Nuvation Bio (NUVB)
Disclaimer: Nothing on this blog is intended as financial or investing advice. Please do your own due diligence.
Overview
Nuvation Bio, a busted SPAC, is a net-net biotech offering asymmetric risk reward with a rare “heads I win, tails I win even more” potential outcome distribution.
The company’s lead asset is NUV-868, its sole remaining clinical-stage drug candidate, which is currently in Phase 1 trials. While there is some risk of an alternative outcome(s) (which I will discuss below), I believe one of two binary (and inversely related) outcomes is overwhelmingly likely to unfold in the next 6-12 months, each offering material upside:
1) the Phase 1 data read out for NUV-868 (expected around Q2 of 2024) is poor, in which case the company discontinues operations and pursues liquidation; or
2) the Phase 1 data is promising, in which case the market should begin to ascribe some positive value to the company’s pipeline.
NUVB currently trades for around $1.37/share with just shy of 219 million shares outstanding, for a market capitalization of ~$300 million. The company has $619.34 million of cash and cash equivalents and no debt, or $2.82/share of net cash. You can therefore buy the company at approximately a 52% discount to its net cash (and a 51% discount to net current asset value). In other words, the market is valuing the business (the drug pipeline) on its own – i.e. after subtracting the cash – as worth negative $320 million.
In Scenario 1), beginning with the company’s net cash balance, after subtracting its liabilities, continued cash burn, and other potential wind down costs, I estimate a conservative liquidation value of $2.20/share. This represents a 61% upside from the current share price.
In Scenario 2), the upside is more challenging to quantify. A positive outcome for NUV-868 – a drug with potential to treat several different cancers (and thus a significant addressable market) – will likely result in substantial share price appreciation. This is especially true since the market is currently ascribing zero (or negative) value to NUVB’s pipeline. However, as we are still only at Phase 1 of development, this upside may be somewhat tempered as the market prices in the increased cash burn required for further drug development. That said, the odds of the share price falling on positive NUV-868 data is very unlikely.
Essentially, the thesis is that we are buying NUVB at a substantial discount to its liquidation value with the expectation that its remaining drug candidate will fail to be viable, at which point the company will throw in the towel and return its excess cash to shareholders. However, if that expectation proves to be wrong and the drug candidate shows promise, the stock could positively re-rate and we likely still win.
Importantly, in neither Scenario is there a substantial risk of permanent loss. Because there is a high probability that one of these two outcomes unfolds, NUVB offers a large margin of safety at the current share price.
While it is common for pre-revenue biotechs to trade at a material discount to cash – with the premise being that the company is likely to burn that cash on funding the development of what will turn out to be an unviable drug pipeline – I think the risk of management throwing good money after bad here is very unlikely. I base this assertion on high levels of insider ownership (with shares acquired at a much higher cost basis than today’s share price) and an unusually reputable management team and board (who surely want to preserve that reputation) that has shown an equally unusual (for a biotech) discipline towards cash preservation throughout this otherwise disappointing saga.
Background
Nuvation Bio is a child of the 2020/2021 SPAC bubble.
It was formed in 2018 by billionaire David Hung, with the aim of developing experimental cancer drugs.
Prior to founding Nuvation, Hung was the founder and CEO of Medivation, which successfully developed a prostate cancer drug before being sold to Pfizer for over $14 billion in 2016. This made Hung a star in the biotech world.
Following the sale of Medivation, Hung joined Axovant as CEO, which was developing an Alzheimer’s drug licensed from GSK. Although his Axovant tenure was unsuccessful – the drug failed its Phase 3 trial – it speaks to Hung’s reputation in the biotech world that shares of Axovant jumped 28% on the news that he would join as CEO.
After Axovant, Hung and other senior leaders from Medivation linked up to start Nuvation, which was described as a “Medivation redux, with a large pipeline of experimental drugs for tough to treat cancers.” Given the team’s reputation, Nuvation had no issues raising cash from investors. In 2019, the company raised $275 million in a Series A that was led by Omega Funds and included other notable investors such as EcoR1 Capital, Fidelity, and value investing legend Seth Klarman’s Baupost Group.
The following year, Nuvation announced its intention to go public via merger with Panacea Acquisition, a SPAC run by EcoR1. In addition to $144 million held by Panacea, Nuvation raised more than $500 million at $10/share from the merger from many of the pre-existing Series A investors, including $20 million from Hung personally, as well as host of new investors.
Altogether, Nuvation went public with a cash balance of $850 million, which was, even for the SPAC mania, an unhinged sum for a company with not even a single drug in Phase 1 at that time.
