Really important things are happening for MSB, even if Aussie retail investors don't see it. I don't think people recognise the huge potential of Joanne Kurtzberg's independent trial - she is convinced that the MSB cells are saving her patients' lives and that 99% of the kids she treats for SR-aGvHD will use Remestemcel-L. So, I'm not in the camp that thinks MSB will only gain a 50% market share in the US when it is approved.
Also see Dr Kurtzberg's comments below re off label use and label extension (I previously included them in a note in late May). Once the FDA grants approval for paediatric aGvHD, her recently announced trial for chronic GvHD will be used to apply for a label extension. It won't need to be a big trial - probably 20 or so chronic cases - and she is already treating chronic cases, so it won't be hard to recruit. She wouldn't run this trial if she didn't already have some idea it would work (in my opinion). Then we'll probably see another extension into adults, and finally into another 20 to 30 extensions. THIS COULD BE HUGE!
It appears that Aussie retail holders may have been selling in the past six months and that the Prof has been successful in gaining some new insto investors around the world - and that they have been quietly picking up retail selling in Australia, with Vanguard buying in several Australian and global index funds. It looks like retail holders now only hold 16.8% of MSB - though there could be some double counting in the insto figures.
It appears that index funds have bought 4.4% of MSB's shares, most of which would be Vanguard (although I note that the Vanguard holdings may have been there longer, and just masked under nominee names). When other big index funds start buying, it will start to propel the share price higher, increasing the MSB weight in the index and forcing even more index buying, thus potentially creating a virtuous circle of share price rises which would probably coincide with good news on trials, partnering deals and FDA approvals. It will not be until March and May next year at the earliest that you might see MSB included in either the ASX200 or the Nasdaq Biotech Index, so this index buying may be a slow burn - but global giant Vanguard is already moving, so others may follow just anticipating an index inclusion - see my analysis below of what it takes to go in the index.
Finally, shorts have been absent since the end of May - with a net reduction in the short of 565,000 over that period, or less than 10,000 per trading day. Frankly, if they've seen some of the recent insto buying, they'd be smart to stay out of the way - Vanguard is a $US5.3 trillion fund manager - they can easily afford to soak up all the stock that becomes available!
I've also made a comment on the recent discussion of "conservatism" in brokers' forecasts - it goes much further than the observation that MSB may only get 50% of the addressable market in paediatric SR-aGvHD. There are hidden pitfalls in the analysts' cash flow models which mean cash flows 5 years out for less "certain" products can be discounted by over 90% due to probability discounts and high discount rates - and the further out the cash flow, the bigger the discount (a 10 year cash flow may be discounted so heavily that only 2% of the cash flow is included in the valuation - using a 30% pa discount rate and a 30% probability of success).
My bottom line is to avoid the temptation to sell into the next price spike. The big money is likely to be made by holding this stock for the long term and avoiding short term trading traps. It's human nature to feel nervous after a big price rise and take profits and it's human nature to fell relieved if you bought at higher prices and finally get a chance to get your money back after a big fall. Most of professional funds management is about developing valuation tools and the confidence to override your "System 1" or fast-thinking intuition and holding on as long as your valuation is above the current share price. It can be really hard to ignore all the short-term colour and noise in the market, you fell like you should respond to big moves in share prices, but I try to stick to my discipline - as Oscar Wilde said...“To do nothing at all is the most difficult thing in the world, the most difficult and the most intellectual.”
Here are a few thoughts:
Dr Kurtzberg's comments on MSB cells for SR-aGvHD when she was in Australia for the stem cell conference in May
1. "You're not going to have to convince anyone to use this"
2. "It's effective, doesn't have other toxicities and is going to save lives"
3. "Once approved, it will be used off-label extensively"
4. "The community [I think she means the sufferers of aGvHD and their families] is excited and want it approved already"
5. She thinks the FDA is probably accepting of all this, but they have long processes which must be gone through
6. She thinks there could be 20-30 extensions into off label diseases once it is approved, including adult aGvHD, chronic GvHD, and that it could go as far as studies into autism
7. The worst cases of paediatric aGvHD (grades C and D) make up 50% of cases - they are children with a combination of horrible painful blisters all over their bodies, liver failure, immune system failure - they are going to die. How many of these kids would she recommend take Remestemcel-L? "All of them, and the takeup will probably be 99%" - if it is approved by the FDA.
...
