Will These Risks Crush Questcor in 2013?



Brenton Flynn: Hey Fools, I'm Brenton Flynn, here with David Williamson and Max Macaluso, two of our health care analysts here at The Fool.

Guys, we do a lot of videos. We're following a lot of news, but we also do a lot of chatter around the office, talking about stocks that we follow, every day.

We thought it was valuable just to have a discussion to show our viewers the types of things we're talking about, the types of questions we're asking when we're thinking about whether or not we should be investing our own money in stocks, or the recommendations that we might be making in videos and articles and whatnot.

The topic we want to focus on today is stocks that just have something lingering over their head; that overhanging risk which, in our sector and biotechs they tend to all have one -- that's whether or not they're going to receive FDA approval -- but there's also a lot of idiosyncrasies with specific companies.

Let's just dive right in to a few of the most compelling stories that we're following, and some particular overhanging risks. I'm going to start with one that I've been following quite a bit. I just think it's an incredible story. It's just been really fun to follow, and that's Questcor Pharmaceuticals.

This company has just seen incredible growth in its primary drug, Acthar, really ramping up its sales force and becoming very effective at selling this drug at an extremely high price point. The interesting thing is that this drug has been around for 50-plus years. It has no patent protection, it's just become a very niche product that, in some respects, is sold by its sales force, as opposed to being sold through its effectiveness.

David: It seems like quite a miracle drug, right? It's got almost, what, 20 indications?

Brenton: Yeah. As I've read more about it, there's one firm in particular that's extremely bearish, so I try to balance the bearish content -- which seems to be overwhelming at this point -- with the bull side of the argument, but a lot of those indications were handed out in a prior period of the FDA, before new regulations came into place having to show efficacy to earn an indication.

It kind of was just given these indications, and it's been grandfathered in, in some respects, but you're right. It has one of the biggest labels that I've ever seen, absent maybe Abbott Labs' Humira, which has 10-plus indications at this point.*

Max Macaluso: Actually, Acthar gel is approved to treat MS...?

Brenton: MS, infantile spasms, nephrotic syndrome... on and on and on. Those are the three primary indications. MS is the one where it's seen the most growth, although it has an orphan indication in infantile spasms.

That's where it initially got its start, and that's where management decided to change its pricing strategy for the drug. It was sold at a much lower price point. They decided to raise that by a multiple of 10, 20, 30... something like that. They raised prices considerably, and took the orphan drug approach.

David: But it's not really an orphan drug.

Brenton: Then they decided to start selling it for MS again. Very controversial, and we have multiple overhangs. I don't know if you can put a number on it. There's been insurance reimbursement concerns recently; Aetna came out earlier this year saying that they weren't going to cover it for MS...

Max: That actually caused a huge drop in its share price.

Brenton: Yes, that caused the stock to drop. They've got an ongoing government investigation into these marketing practices which, from what we've talked about, you can see where there could be some less than outstanding practices there.

Max: Ethical gray areas.

Brenton: Yes. We're going to have to wait to see if that amounts to anything. Obviously, that's just kind of a part of doing business, in some respects. You're going to get your hand slapped by the government when you're being regulated so closely.

Then there's also this overhang risk of not having patent protection. Just how proprietary is this manufacturing process? Management likes to talk a lot about it, but really understanding that is something that I have a hard time with.

You look at the stock, it's trading at 7.5 times next year's earnings estimates, and it just looks like an extremely cheap stock at this point, but I don't know. What would you guys say? What would make you comfortable owning a stock like this, at this point? Anything?

David: It's a stay-away, for me personally. I know there was talk about, what, issuing a dividend because management's so confident? But just considering all the overhang, the chance that this drug... It just seems somewhat unrealistic to me, how much it's been indicated for. There hasn't been a whole lot of clinical data to back it up.

There do seem to be real insurance concerns. I'm not one to fall into the bear's short selling argument, but when you look at the whole picture, the company doesn't have a whole lot to fall back on. This is what they do, and if something does go wrong, shares are going to get a whole lot cheaper, so to me, I don't think the juice is worth the squeeze.

Max: No. I completely agree with David. I like to see, especially small biotech companies, with perhaps one main drug but a pretty robust pipeline behind that, just in case something happens up ahead. With Questcor I would have been more comfortable investing in this maybe a year ago, two years ago.

Especially last year, when they upped the price, it looked like this could be a potential goldmine. I think that's what inspired a lot of investors to be bullish on it, but after September with Aetna, loss of insurance coverage for some indications, it's also a stay-away for me.

Brenton: Yeah. I'm less worried now about the insurance risk. In the near-term, I think we've had a few other insurers come out -- UnitedHealth and Humana -- not nearly as draconian measures in their updates on how they're going to cover the drug, but a government investigation... That's something I don't ever want to be a part of.

I think I learned early on in my finance classes, if there's any investigation into the financials, you certainly don't want to be involved. Marketing practices, a little less serious, but when you only have one drug and you're relying on selling it -- it's had to grow its sales force at an incredible rate to support this growth -- marketing practices are really important.

I'm still on the sidelines with Questcor, too, but there's definitely an argument to be made. Maybe this is all just noise.

David: If you just look at the financial statements, it makes no sense that the stock is trading as cheap as it is, but I think these overhangs are real. They're legitimate, and only a really risk-tolerant value investor should go in on this one, understanding fully what could happen if one of these overhangs falls down and crushes the company.

*Note: Humira is now a product of AbbVie, which was recently spun off from Abbott.

The article Will These Risks Crush Questcor in 2013? originally appeared on Fool.com.

Brenton Flynn, David Williamson, and The Motley Fool have no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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