Unfortunately for these early investors, the investment has been nothing short of a disaster, with the stock down over 86% percent since going public in February 2021.
So, what happened?
NUVB went public with a large pipeline of drugs in preclinical stages:
In May 2022, the company announced that it would be “deprioritizing” the NUV-569 and A2A programs to further focus on NUV-422, NUV-868, and the DDC platform. (As an aside, despite abandoning these two programs, I do think it speaks to management’s aforementioned discipline with respect to cash preservation that they chose to move away from further expenditures on these programs prior to beginning trials despite having $740 million of cash available at the time.)
A few months later, the company then announced it would discontinue NUV-422, its most advanced program, because of an “internal risk-benefit analysis” following the pausing of a Phase 1/2 study by the FDA after patients developed eye inflammation. Along with this announcement, the company disclosed a 35% reduction in work force and other cost savings, which would provide it with cash runway until 2028 to fund the remaining two programs in its pipeline: NUV-868 and the DDC platform.
In addition to the discontinuance of the majority of its programs, including the company’s most advanced candidate, the precipitous decline in the stock price can be attributed to the drastic souring of sentiment towards all things biotech brought upon by the end of the zero interest rate era (the XBI Biotech ETF declined more than for 50% from its peak in February 2021, and has yet to recover much of that loss). Pre-revenue biotech companies are extremely sensitive to rising interest rates given their necessary reliance on external financing to fund their growth. However, as further discussed below, a well-funded biotech carrying a healthy amount of cash and/or marketable securities on its balance sheet may stand to benefit from higher rates, as interest income earned on cash balances can mitigate cash burn.
The Company Today
Nuvation’s story today is much simpler with only two extant programs in the pipeline. I won’t get too into the science as I am treating any value to the programs as secondary to the thesis (though if you’re interested, the company’s recent investor deck goes into significant detail). The stages of development, however, are important as it informs when a potential liquidation might be expected.
NUV-868
As noted, NUV-868 is the company’s lead remaining asset. It is a BD2-selective BET inhibitor for the treatment of advanced tumors. In March 2022, the company initiated a Phase 1 monotherapy dose escalation study of NUV-868 in patients with advanced solid tumors. In December 2022, the company initiated a Phase 1b dose escalation study of NUV-868 in combination therapies with Olaparib and enzalutamide. Treatment remains ongoing in both the Phase 1 and Phase 1b studies.
I expect clarity on whether NUV-868 has met its primary Phase 1/1b endpoints – and therefore whether the program should be continued – within the first half of 2024.
Drug-Drug Conjugate (DDC) Platform
The company’s remaining (and less important) asset is its DDC platform, which is designed to selectively deliver potent anti-cancer therapeutics directly to cancer cells, thereby increasing their efficacy against target tumor cells while minimizing damage to healthy, non-target tissues. The company is preparing to advance its first clinical DDC candidate and expects to submit an Investigational New Drug (IND) application to the FDA by the end of 2023. While there may be some upside optionality to DDC, I don’t consider it a material element of the investment thesis. The company’s financial commitment towards this program appears to be limited, given its clear focus on NUV-868. Cash burn for this program will be limited and I think it is very unlikely the company would prioritize developing the DDC program over liquidation (or another form of strategic alternative) if NUV-868 is discontinued.
What Happens Now?
Much of NUVB is still owned by its Series A and SPAC investors, with substantial stakes held by Fidelity (~15%), EcoR1 (~9%), and Omega (~7.5%). (Notably, EcOR1’s principal Oleg Nodelman, who is also on the board of directors, recently purchased an additional ~$7 million on the open market around today’s prices.) Additionally, the President and CEO David Hung is also the largest shareholder, personally owning 27% of the company. Given this high (and increasing) level of insider and institutional ownership, I think management is very unlikely to squander the cash on funding futile drug development.
While there may turn out to be some value for the DDC platform, the company’s immediate future primarily hinges on the prospects of NUV-868, which are likely to become clear within the next two quarters.
If the data is promising, then I expect the market to start ascribing some value to the business. How much value will be contingent on how much promise NUV-868 shows, but surely it is something higher than the current negative $320 million enterprise value it currently boasts.
On the other hand, if the readout is poor, then I expect management to promptly initiate a strategic review. Though I think a liquidation would be the likeliest outcome of a strategic review, the mere announcement of a review itself is likely to be a catalyst to send the stock higher. Indeed, net-net biotechs announcing strategic reviews have been a huge source of alpha over the last couple years (just a few, of many, examples include: THRX; TALS; CYT; IMRA). Given Nuvation’s significant discount to cash, I think we are likely to make money the moment the company announces a strategic review.
Liquidation Value
What’s it worth if NUV-868 fails and the company liquidates?
