chilling can damage cells; this provided the backbone for product development, as well as for the differentiation and added value of the company's products versus competing biopreservation media.
BioLife also has a contract manufacturing business. Financial performance has been very strong. The company set a new revenue record for the ninth straight time in Q1/13. The stock is up about 370% in the last 12 months and is up about 438% since I started covering the company in July 2012. My current price target is $0.90/share.
TLSR: I've enjoyed this very much, Brian. Thank you.
BM: I appreciate it as well. Thank you, George.
Brian Marckx is the senior medical device/diagnostics analyst with Zacks Investment Research. He covers small- and micro-cap medical device and diagnostic companies with a focus on development-stage companies with novel and emerging technologies, as well as already established names still flying under the radar. Prior to joining Zacks, Marckx worked as a high-yield bond analyst on Wachovia Securities' institutional trading desks, where he specialized in the healthcare and industrials industries. Prior to that he was an analyst in corporate finance at First Union National Bank. Marckx has been quoted in The Wall Street Journal, Barron's, Bloomberg Businessweek and Kiplinger. His work has also been cited in various market studies and working papers including those from Massachusetts Institute of Technology, Deloitte & Touche, and Pharmaceutical Manufacturing. He graduated with a bachelor's degree in finance from St. John Fisher College, and received his master's degree in business administration from Wake Forest University. Marckx is also a Chartered Financial Analyst.
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DISCLOSURE:
1) George S. Mack conducted this interview for The Life Sciences Report and provides services to The Life Sciences Report as an independent contractor. He or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Life Sciences Report: Verisante Technology Inc., VolitionRx Ltd., BioLife Solutions Inc., Merck & Co. Inc. Streetwise Reports does not accept stock in exchange for its services or as sponsorship payment. Merck & Co. Inc. is not affiliated with Streetwise Reports.
3) Brian Marckx: I or my family own shares of the following companies mentioned in this interview: None. I personally am or my family is paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Verisante Technology Inc., SANUWAVE Health Inc., VolitionRx Ltd., CytoSorbents Corp., OptimizeRx Corp., Biomerica Inc., iCAD Inc., BioLife Solutions Inc. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
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