– GLPG stock hit hard by COVID-19 Panic, though its outlook not directly affected

– Bulls expect rheumatoid arthritis treatment to be approved by FDA in 2H20

– Peak sales could be $4 billion-$6 billion; If achieved we believe stock could double

As I’ve noted in previous reports, the healthcare sector can be a calm port in the coronavirus storm. I look for stock ideas that offer short term ballast for a portfolio in tough times but which also have potential for long term outperformance.

Galapagos (GLPG), a Belgium-based healthcare firm whose shares trade in the U.S, is looking at the likely arrival in 2020 of important results from a number of different studies and, more importantly, a potential drug approval from the Food & Drug Administration for its most important product currently: filgotinib.

It has already shown promise in Phase 3 trials for treatment of rheumatoid arthritis (RA), a chronic autoimmune disease that affects about three million people in the U.S. and Europe and millions more worldwide. GLPG bulls expect FDA approval in the fall. (More on this below.)  Despite its whimsical name, Galapagos has nothing to do with the island made famous by Darwin and much to do with a potential to bring various treatment applications to market in coming years. GLPG’s strong suite is in the immunological and anti-inflammatory disease area, and fibrosis, which often involves chronic inflammation. 

Besides RA, Galapagos is working on other indications for the potential use of filgotinib, like getting extra swings in the same at-bat, including ulcerative colitis, Crohn’s disease, psoriatic arthritis (PsA),  and ankylosing spondylitis (AS), where a Phase 3 study is being readied for later in 2020. AS is inflammatory disease that can cause the small bones in the spine to fuse.

What makes the stock interesting is the big drop from pre-coronavirus panic trading, a high of $274, to $149 in the market crash, even though it’s hard to see how COVID-19 could directly affect this company’s bottom line in the long term. But in a market panic, the baby oft gets thrown out with the bathwater. I think that might be the case with GLPG. Now it trades around $202, up big from the low but still down a lot from the high. What matters for GLPG are new drugs and approvals.

Estimates vary for the market size of treatments GLPG is working on, but, for example, global annual sales of various RA drugs are AbbVie’s (ABBV) Humira, $20 billion; Amgen’s (AMGN) Enbrel, $5 billion; and Johnson & Johnson’s (JNJ) Remicade, $4 billion. Galapagos itself puts the total inflammation market, which includes AS, Crohn’s Disease, ulcerative colitis and RA, at $65 billion in 2027, of which RA should be 40%.  There is a big market for the kind of treatment that filgotinib potentially offers.

The competition is stiff, as you can see by the big names involved. The traditional biologic therapies, called TNF (tumor necrosis inhibitor) blockers—like Humira and Enbrel, for example, given by injections or infusions—can have some serious side effects, though not common. Filgotinib is in a class of drugs called JAK inhibitors, taken orally, and they appear to be gaining market share from TNF blockers.  There are other JAK inhibitors, like Pfizer’s (PFE) Xeljanz, ABBV’s Rinvoq and Eli Lilly’s (LLY) Olumiant. Filgotinib appears to be almost as efficacious as Rinvoq but with best in class safety.

But GLPG, with a market cap of $13 billion, also has a big supporter behind it: Gilead, (GILD), which took a 26% stake last year in exchange for $5.5 billion investment.  The two inked a 10-year global research and development (R&D) collaboration last July (including a standstill agreement), which should help GLPG market filgotinib, if approved, and transform its R&D capability and product commercialization. Gilead submitted applications for approval of filgotinib in RA in the U.S., Europe and Japan.

Consequently, GLPG has about $6 billion in cash with little or no debt, likely enough to keep its expensive R&D effort going without forced recourse to (currently frightened) capital markets probably for a while.

Paul Latta, a portfolio manager at Cedar River Capital, says if filgotinib is successful, it could be a $4 billion to $5 billion drug at its peak a few years down the road, which by his reckoning would justify a market cap for GLPG roughly twice what it is now, or a 100% gain long term.  Cedar River owns GLPG shares for its clients and bought more for new clients in the recent downdraft. He believes filgotinib FDA approval has very high likelihood because of filgotnib’s efficacy and safety, perhaps in September.

Money managers general rule of thumb is to value early stage drug companies, depending on various factors, like the pipeline, at four to six times peak sales. That metric on filgotinib alone for RA generates a potential $16 billion to $30 billion, the midpoint being double the current market cap.

GLPG is also working on other treatments, including GLPG1972 (Phase 2 trial), for osteoarthritis; and GLPG 1690 (Phase 3) and GLPG 1205 (Phase 2) for pulmonary fibrosis. Phase 3 filgotinib results of an ulcerative colitis (UC) trial are expected this quarter. GLPG also has an early stage program with new proprietary compounds, called Toledo. These new drugs might or mightn’t work, but Wall Street doesn’t appear to be giving them high probability, so they are probably not discounted in the stock. If one is successful, however, that could be additional value. Beside filgotinib, there are various clinical catalysts in 2H20, most of which should have a positive bias, Latta believes. 

In 2019, GLPG revenue rose to €895.9 million with a net profit of €149.8 million, compared to a net loss of €29.3 million on revenue of €317.8 million in 2018, the improvement almost all due from recognition of upfront payments from GILD. R&D expenses for the group in 2019 increased by 32% to €427.3 million.

Where I could be wrong: This is still a company without real product revenue. There are various issues that investors have to get comfortable with. For the moment, it depends mainly on filgotinib, though there are other potential drugs in the pipeline. There’s also the aforementioned high R&D spend, which likely isn’t going away soon. There’s always a risk that one—or more—of their drugs will see poor test results, or that a new competitor or technology will emerge. Bad side effects for a new drug are always possible, and a potential concern.

Bottom Line:  GLPG needs filgotinib to work. Given its Phase 3 results and slowly eroding share by TNF blockers, to me, the risk reward looks favorable at this price.

Prior “Signals”