11. Will Remestemcel-L become the first line treatment? Doctors will always start with steroids, which work on 20% of kids with aGvHD, and the doctors will know in 2-3 days if the kids are responding. After that, they will move quickly onto Remestemcel-L if it is approved
12. Are there any other similar treatments - whether stem cells or anything else? Nothing else comes close
Market background small negative since June 30
Since June 30, MSB share price is -2.0% vs ASX200 benchmark -1.8%. The market is down 5.4% from a record high of 6875 on July 30, and MSB is down 7.1% from its recent high of $1.555 on July 9th. Those differences are not significant given the normal daily % moves in MSB.
MSB is holding up well in the face of further underperformance of small caps and loss of active share managers in favour of indexers. While most indexers wouldn't consider MSB at present, it may be that MSB has held up so well due to global heavyweight indexer Vanguard building a position over the past 5 or 6 months (though they may have been there longer, just under nominee names). Vanguard has $US5.3 trillion under management, so its holdings in MSB are miniscule to Vanguard, but big to MSB!
I have previously noted MSB's very good performance in the year to June 2019 compared with a general smashing of most other small caps at the bottom end of the ASX300. This appears to be continuing in July and August, though a bit more nuanced (ie iron ore and other metals have been hit hard, while most gold stocks are generally strong; banks and financials have generally been weak; housing and consumer stocks are strong). The worst performing stocks in the market stratified by market cap are still those at the bottom of the ASX300 (the smallest 10 stocks have fallen 20% since June 30 on an arithmetic average - ie not market cap weighted). The bottom 50 stocks are down 3.4% since June 30 on the same basis.
I believe this is still a result of the closure of active fund managers and losses of mandates by active funds, with the money being taken in house by industry funds who are running low cost index strategies. I know of more boutiques near to closure, so this trend is likely to continue. This isn't a major worry to MSB as very few active boutique managers hold the stock, but it has been devastating for the performance of a number of other Aussie small caps.
It is also probable that ANZ's funds management will be sold to someone like indexer Vanguard if the IOOF purchase falls through. AMP and Perpetual's share prices have been further hit since June 30, attesting to losses of investment funds. That money often ends up with indexers like Australian Super who are unlikely to buy MSB until it officially goes into the ASX200.
Underperformance by active managers in the past 5 years has spurred all this indexing. Last week, the AFR reported
"Ninety-five per cent of Australian share LICs failed to beat the Australian share index ETF over five years," and
"Two-thirds of all [equity] LICs available on the ASX had a negative return over the year despite Australian shares rising 11.6 per cent and global shares rising 12 per cent."
In March, it was reported...Among "general" actively managed Australian share funds, which are benchmarked against the broadest S&P/ASX 200 index, S&P analysis found 87 per cent failed to beat the market in 2018.
That was worse than the previous year's outcome, when 59 per cent lagged the ASX 200. Only once in the past five years did this category of active managers beat the market: in 2015, when only 36 per cent underperformed.
That's why the big industry funds are taking money back in-house and indexing it (plus the fees are a lot less).
The graph below shows Vanguard's index fund performance over 3 active managers:
Vanguard buying?
Importantly, Vanguard Investments Australia Ltd is disclosed as owning 7.4m MSB shares as at 31 May 2019 (1.5% of the issued capital) which appears to be holdings in the Australian Share Index Fund (3.5m shares) and the Australian Share Index ETF (3.5m shares).
Further disclosures below show that Vanguard has apparently bought more in its International Index Fund (6.2m shares) in June; and 2.6m in July in its Developed Markets Index Fund. They may have bought some of the Capital selling earlier in the year, and also still be picking up stock in the market, or perhaps they already held a lot of these shares in nominee names, and it is just being disclosed now - however that doesn't mean they've stopped buying! If Vanguard end up buying ANZ Funds Management, that could spell more MSB buying.
It is possible that the Vanguard holdings were previously listed under some of the nominee or custodian names and that they have held the shares for longer than appears on the following table under "Filing Date" ie that they haven't actually been buying recently. However, even if that's the case, the disclosure that Vanguard are already long MSB with the implication that they could buy more (especially if they expand their Australian operations) could give others impetus to start building a position in MSB.
Update on takeover considerations and low turnover
Many people worry that MSB could be taken over cheaply, but I doubt this is likely given that the Prof and other "Insiders" plus the major institutional holders control over 50% of the company and they have been rock solid in support (apart from the one instance where Capital liquidated its holding in its smaller fund, but kept the main fund holding intact).
MSB discloses the following holdings on their website under "Ownership Summary":
The Prof himself owns 69m shares (most of the "insiders" holding of 76.7m - and the rest is directors etc).
