Lately, recession signals seem to be popping up daily. Risk averse investors may find it wise to start preparing for the possibility of an economic downturn. Horizon Therapeutics (HZNP) is one option as an equity that is resistant to the business cycle fluctuations and is poised to continue a steady climb that began in 2017.
It is almost universally accepted that the economy is currently in the late business cycle. The debate is mainly focused on how much longer the current bull market will last before heading south. Opinions vary between immediate collapse to a rally for several more months before the inevitable demise.
Just recently one analyst predicted a sell-off similar to the Great Depression as early as this week. Elsewhere, we find an article about the list of recession signals that are flashing red which, frankly, seems terrifying.
There are of course several options available to the investors who believe there is an immediate need to act. These options include cash, bonds, commodities and defensive stocks such as consumer staples and utilities.
Enter Horizon Therapeutics
Horizon Therapeutics appears to be an attractive alternative for going defensive at times like the present.
Horizon Therapeutics (formerly Horizon Pharma) was founded in 2008 and became a publicly traded company in 2011. Horizon’s business model mainly consists of acquiring, rebranding, and repricing drugs for the US market.
Horizon’s focus is currently on rheumatic and rare condition (orphan) medications, but it also offers a few anti-inflammatory (formerly primary care) legacy drugs. Rheumatology and rare condition medications comprised 70% of the revenue during the most recent quarter. The following table shows Horizon’s current offerings.
As a biopharmaceutical company, Horizon Therapeutics belongs to two industries that have both shown resilience during business down-cycles.
The following chart shows SPDR Pharmaceuticals (white) and Biotech (fuchsia) Industry ETFs during the Great Recession (burgundy background).
Neither industries batted an eye during the recession.
Horizon Therapeutics was not a publicly traded company during the Great Recession. But as the following chart shows, the sizable market correction that occurred in December of 2018 didn’t make much of a dent in its stock.
What’s most impressive about this chart is the two plus years of steady rise starting in mid-2017.
2015 was a stellar year for Horizon Therapeutics and it appeared that Horizon was on its way to becoming a Wall Street star. But a series of mishaps, including its business model coming under fire for charging high prices for re-branded pharmaceuticals (a la Martin Shkreli), led to a correction by 2017.
Since 2017, however, the company has found its footing. The company’s focus on orphan drugs seems to be paying off. KRYSTEXXA, an orphan drug initially introduced by Savient Pharmaceuticals in 2010, was a major revenue generator during the most recent quarter. KRYSTEXXA’s ownership has a checkered history. Crealta became the owner in 2014 after Savient sold its assets to Crealta. Horizon then acquired Crealta in 2016. Most importantly, KRYSTEXXA’s patent does not expire until 2027. As the first and only FDA-approved medicine for chronic refractory gout, KRYSTEXXA promises to generate ample revenue for many more years.
Please note that although Horizon’s website does not include KRYSTEXXA in its orphan drugs page, it was indeed considered an orphan drug by the FDA upon BLA as evident from this BLA acceptance letter and the following excerpt from this letter:
Horizon recently applied for a Biological License Application (BLA) for another orphan drug, Teprotumumab, which promises to be another successful moneymaker for the company. Teprotumumab is a treatment for active thyroid eye disease (TED), a rare, autoimmune disease that affects 15,000-20,000 people a year. Teprotumumab was developed by Genmab (NASDAQ:GMAB) (OTCPK:GNMSF) and Roche (OTCQX:RHHBY) (OTCQX:RHHBF). Horizon is performing the clinical development of Teprotumumab under a license from Roche.
In what may turn out to be a brilliant move, Horizon is setting up a 100-person team to support and educate the public about Teprotumumab and TED. Not only will this benefit the company’s finances, it will also provide a much-needed service for those afflicted with this rare condition.
In addition to Teprotumumab in the pipeline, Horizon is in the process of a clinical trial evaluating KRYSTEXXA in combination with Methotrexate to increase response rates and duration of therapy for uncontrolled gout. This could present another added revenue stream from KRYSTEXXA.
The management appears to be very excited about the developments related to this clinical trial. According to the latest ER conference call, not only has the trial already shown some positive results, but it has also revealed a potential benefit of KRYSTEXXA for kidney transplantation with uncontrolled gout which will be further evaluated by Horizon.
