NVCR - NovoCure Limited: Record Losses Falling Margins And Downward Momentum

2023-08-23 09:04:00 ET

Summary

• NovoCure sells and develops devices intended to treat solid tumor cancers using physical forces related to electric fields.
• The firm’s sales growth ended in Q3-2020, and since then operating and net margins (LTM) have been deteriorating. Its number of common shares climbed 27% since 2016.
• Despite risks like impending clinical trial data and news related to the company’s plan to submit a PMA, the firm's record losses and downtrending stock offer an opportunity for bears.

About

NovoCure Limited (NVCR) sells and develops devices intended to treat solid tumor cancers. Its products use a proprietary technology called Tumor Treating Fields ("TTFields") which attempts to kill cancer cells using physical forces related to electric fields. As the firm's Q2-2023 10-Q explains:

Our key priorities are to drive commercial adoption of Optune, our commercial TTFields device… Optune is approved by the U.S. Food and Drug Administration ("FDA") under the Premarket Approval ("PMA") pathway for the treatment of adult patients with newly diagnosed glioblastoma ("GBM") together with temozolomide, a chemotherapy drug, and for adult patients with GBM following confirmed recurrence after chemotherapy as monotherapy treatment. We also have a CE certificate to market Optune for the treatment of GBM in the European Union ("EU"), as well as approval or local registration in the United Kingdom ("UK"), Japan, Canada and certain other countries.

In the most recent quarter, sales from the United States, Germany, and Japan accounted for 69%, 12.4%, and 6.2% of total revenues, respectively.

Financials & Multiples

NovoCure's revenue (LTM) peaked in Q3-2021, ending a streak of growth going back to at least 2016. Operating and net income (LTM) are both at record lows since 2016, according to data from StockRow . Free cash flow (LTM) has been declining since Q2-2021 and just fell negative for the first time since Q4-2018.

Operating and net margins (LTM) have been deteriorating since Q3-2020. On the other hand, the firm's gross margin (LTM) has been relatively stable since Q1-2020 and has hovered in the 75-80% range since then.

NovoCure's number of common shares has been rising since 2016 and is up around 27% since then. The firm's asset turnover ratio (quarterly) peaked in Q3-2020 and is down 57% since then. Net debt (quarterly) appears healthy; it has been negative since 2016 and is near a record low.

The firm's P/S, EV/S, and P/B (quarterly) are near the bottom of their historical ranges. Since valuations aren't elevated, a short position on this stock involves betting on sentiment staying sour (or getting worse), not betting on a reversion of extreme sentiment/hype.

Risks

NovoCure expects to submit a premarket approval ((PMA)) for LUNAR sometime in H2-2023, which would follow the recent successes the firm shared in June from the LUNAR phase 3 trial. Patients saw a 3-month improvement in median overall survival ((OS)), and the firm says it's been more than seven years since a post-platinum therapy treatment delivered such strong improvements to patients' survival. Future positive announcements regarding this PMA could excite investors and cause sudden price rises and/or upwards gaps that would harm short positions.

The firm is awaiting data from multiple clinical trials that it expects to emerge later this year and in 2024. Its phase 3 INNOVATE-3, phase 3 METIS, and phase 3 PANOVA-3 trials are expected to release data in H2-2023, Q1-2024, and H2-2024, respectively, per the recent quarterly release . Announcements related to these trials could improve investor sentiment and push up share prices.

In the most recent quarter, the firm increased its investments in pre-launch activities and geographic expansion, driving a 31% YoY rise in sales and marketing expenses. Those investments could lead to improved revenue growth, market share gains, and other operational improvements that could impress investors and cause them to reprice shares.

NovoCure's expansionary efforts could increase the odds of the firm delivering upside surprises in the future. The recent Optune launch in France was successful, and NovoCure plans to sell next generation arrays in several new markets later this year. The firm recently saw a 13% YoY increase in the number of prescriptions received.

Potential Catalysts

The clinical trials mentioned above are double-edged swords, since they could also produce disappointing results that sour investor sentiment further and place additional downward pressure on the stock.

Also, NovoCure noted in its FY-2022 10-K that the COVID-19 pandemic has disrupted operations and could continue to do so. If the pandemic persists and/or accelerates, it could limit patients' willingness to travel to treatment sites or use in-home treatment assistance, leading to a lower number of prescriptions for NovoCure's treatments and a potential drop in investor sentiment.

Execution

Shorting a stock is a bet on where its price goes, not necessarily the fundamentals of the business. Since there is statistical evidence of trends in equity markets, investors who apply a scientific mindset should probably focus on shorting companies that are in a downtrend or close to starting one. Then, fundamental and macro factors can be additional requirements investors use to refine their screening process and become more selective.

NovoCure's stock has been in a long-term downtrend since June of 2021, per finviz .

On June 6 of this year, the stock broke below a multi-month trading range and has been making new lows since.

It may be sensible to consider being bearish on this stock only while the downtrend remains in play, perhaps by requiring that the price stays below its rolling average (30, 50, 100, 200-day, whichever has stronger evidence).

Since NVCR is a biotech stock, it has an elevated risk of seeing large upward price gaps in the event of unexpected good news. As a result, investors who wish to bet against the stock should consider mitigating gap risk by buying out of the money (OTM) puts or by structuring their bearish bet using only option contracts rather than short-selling the stock itself. Potential option trades that lean bearish include bear put spreads, bear call spreads, and long put positions; the ideal choice depends on prevailing prices (implied volatilities) of NVCR's options.

All else equal, I believe bearish positions are less likely to succeed than long positions, mainly because downtrends tend to be more choppy and harder to exploit than uptrends. Also, in many market environments, declining stocks are harder to find, and those that are in a downtrend tend to already be at a discount compared to industry average multiples. That said, I believe it's still worth noting short ideas that have multiple supporting factors (price trend, declining fundamentals, etc).

Bottom Line

NovoCure's deteriorating margins, stagnating sales, record losses, and downward stock momentum present an interesting short opportunity for investors. While its price continues to trend, the stock could be a reasonable bearish position for investors with a momentum-inspired strategy to consider.

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