Exelixis (EXEL) - Great Research, Poor Business Model
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Exelixis has the broadest array of early stage cancer drugs being delivered at ASCO, with four different abstracts (3522, 5103, 3510, and 8028) covering four new drugs as treatments for four different cancer types. Click here for the May 13, 2008 analyst presentation from Dr. George Scangos, President & CEO of Exelixis. He makes a cogent case for all of the marquee drugs in their pipeline.
Exelixis is clearly an excellent research company. My problem is that I don’t think the business model works. Exelixis passes on their best drugs to large partners in exchange for a “double digit” revenue stream. As I work through the numbers, a 10% royalty revenue stream on future blockbusters is not enough to finance ongoing operating expenses until perhaps 2015. In the meantime, Exelixis will continue to need outside financing — over $400 million on my numbers.
Even with extraordinary success in their drugs — my base case looks for $6 billion in sales by 2017 — Exelixis has a current value for me of only $2.15. I would avoid the stock until management communicates an improved business model.
Exelixis: Big Pipeline, No Profits
The table below shows my calculation of current value for Exelixis given various levels of success in their drug sales. As you can see, they would need $4 billion in partner sales to break even. Even at $10 billion in partner sales, the net present value for Exelixis shares using a 20% discount rate is only $4.70.
| Exelixis - 10 year time horizon ending in 2017 | |||||
|---|---|---|---|---|---|
| Income Statement | Scenario Analysis | ||||
| Partner Sales | $2 billion | $4 billion | $6 billion (Base Case) |
$8 billion | $10 billion |
| Exelixis Royalty % | 10% | 10% | 10% | 10% | 10% |
| Royalty Revenues | $200 mm | $400 mm | $600 mm | $800 mm | $1,000 mm |
| Other Revenues | $113 mm | $113 mm | $113 mm | $113 mm | $113 mm |
| Total Revenues | $313 mm | $513 mm | $713 mm | $913 mm | $1,113 mm |
| Operating Expenses | $481 mm | $481 mm | $481 mm | $481 mm | $481 mm |
| Operating Income | -$167 mm | $32 mm | $233 mm | $432 mm | $632 mm |
| 2017 EPS | -$0.66 | $0.08 | $0.61 | $1.24 | $1.82 |
| NPV of EXEL at 20% IRR | $0.00 | $1.01 | $2.15 | $3.53 | $4.70 |
View the spreadsheet used for this analysis of Exelixis.
As I see it, here is Exelixis’ business plan:
- Raise capital - through a combination of equity sales to the public, loans from partners and up-front payments from partners.
- Build effective drugs - which they seem to do extraordinarily well.
- Sell the drugs - for a 10% royalty, the best drugs are sold back to the partners that have provided much of Exelixis’ financing.
- Book the losses - and repeat.
This whole game does not deliver value to the common shareholder. And the game can end so easily. All it takes is a cessation of new financing. Exelixis raised $243 million in equity financing during the last three years, and I think they need at least that much over the next three years to stay liquid.
In my opinion, Exelixis has to change the script here. That can be very hard to do, so I would wait until management communicates a new game plan.
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