Investment Analysis: SIGA Technologies (SIGA)

The investment analysis below is our ninth in our ongoing series of guest write-ups, and is brought to you by friend of the blog Ryan Morris. Ryan is managing partner at Meson Capital, a focused, value oriented hedge fund based out of New York/Toronto (we would note that Ryan is also a Contributor at Sum Zero, a member of both VIC and DDIC, as well as the newest “value voice” at the fantastic CGI Value). Meson was formed in February 2009 and has returned north of 400% net to partners since its inception (fwiw, we actually had to rub our eyes a bit the first time we saw it, incredible no?). Anyhow, we found Ryan's write-up on current AAOI Partners Fund holding SIGA Technologies (SIGA) to be not only cogent and concise, but particularly timely given the companies recent developments and the minimal reaction to what was undoubtedly a game changing event for the company and its future.

Enjoy!

Thesis:

SIGA is a biotech that has recently jumped but similarly to GYRO or PRXI it has been largely de-risked from an anticipated contract pre-announcement but still presents a 2-3X upside due to significant uncertainty in the end result. This uncertainty is only perceived risk as the situations that justify a stock price lower than the current $12.10 seem extremely unlikely. The near-term uncertainty is being caused by two lingering lawsuits that should be cleared up in the next 3-6 months which I believe are both baseless and in the worst case immaterial to the main thesis. It's a classic high-uncertainty, low-risk situation.

The primary thesis is that BARDA has pre-announced that they are going to award a contract to SIGA for up to $2.8B for smallpox treatment ST-246 (not vaccine, the stockpile already has vaccine, this is the only known cure for smallpox, it's impressive innovation) for the national stockpile. The first, almost-confirmed batch is for 1.7M doses at $300M/dose for about $500M at first with follow on options (at lower $/dose) up to $2.8B. This is a contract that has already been announced and assumes zero value for international orders or other products – they are working on other drugs and from what I understand have made good progress on an anthrax treatment.

The valuation is subject to great uncertainty of course because we don't know how many options will be exercised by the BARDA contract. At 46M shares out now it seems pretty easy to get to a $30 stock price just from this one contract and potentially much higher with international orders and the potential value of the rest of their pipeline.

There is one other competitor who is working on a serious treatment for smallpox, CMX-001 from Chimerix. They were not awarded the contract as the RFP from BARDA required a primate effectiveness study and they did not have one yet. This is all part of an initiative created in 2004 called Project BioShield which was reiterated in Obama's 2010 State of the Union speech:

http://www.bioprepwatch.com/news/211804-president-speaks-of-new-bioterror-initiative-in-state-of-the-union.

So I expect there is some imminence to this and they don't intend to wait for a competitor for several more years to create the stockpile. The stockpile needs to be renewed continually as drugs expire, so there is room in the market for two competitors going forward and I wouldn't be surprised to see Chimerix and SIGA both in the program 5 years from now, though I don't have any insight into how effective Chimerix's treatment is, while SIGA's is solidly proven already.

The two (dumb) lawsuits creating near term uncertainty are:

1) Competitor Chimerix filed a complaint with the SBA that SIGA should not be considered a small business despite the fact that it has 55 employees and <30M in revenue because Ron Perelman through MacAndrews & Forbes owns a significant amount (about half) of the company and so they think it should be considered an affiliate. The SBA amazingly just recently ruled in favor of this reasoning which is why the stock dropped 20% on Monday morning (though finished the day only down 5% or so). The company announced that they are working on multiple ways around this, the obvious and easy thing would be if Perelman just reduced the stake but I don't think he will have to. For one, while the RFP was a small business set aside there was no reason that it had to be. The main thing though is that this is a smallpox treatment, it's hard, it's not contracting out paving a road or something. If a technicality based on someone owning 45% vs 30% of a company prevents the country from being protected from smallpox, I'm moving to one of Peter Thiel's seasteading countries or something. I just don't think something that obviously dumb can happen in this country, but I'm an optimist!

2) PharmAthene (PIP) is suing SIGA essentially for a cut of the contract because in 2006 they had a potential merger that fell apart and PIP was supposed to get distribution rights to ST-246. From my understanding all of the documents from 2006 said “non-binding” on every page and even in the worst possible case and PIP won and got a cut as much as they might have in distribution, it seems like it would be a 10% expense, so for a stock with 2-3X upside it's not meaningful enough to change the equation. My personal interpretation on the issue is that PIP was hoping to get a pound of flesh in a settlement (but SIGA said on their recent CC that they don't intend to settle and will go to trial) or get their stock price up so they could raise more money – which actually did just happen. Now that PIP isn't in a desperate, cash-poor situation due to their recent SIGA-news-assisted capital raise, I would expect them not to fight to the death over something they're probably going to lose anyways.

Coat-tailing Ron Perelman is no longer a major part of the thesis, as it was before the contract was pre-announced (I should say announced but until the SBA deal is settled it is just an intended award). However, it is comforting that he is involved as I doubt he'd ever be hurt by what seem like very weak lawsuits whereas a company with weaker backers may have to compromise on pricing or a rich settlement.

Variant View

The contract has still not technically been awarded, BARDA has only stated their intent to give the award. The recent SBA determination http://www.fiercebiotech.com/story/wsj-sigas-billionaire-owner-could-derail-28b-drug-contract/2010-11-08 has given a nice entry point and is a problem that should be able to be dealt with fairly swiftly. It seems extremely unlikely that a technical hiccup derails the whole process and forces the US to wait an extra several years for protection from smallpox when it was spoken about in the current year's state of the union address.

Update (Nov 23, 2010):

On November 18 (i.e., immediately after Ryan wrote the above thesis), SIGA released the following press release that indicates the end game here will likely be a function of BARDA simply having the small business set aside removed from the contract. This conclusion is further bolstered by a close reading of BARDA's recently released RFI. Honestly, it doesn't take a genius to read between the lines here and realize that both the recent press release and RFI (both of which are embedded below) are meaningful signal's that SIGA's contract issues will are likely to be resolved within the next few months.

SIGA Press Release (11/18)

Request For Information (RFI)

Attached is the RFI that BARDA issued last week to request information on whether or not any small businesses can fulfill the smallpox contract requirements. We would note that this is pretty tightly written around SIGA (i.e., it discusses manufacturing capabilities and increases importance of the primate study – both capabilities that Chemerix almost certainly does not possess at this point) and it has a deadline for responses by November 29 (i.e., a very short turnaround).  Again, a considerable amount of anecdotal evidence (and a little common sense) suggests that Chemerix is years away from meeting the RFI's requirements, and hence SIGA is the only company capable of delivering on the BARDA contract for the foreseable future.

Special Notice No.: SS BARDA 2010 Small Pox Antiviral's