As of its last quarterly update, the company has $24 million of cash and $595 million of marketable securities. Based on the company’s disclosures, we know that the marketable securities portfolio is predominantly short-term US government debt and other highly liquid, short duration instruments. Therefore, it is probably fair to treat the entire portfolio as cash. Absent any haircuts, after subtracting the full value of the liabilities on the balance sheet, we are left with a net current asset value of over $600 million. However, to be extra conservative, I am reducing the value of the marketable securities by 5%. This likely overly punitive, especially given that the current downward trajectory of interest rates has likely increased the fair market value of this portfolio.
Annualizing NUVB’s cash burn in Q3 2023, I expect cash burn of $95 million for the next four quarters, which is how long I anticipate it will take NUVB to fully wind down and liquidate if NUV-868 fails. This, again, reflects a relatively conservative assumption, given that in the liquidation scenario management will likely implement further cost mitigation measures to preserve cash as soon as NUV-868 fails – i.e. likely early as Q2 2024.
As I mentioned previously, here we see the value of high interest rates for a well-funded biotech, as the company should earn at least $25 million on its cash balance in the next 12 months (I am being punitive and assuming only 85% of the securities are earning a return). This offsets nearly 1/3 of the company’s annualized next 12 months’ cash burn.
The company incurred $6 million of severance charges after cutting 35% of its work force in August 2022. Based on that, the implied severance costs for the remaining 65% would be around $11 million. However, given that the remaining employees are likely more valuable and higher earning, I add an additional $4 million, for total severance charges of $15 million. I also add an additional $5 million for other winddown costs, which is likely aggressive.
After accounting for some dilution, I arrive at a conservative liquidation value of $2.20/share vs. today’s price of $1.37, or 61% upside within a year. Given what I think are quite punitive modeling assumptions, I actually expect the company’s liquidation value to be closer to $2.30-2.40, or greater than 70% upside.
Note, this analysis ascribes no value to the company’s DDC platform, which may add some additional hidden upside.
Risks
Other Strategic Alternatives: A common outcome in strategic reviews involving busted biotechs is a reverse merger, rather than a liquidation. Often, these mergers are value destructive for shareholders (though certainly not always) because they may be pursued for the wrong reasons, most commonly so that management may keep their jobs.
In NUVB’s case, it appears the risk of a value destructive reverse merger is very slim, given Hung and co. have far more economic interest in the equity than they do in their continued compensation. Further, the presence of several large, financially savvy shareholders – who will surely object to any unfavorable deals – also mitigates this risk. Therefore, even if a reverse merger is pursued, I expect it be on fair terms to shareholders.
Mediocre Phase 1 Data – Beyond the foregoing of liquidation for a more value destructive alternative like a reverse merger, the biggest risk I can see here would be a mediocre data read out for NUV-868. That is, a situation whereby the Phase 1 data for the program is not promising enough to excite shareholders and rerate the stock, yet not negative enough to discontinue the program. The fear then becomes that management will burn the cash on Phase 2 funding for a program that will turn out to be a bust down the road.
While this is certainly a risk, I am not particularly worried about it for two reasons. First, as I continue to emphasize, because management’s incentives are aligned with those of the shareholders, I don’t see them incinerating their sizeable equity in the business for a low probability bet. And, indeed, we have already seen this management team abandon drug candidates despite having the ability to further fund them. Second, even if Phase 1 data is mediocre and the shares don’t rerate, I find it hard to imagine the stock falling on this news. Therefore, there will still be an opportunity to exit the position without a material loss if it looks like management wants to go down the road of further funding.
Why the Opportunity Exists
There are several reasons the opportunity exists:
Initial Overvaluation – A product of the SPAC boom, the company went public at an absolutely untethered valuation and has done nothing but obliterate shareholder value in its short history. The story has thus far been one of over promising and underdelivering.
SPAC Stigma – Relatedly, NUVB is plagued by the negative stigma associated with the SPAC boom. The large majority of companies that went public via SPACs have failed to live up to investors’ expectations and trade at a fraction of their initial offering price.
Tax Loss Selling – Given the massive fall in NUVB’s share price, investors have been indiscriminately selling to harvest tax losses, especially institutional investors whose tax season ends in October. This trend was evident when the stock plummeted to $0.95, its all-time low, on October 31.
Liquidity – NUVB is a small and relatively illiquid company, and its shares only see an average daily volume (ADV) of approximately 1.5 million shares.
Broader Market Trends – Both NUVB and the broader biotech sector, as tracked by XBI ETF, peaked around the same time in early 2021. Although market sentiment remains poor, it has begun to show signs of recovery.