Combining the Insto and Mutual Funds above, you can see that the Top 10 hold 56.27% in their own right, so it won't be hard for the Prof to talk to himself and his top 10 instos to gather 71.5% of the shares and stop an undervalued takeover:
These figures imply that retail holders only own 16.8% of MSB. That would explain the very low turnover as instos soak up the loose stock and slowly build positions, but they don't tend to sell. It must be getting frustrating for some of these big instos trying to get set for size at the moment (without pushing up the share price) as shorting activity has died away to almost nothing. The only way to get a decent line of stock is to find another insto who wants to sell, or to try to convince the company to do a placement (which MSB is unlikely to do while it is in advanced negotiations with potential partners).
MSB is still the 5th most shorted stock on the market in terms of "days to cover" and is the 50th most shorted stock overall. It remains poised for an explosive share price rise if there are good announcements from the FDA or a partnering deal. The shorts have stayed stubbornly high, although it is probably that at least some of them have offsetting long positions on another biotech. There's plenty of basis risk in that trade though! As volumes dry up, it is theoretically getting harder and harder for shorts to cover. Of course, a big share price spike inevitably brings out profit takers, but over 80 days to cover is dangerous if you are short and even though you may get stock easier after a big price spike, the damage is already done!
Update on index inclusion
While indexers have already bought 4.4% of MSB's capital, most Aussie domestic indexers use the ASX200, and MSB is too small for this index. I don't think MSB is likely to enter the ASX200 until it can sustain an average share price of $2.90 for 6 months. That means the earliest it is likely to enter the index is the March quarter rebalance of 2020. It is possible to enter the ASX200 in the December quarter rebalance - but the price would probably need to average around $4.35 in the final quarter to achieve that (remember that the buffer rule means a stock needs to rank number 179 or higher to enter the index, currently a market cap of $1.16 billion) and also remember that The Prof's shares, other directors and probably Tasly and NovaQuest and would not be counted in the market cap - 100m shares in all. If we use 400m eligible shares, we need an average share price of $2.90 for 6 months; if we exclude the ADRs (around 43m shares) we need an average share price of $3.25 for 6 months.
For inclusion in the US Nasdaq Biotech index, you need daily turnover averaging 100,000 shares and a market cap of $US200m. The market cap isn't a problem as they would use the combined Australian and US market cap, but MESO is nowhere near the US Nasdaq daily turnover required for index inclusion. There were only 8.535m ADRs originally listed in the US in Nov 2015. The average daily turnover for the past 3 months is only 41,249 ADRs. Companies are evaluated for inclusion at the end of May and November - so the first real opportunity MESO will have is May 2020 (based on end of March market data), but only if the average daily ADR turnover rises to 100,000 per day over that period. Once a stock is in the index, it only requires turnover of 50,000 per day to keep it there. The easiest way to get the turnover required would be to convert the ADRs from a 5:1 ratio to a 2:1 ratio; that would mean the number of ADRs on issue would rise from 8.535m to 21.34m and should get the average daily turnover up to 103,000. I don't have confirmation that there are still 8.535m ADRs on issue as this isn't disclosed, and it is possible some holders have converted between ADRs and ordinary shares (which could increase or decrease the original ADR issue).
Update on valuation
The "conservatism" that several people have commented on in the Bell Potter report is nothing new, and is common to all the analyst reports that I've seen.
This is a source of tremendous upside. As the share price rises, it becomes easy for the analysts to upgrade their earnings forecasts and the share price keeps going. None of them are putting in valuations and price targets based on the full potential of MSB - because they would look ridiculous putting in share price forecasts of $20 or more, and they don't need to put in anything like the full potential to make MSB a buy.
They all have different ways of discounting the MSB valuation - the most common ones are a "probability" discount - where they put in a market sales and profit estimate and then discount it by up to 70%, based on a probability of only 30% that the product will be approved and marketed. This is a total guess, and allows the analyst to come up with any valuation that they feel is "reasonable".
The other hit to valuations comes from the discount rate they use in their discounted cash flow valuations. Most analysts use huge discount rates of 15% to 30% pa. Due to the long-tail nature (or long duration) of MSB's cash flows, this hammers the valuation. For example, a cash flow of $1 million received in 5 years is currently worth only $500,000 on a 15% discount rate, and $270,000 on a 30% discount rate - then apply a 70% probability discount and $1 million in 5 years may only add $80,000 to the analysts' discounted cash flow valuation, effectively discounting those payments by 92%!
These enormous discount rates are even more "conservative" when you consider that bond rates in Australia are less than 1% and that MSB's share price has close to zero correlation with the stock market.
