Personalis (PSNL) is a stock which I have watched with great interest since it went public earlier this year, yet in August I was forced to conclude that the potential growth champion has much to prove. That observation has proven to be correct with shares down to $10 at the moment of writing following disappointing (commercial) sales, although the low valuation and conference call give me enough confidence to initiate a small speculative long position.
The Business – Personalised Health
Personalis describes itself as a cancer genomics business which aims to change the way in which next-generation therapies are being developed. The company aims to do this through providing a comprehensive set of molecular data. With this, individual cancer treatment and immune responses can be developed. The personalised approach is supported by the NeXT Platform, providing information on over 20,000 human genes.
What I liked at the time of the IPO was the mere observation that more than 50 pharmaceutical companies make use of the NeXT platform, as real improvements in cancer treatments are required with survival rates for many types of cancer remaining very low. This observation and the fact that Personalis was founded by a former executive of Illumina (ILMN), which of course is an authority in this field, is what compelled me to Personalis. This is certainly the case as the list of pharmaceutical clients includes big names such as Pfizer (PFE) and Merck (MRK), among others.
The Valuation And Numbers
Personalis went public in June of this year when the company and its underwriting syndicate sold nearly 7 million shares for $17 per share. Shares initially rose to $30, only to now have settled at $10 per share.
With 28.5 million shares outstanding, equity of the business was valued at $484 million at the offer price, as that valuation included a net cash position of $135 million, resulting in an operating asset valuation of around $350 million.
At $30 per share, that operating asset valuation has more than doubled to $720 million, yet now at levels around $10, expectations are very low, with operating assets valued below the $200 million mark.
The reason for my cautious optimism around the time of the IPO was that of growth and the long-term promise of the business. 2017 results were far from promising with sales of just $9.4 million on which the company reported an operating loss of $22 million. Sales quadrupled to $37.8 million in 2018, with operating losses narrowing to $13.8 million, both being encouraging trends.
At the time of the IPO the company traded at 9 times sales which seems high, yet recognise that sales quadrupled in 2018, although it should be said that roughly half of total sales were generated from the Veterans Affairs Million Veteran Program.
My optimism was based on the fact that first-quarter sales in 2019 totalled $14.1 million, although the company reported an operating loss of $5.4 million, with a 59% reliance on the MVP program. Second-quarter sales for 2019 were reported in August, with sales totalling $15.8 million, while the reliance on the MVP program fell to 54%, and operating losses narrowed to $4.1 million.
My concern in August was that of a conservative guidance, with full-year sales seen at $60-62 million, while sales already totalled $29.9 million in the first half of 2019. This lack of growth on a sequential basis made that I was not a buyer of the shares, although I noted that management might have been deliberately conservative.
The Key Third-Quarter Numbers
Despite the disappointing full-year sales guidance, Personalis reported solid third-quarter sales numbers with revenues increasing to $17.2 million, as the company furthermore booked another $38.1 million task order from the MVP. Disappointing is that 75% of the third-quarter sales were generated from this program, leaving just $4.3 million in ”commercial” revenues, actually quite a shortfall from recent quarters. It should be stressed that these orders and related sales can be very lumpy, as is evident by now. Additionally, operating losses increased a bit again to $5.7 million, not encouraging either.
For the year, the company sees full-year sales of $64.5-65.0 million, suggesting $17.4-17.9 million in fourth-quarter sales, as the company guides for 2020 sales of $77.5-83.5 million.
The bright news is that cash and equivalents total $127 million following the IPO proceeds, without debt appearing on the balance sheet. A share count of 31 million now translates into a $310 million valuation at $10 per share, or at less than $200 million if we account for net cash holdings. This results in a forward sales multiple of 2.5 times for a business with potential, although it is losing money, relies largely on a large customer, yet sees sales growth around 25% a year.
The main problem, while growth is there and seen in 2020, which makes that the original sales guidance has proven to be conservative, is the quality of growth. In fact, commercial sales are down and the company is no longer narrowing its operating losses. On the conference call, management did fortunately say that commercial revenues are expected to pick up from the second half of 2020 onward. Commercial sales are seen at $21-25 million next year, up from a current run rate of just $17 million a year.
I continue to reiterate my previous stance and that is that it is very hard to see how competitive the business is and how strong the relationship with the MVP is, and will continue to be. All of this being said, the valuations have come down so much in a rapid fashion that current levels start to look very compelling given the long-term potential of the business.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in PSNL over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.