Before discussing financials, let’s start by looking at some ratings provided by Seeking Alpha:
As you can see, the overall ratings for both the quantitative analysis and sell side analysts is impressive.
Looking at the ratings, the only area of concern is value. Further observation of the P/E shows a respectable non-GAAP P/E of 12.84 compared to the sector median P/E of 22.21. The GAAP P/E, however, is 77.09 which is arguably contributing to the poor showing for the Value category in the Quant rating.
The following table shows the GAAP and non-GAAP EPS earnings for the past 4 quarters.
Source: Company Filings
The TTM GAAP EPS according to these figures is $0.43 which makes the GAAP EPS 61.8. A little better than 77.09 but still much higher than the sector median of 33.5.
Looking at this table chronologically, it appears that Horizon is moving backwards, but that is not the case. Pharmaceuticals revenue is seasonal with the first quarter being the most sluggish. 1Q ’19 quarter revenue actually increased a respectable 25% YOY. 4Q ’18 was a good quarter for the company and it also included a $30M sale of assets, hence the smaller gap between the GAAP and non-GAAP EPS.
In short, after examining the numbers and the reconciliation between GAAP and non-GAAP more closely, it is clear that the company is moving in the right direction. High P/E ratios are normal when a company first crosses the boundary between losing money and making money and it is normal for the market to allocate higher valuation at such stages.
By all appearances, Horizon Therapeutics is on its way to becoming a successful turnaround story. Revenue has grown every single year since the company went public.
Horizon Therapeutic Revenue; Source: Seeking Alpha
Expense is what prevented the company from continuing its stellar rise in 2015. Specifically, interest expense has been a major stumbling block throughout the years, but as the graph below shows, it is now moving in the right direction. For the first time since going public, a reduction in interest expense was realized in 2018. Continued reductions are on track to materialize in 2019.
Horizon Therapeutics Interest Expense; Source: Seeking Alpha
The risks to this thesis are basically the same risks that sank the stock in 2016 and the first half of 2017. By all accounts Horizon had a stellar run between mid-2013 and mid-2015 when its shares rose from $2.56 to $38.45, a whopping 1,400% gain in a 2-year period starting July 22, 2013. Then the outcry about the high costs of drugs became louder with high profile politicians and insurance companies getting involved. Horizon’s stock was significantly affected by the ensuing firestorm. Other events that severely and negatively impacted Horizon included the downfall of Valeant, and a failed trial of Actimmune, a treatment for a rare neuromuscular disorder that had no approved medicines at the time. This all culminated in shares plunging to $9.65 by May 10, 2017. Even though President Trump was not as friendly to drug companies as generally was once believed, his election effectively ended the drug price controversy. Depending on the outcome of the next presidential election, this issue may surface again and impact Horizon negatively. In general, Horizon’s business model is susceptible to activism against it which can take the form of attacks from politicians or advocacy groups.
Horizon’s continued success also depends on successful execution of its pipeline and continued ability to find lucrative drugs to acquire or license for marketing. Specifically, in the near future, a great deal is riding on the successful introduction of Teprotumumab.
Some of the risk associated with failed trials is mitigated by concentrating on orphan drugs that are typically less costly to bring to the market. But orphan drugs may come with their own baggage. There are activists that are raising concerns over the possibility that pharmaceutical companies may be taking advantage of Orphan drug rules for their own benefit.
Our plan as of this writing is to initiate a long position at the next support level around $25.80.
Source: Seeking Alpha
The TTM EPS currently stands around $0.42. The average consensus for FY2019 stands TTM EPS of $1.81. The sector median GAAP P/E is 33. Using these figures, PPS at the beginning of 2020 should be $59. Of course, that is very unlikely to materialize within a short 6 months. It will likely take time for the market to assign appropriate valuation to the company once positive income begins to flow. But this calculation shows that barring unforeseen misfortune, the potential for upside is considerable.
We don’t expect Horizon to rise rapidly in the near future and there will surely be ups and downs. But we expect the overall upward trend that began in 2017 to continue for the foreseeable future.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in HZNP over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The author is not a financial adviser. The information contained in this article is not guaranteed to be accurate or reliable. The information provided is informational only and should not be construed as a recommendation to buy or sell certain instruments (equities, derivatives, etc.), or to enter into any other kind of financial transaction. Please do not rely on this information as the basis for any financial decision. All financial transactions including investments contain risks and can lead to significant losses.