The other big "conservative" factor in brokers' valuations is that partnerships and deals already announced don't appear in the valuations. I haven't yet seen a valuation with anything for Tasly in China, or for label extensions already announced in Japan such as EB.
The majority of MSB's future cash flows will be in $US. The recent and continuing fall in the $A vs $US should feed through into the MSB valuations. The rate is currently $A1 = $US 0.675 and that's a fall from $US 0.74 in November 2018 when MSB was selling for as much as $A2.20. The drop in the $A alone since November last year should have lifted the $A valuation of MSB by 10%. The $A fall from $US 0.81 in early 2018 should have added 20% to the $A valuation of MSB!
Of course, the misinterpretation of the NIH LVAD trial, the Capital selling and the 20% drop in the US stockmarket in December last year all helped push the MSB price down from $2.20 to $1.
The US market has since recovered all of the loss and moved to a new high, the FDA has indicated it is prepared to given an orphan designation due to the positive results for GI Bleeding in the NIH LVAD trial (and we should get news on this soon with the official minutes), and the Capital selling was fairly easily mopped up by bargain hunters after the price collapsed.
So all of the negatives have reversed and the $A and interest rates have fallen, yet the share price has only recovered 45c of the $1.20 loss. We have also lodged the first module of the aGvHD BLA with the FDA, have had very positive feedback from Dr Kurzberg (including already announcing potential label extension trial for chronic GvHD), have new licence opportunities with our partners in Japan, have been designated FDA orphan status for GI Bleeding in LVAD implants, reduced cash burn, increased royalties and have new insto shareholders entering the share register. From a management point of view, MSB has continued to build its sales team in the US and to add highly experienced US experts to the board and management.
Share Price Outlook
It actually HAS been a very successful 6 months. The only more successful period, in my opinion, was when MSB signed Cephalon in a spectacular partnering deal 9 years ago. Of course, if they manage to conclude a partnering deal in the near term, it will potentially be the most exciting time in the company's history.
Sometimes the share price doesn't reflect all the underlying work going on. I have seen many instances in the past when companies have done company-saving restructurings after huge price falls, but it takes a long time for investors to commit money. They often need to see other investors coming in first. There's a huge reluctance to be among the first to buy and a strong resistance to buying because they fear feeling stupid if they lose money in a stock which has previously fallen. It feels much safer to buy a stock that is a market darling, where everyone else is long, and where there's safety in numbers - if something goes wrong they can say "well at least I was in good company - all the top investors were in it as well". Of course, market darlings are very exposed to any small thing going wrong, because most investors who are going to buy are already long and it is probably overpriced.
MSB is the complete opposite at present. It is only owned by a small number of instos and a tiny retail base, it is cheap and big things are going right. An FDA approval is in train and a partnering deal is in "advanced negotiations". They keep advancing and methodically ticking the boxes.
I think we can already see evidence that a few new insto holders are taking advantage of the low price to build positions in MSB. It isn't a flood, but it is already helping MSB stabilise and outperform a lot of other small caps.
This thing has so much potential upside that worrying about short term moves in the share price is missing the wood for the trees. People keep bringing up CSL - well in 2002 CSL fell from $17 to $4 - then it went back up to $13 in 2005 - and a lot of people took profits before it got back to $19.50 in 2006. Another bout of profit taking and it was $15.50, before moving up to $42 in 2008 (and of course it's now $239!).
You get the picture - rather than sweating all these short term moves, stay long and only sell when the share price moves above your valuation range - and even then I usually find the price moves way higher than I thought reasonable as people pile in wanting to get on board. If you use the US analysts' forecasts as a guide, the upper end $US23 MESO ADR price target equates to $A6.80 for MSB shares - but remember those valuations are all heavily discounted and can easily be revised higher by fiddling the discount rate and the probability discounts as the share price rises.
Anyone thinking of selling if it goes back over $2 misses the point that MSB has been basing for the past 3 1/2 years, it has hardly moved off the low yet, and even if it gets to my medium term $5 target, it could still have plenty left in it!
That's why I've been quiet lately - I'm happy with how everything's going and I don't want to get sucked into hanging on the day-to-day ticks in the share price - they're random and meaningless. I'm satisfied that the technology is world leading and the progress is real. This thing is backed by the top lenders, the top researchers, is licensed out to the only competitors on the scene, is moving through the approvals process with fast track and orphan designations already granted by the FDA and is attracting some of the top globally experienced people on to the board and management. The real money's going to be made by sticking with this stock for the long term.
MSB Price at posting:
$1.45 Sentiment: Hold Disclosure: Held
(20min delay)
