OMER - Omeros Corporation - Still Looking Too Risky For A Buy Rating

2023-07-21 17:06:20 ET

Summary

• Omeros Corporation's share price has seen significant run-ups in recent months despite disappointing first quarter results in 2023 and the company's lack of profitability.
• The company was awarded $6.69 million from the National Institute on Drug Abuse for its program OMS527, which focused on the treatment of cocaine use disorder. However, it also has $344 million in long-term debts.
• Omeros' future heavily relies on FDA approval of its drug candidates, particularly Narsoplimab, and faces intense competition in the biopharmaceutical sector.

Investment Outline

Most companies that aren't profitable yet and operate in the pharmaceutical industry often see massive run-ups as the result of positive approval news, or just the fact that some institutional investment firms make a significant investment. For Omeros Corporation ( OMER ) the last few month's run-ups in the share price don't make sense. The first quarterly results in 2023 were a disappointment as the EPS was missed by $0.09. This seems a big deal seeing as OMER is far from profitable still and there is likely to be many more years with this until OMER posts its first positive EPS.

I remain quite bearish on the company still as even though the technology and discoveries the company has achieved are interesting, it needs to translate into a profitable business model, too. Right now, that isn't the case and continuing share dilution through capital raises seems likely. This would hurt even a hold rating, which brings me to my rating for OMER, a sell. Significant EPS improvement would be necessary to view OMER in another way honestly.

Company Overview

OMER dates back to 1994 and has developed into a company that focuses on small-molecule and protein therapeutics. Their product line consists of orphan indications that are targeting inflammations but also engage in producing medicines for people suffering from addictive and compulsive disorders. The product that investors are looking mostly at is the IgAN and the potential opportunity of Narsoplimab's HCST potential addressable market. OMER still seems in the early stages of growing into a sustainable presence in the pharmaceuticals space.

Recent Developments

Back in April 2023, OMER was awarded $6.69 million from the National Institute on Drug Abuse. OMER has a program called OMS527, which is focused on the treatment of cocaine use disorder ((CUD)). The award comes as a result of and needs to advance medication development for substance use disorders. OMER will be responsible for reaching the set objectives that the award had in mind, those benign to conduct interaction/toxicology studies and secondly the successful completion of a set of studies looking at the safety and reliability of OMER's lead oral PDE7 inhibitor.

OMER is still in its early days of operation and posting negative net losses is quite common for these newer companies. But what brings some risks and worries for me about the outlook was the miss on EPS in Q1 FY2023. The quarter produced a net loss of $0.54 per share, up on a YoY basis. Looking at the balance sheet from the quarter OMER does sit in a somewhat decent position. The short-term investments are higher than any year before at $367 million, which is higher than the market cap even. But OMER also has $344 million in long-term debts and pays around $25 million in interest expenses. This is putting a fair bit of financial pressure on the company in my opinion. I think more dilution in the short term seems very likely.

Margins

The margins for OMER are quite nonexistent. The company is barely generating any revenues and seeing any form of positive margins is likely many years out.

This of course makes the current price very volatile and lacks fundamentals to trade on. Even looking at just the p/b the company trades at a p/b of 6, which is 178% above the sector's average of 2.19. This leaves significant downside potential as the share price would need to adjust when the outlook becomes less positive and profitability further away.

The company has recently highlighted the phase 3 ARTEMIS trial's significance, which is evaluating Narsoplimab in the IgA nephropathy (IgAN) setting. The anticipation is that top-line results from this trial will be disclosed by Q3 2023. However, it is essential to note that there have been instances of the management not adhering to their promised reporting timeline in the past, with delays observed in both the HSCT-TMA and IgAN trial results without clear updates.

Despite this historical uncertainty, during the latest call , the management's tone seemed more confident about meeting the Q3 2023 reporting deadline. Investors should keep a close eye on any updates provided by the company to gauge progress accurately. Timely and transparent communication from the company would be crucial in instilling confidence in its ability to adhere to the projected timeline and deliver meaningful results from the ARTEMIS trial. Additionally, ongoing monitoring of the trial's progress and any potential delays should be considered while evaluating the investment prospects of the company. Seeing solid progress in clinical trials will help current investors in the company, but unfortunately, it is still a very speculative pharmaceutical company.

Financials

It should be stated that the financials of OMER are in a difficult position, I think. They are as we know in the early stages of getting their products up and running and starting to generate revenues. Until then strict capital management needs to happen. With $371 million in cash I estimate they can cover all the operating expenses and debt obligations until 2025 at least.

OMER relies on getting capital from outside sources to fund operations. Back in early 2023, they got an additional $200 million from Rayner Surgical which bolstered the financial position. But operating like this isn't sustainable in the long run and if profitability isn't achieved by 2025 then OMER once again risks facing running out of money.

Diving deeper into the financials, the long-term debts are currently $344 million, which is recoverable by cash, but after that, it doesn't leave much more in terms of funding operations. The operational expenses for the last 12 months are $163 million, where nearly 60% is from R&D expenses. With a negative EBITDA, the risk of failing to pay down debt seems quite high here. Relying on outside sources for funding is certainly an added risk for investors. Disappointments in raising capital will most likely result in the share rate significantly declining as operations would halt. Even though capital is enough until 2025, that is too far out and the pressure to find more is great.

Risks

OMER's future heavily relies on the FDA's approval of its crucial drug candidates, particularly Narsoplimab. A favorable decision would pave the way for successful drug development, bolstering the company's financial performance and outlook. However, any adverse ruling or prolonged deliberation by the FDA poses a significant risk, potentially derailing the progress and impacting OMER's growth prospects.

Moreover, the biopharmaceutical sector is intensely competitive, with multiple companies vying to develop therapies for similar medical conditions. In this competitive landscape, gaining regulatory approval for drugs ahead of OMER or having more effective treatments could pose a significant challenge, limiting the market opportunity for OMER's candidates. Vigilance in monitoring the regulatory progress and advancements of competitors' therapies is vital for investors to assess OMER's position and potential market impact effectively. Being aware of these competitive dynamics will help in making informed investment decisions in the biopharmaceutical sector.

Company vs Peers

Instead of going with an unprofitable company like OMER which makes various pharmaceutical-related products, I think sometimes it is better to just go with the large business. Johnson & Johnson ( JNJ ) is an incredibly established company in the healthcare sector that has the capital behind itself to make strong investments and fuel new developments. Besides, investors can straight away start collecting value as JNJ has a dividend yield of 2.99% and is buying back shares too. JNJ is also trading below the sector based on earnings, 25% below at a p/e of just 15. I think this limits the downside and presents stronger upside potential than OMER currently has.

Investor Takeaway

Investing in companies that aren't profitable and rely heavily on FDA approval is a risky business as most investors know by now. I view OMER as such a business and wouldn't deploy any capital until there is at least some proven profitability and consistency over several quarters. I have made it clear that I think the risks here are too much. But let's evaluate what the possible valuation might be for OMER if they achieve the estimates which are set for them. By 2027 the market sees them reaching $1.02 in EPS, with a p/e of around 14. Given the small size of the company and the missing track record of reporting a positive net margin that seems fair. A 14x earnings multiple would yield a target price of $14.28. That would be around 167% above the current share price or an annual return of 33.4%. But again, the amount of risk that is present here given their necessity to get approvals and then begin production might have the first positive EPS even further out. Five years feels too quick for me to reach that stage.

As it seems to be many years until we get a profitable bottom line, I find an existing investment facing a lot of risks still. Because of this, I will be rating OMER as a sell.

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