Sirtex makes a recovery

PORTFOLIO POINT: Sirtex shares have gained 50% over the past six months, and analysts are tipping there is further to go based on the success of its liver cancer treatment.

Few companies on the Australian stock exchange have travelled a rockier road than Sirtex, a fact that has probably caused some investors to miss the latest revival of the firm, which is posting strong profits from its liver cancer treatment.

Over the past six months Sirtex shares have risen by 50%, comfortably outperforming most other listed stocks.

The reason for the run-up, from around $4.85 in February to recent sales at $7.30 (and a 12-month high last week of $7.75), is a gradual recognition among the handful of analysts who follow Sirtex that it is finally delivering on promises made over the past 12 years.

Confirmation that it is earning strong profits from its “microsphere” radioactive cancer treatment should come in the next few days when the company reports a record pre-tax profit of around $31 million for the year to June 30, a one-third increase on last year’s gross earnings.

After tax and other charges, including a big research budget, net profit should come in at around $15 million, sufficient for a higher dividend payout.

If Sirtex does deliver on what brokers such as those at UBS and Taylor Collison expect, then it could signal the long-awaited rise of Sirtex into the thin ranks of Australian pharmaceutical success stories.

Until now very few medical product companies in Australia have delivered on their early potential, with respiratory ailments specialist Resmed, and vaccine and plasma specialist, CSL, two exceptions.

Sirtex has a long way to go before it catches the sector leaders. Its market capitalisation remains a relatively lowly $407 million versus the $5.5 billion of Resmed and $21 billion for CSL.

It is also likely that the recent sharp price rise means that Sirtex shares have risen as far as they can in the current revival phase, with better buying after management outlines future expansion plans.

But for investors interested in having a pharmaceutical stock in their portfolio Sirtex is undoubtedly one to consider, not only because of international medical recognition that its liver cancer treatment is a life saver, but also because as a company it has survived a decade of legal challenges and management upheaval.

In short, Sirtex is finally starting to achieve what it hinted at when it first listed on the ASX in 2000 as the corporate vehicle to market a discovery made by Perth surgeon and medical researcher, Dr Bruce Gray.

His invention, irradiated microscopic resin spheres soaked in a beta-radiation emitting isotope (Yttrium-90), are designed to be injected into a liver-cancer patient’s artery that goes directly into a tumour. Millions of the tiny spheres travel directly into the tumour, quickly destroying cancer cells in a process known as Selective Internal Radiation Therapy (SIRT).

Today, Sirtex microspheres are being used in 40 countries on thousands of patients suffering from liver cancer, one of the hardest cancers to treat, with a low survival rate when inoperable.

Unfortunately for Sirtex, the brilliance of the microspheres did not transfer into the company’s evolution. Dr Gray was sued, and won a long-running case over the microsphere patent taken by the University of Western Australia, where he conducted some of his research. That matter went as far as the High Court.

To complicate matters, Sirtex also took legal action against Dr Gray, primarily to recover costs relating to the UWA case. A final resolution of the complex legal proceedings was only achieved in February, too late to avoid severely damaging the relationship between the company and its founder.

Dr Gray continues his work as a medical researcher and through the private company Gray Surgical, and retains a 17% stake in Sirtex, which is valued at close to $70 million

The biggest shareholder is Hunter Hall, a fund management specialist with a 26.8% stake held in a number of its funds, with the firm a recent seller of Sirtex stock as its price has been rising. Since June 1, Hunter Hall has sold 639,775 shares to reduce its holding to 14.9 million as part of a portfolio re-balancing exercise.

A share price graph of Sirtex over the past 10 years tells the story of the stock, soaring on four occasions, only to retreat sharply. Its all-time share price high of $7.85 was in January 2010, a fraction more than last week’s peak.

The outlook, according to Sirtex chief executive Gilman Wong, is the brightest it has been for some time. Sales of microsphere doses rose by 26% in the June quarter, making it 32 consecutive quarters of rising sales.

Because Yttrium-90 has a half-life of just 64 hours, the microspheres need to be manufactured close to where they are used. That means Sirtex produces the microspheres in three locations, including at the Lucas Heights nuclear research facility on the outskirts of Sydney, as well as in Europe and the US where it is currently tripling capacity to keep up with demand.

In many ways, Sirtex is an unusual company. It grew out of a brilliant idea, suffered a decade of legal and corporate upheaval, and is finally emerging as a success story, complete with a sharply rising share price.

The question for management (and investors) is whether it can continue to grow as a relatively small pharmaceutical company, albeit one with a world-class product in its portfolio, and a big research budget to find the next blockbuster.

That’s before considering Sirtex from the perspective of Hunter Hall and Dr Gray who, between them, control approximately 43% of the stock and could be amenable to an offer from a big pharmaceutical company.

The fact that Dr Gray and, more recently, Hunter Hall, have been sellers of the stock is an indication that they could exit at the right price. But picking that price is tricky, as the past six months of recommendations from UBS illustrate.

In January, before Sirtex started its rise, UBS set a 12-month price target for the stock of $5.25, when it was trading at $4.50. On August 13, when Sirtex had reached $7.30, UBS revised its 12-month price target to $8.49.

No doubt the analysts at UBS will be looking for a better guide to the company’s future performance when it reports this week.