Bull of the Day: NeoGenomics (NEO)
NeoGenomics (NEO) is a small-cap provider of cancer genetics diagnostics. They boast one of the most comprehensive oncology-focused testing menus in the world to help physicians diagnose and treat cancer.
I last wrote about NEO as the Bull of the Day in late October, right before shares surged from $14 to $21 and we were enjoying over 50% gains in my Healthcare Innovators portfolio.
But in late December, shares took a big hit on patent litigation with competitor Natera (NTRA). Let's review the primary commercial business of NEO and then that will help put the legal news into context.
Oncology Diagnostics: Precision = Prevention
NeoGenomics serves the needs of pathologists, oncologists, academic centers, hospital systems, pharmaceutical firms, integrated service delivery networks, and managed care organizations throughout the United States, and pharmaceutical firms in Europe and Asia.
The company likely grew sales in 2023 over 15% to nearly $590 million. And this year's topline is projected to hit $635 million, for an 8% advance. With a $2 billion market cap, NEO trades just over 3 times forward sales estimates.
While NeoGenomics is not yet profitable, EPS estimates have been moving higher, with 2023 set to post a 71% increase to a loss of 16-cents and this year forecast to see another 78% rise to minus 4-cents.
Small Global Player in Fast Growing Market
Headquartered in Fort Myers, FL, NeoGenomics operates CAP accredited (Certified Analytics Professional) and CLIA certified (Clinical Laboratory Improvement Amendments) laboratories in Fort Myers and Tampa, Florida; Aliso Viejo, Carlsbad and San Diego, California; Research Triangle Park, North Carolina; Houston, Texas; Atlanta, Georgia; Nashville, Tennessee; and Phoenix, Arizona; and CAP accredited laboratories in Cambridge, United Kingdom; Rolle, Switzerland; and Singapore.
In research screening for attractive long-term companies to add for my Healthcare Innovators (HI) portfolio in October, I found NeoGenomics to be a screaming buy near $11. In late September, I put the stock on my Top 10 List and advised HI members to buy between $10 and $11.
Part of my enthusiasm about the stock was that it had sold off so dramatically from 52-week highs above $20 in May. And the cause of that selling was largely based around a broad FDA rule change concerning Lab Developed Tests (LDT) which was impacting the entire industry.
During the market volatility of the first week of October, NEO shares dipped to $11.03 and then moved quickly higher, including a 9% surge on October 17.
But I still liked the upside so much, I decided to make it an official buy for the portfolio and issued this Healthcare Innovators Buy Alert on October 19...
NeoGenomics (NEO): Buy between $13 and $14. We almost had our chance to buy under $11 the first week of October, but after reading some recent research on the LDT space, I think we can still jump on the big bull flag that popped up on Tuesday. NEO is a high-complexity CLIA-certified clinical laboratory that specializes in cancer genetics diagnostic testing, the fastest growing segment of the laboratory industry.
The company's testing services include cytogenetics, fluorescence in-situ hybridization, flow cytometry, morphology studies, anatomic pathology and molecular genetic testing. While only growing sales at about 10% to cross $600 million next year, it trades at a discount price/sales multiple and Piper Sandler has a $23 price target on shares with projections it should trade at 5X next year's sales.
FDA Oversight of Lab Developed Tests (LDTs)
The FDA rule change that drove most diagnostic companies down since the summer concerns the idea that LDTs are increasingly risky, and may lead to inaccurate test results, or may not perform as well as FDA-cleared tests. The FDA is also concerned that these tests could lead to unnecessary treatments, or delay/forgo appropriate treatments.
According to Piper Sandler analyst David Westenberg, after months of anticipation the FDA finally issued their updated position on LDTs on Sep 29. This explains the 1-month crash in these stocks. Although FDA plans on now having direct oversight over labs, the FDA will grandfather in most existing tests and the enforcement will not come until 2028.
Westenberg thinks the late Sep announcement is largely in line with investors' expectations, though the Piper team admits the FDA's stance on regulatory intensity remains a bit ambiguous.
While they recognize there might be a few added costs for companies getting into compliance in the next five years, Westenberg's team thinks existing tests will mostly not be impacted. They reiterated their bullish calls on lab providers such as Guardant (GH), also in precision oncology screening, and Natera ((NTRA), the provider of non-invasive prenatal genetic screening.
NeoGenomics Receives Injunction Against RaDaR
NEO which dropped 18% Thursday Dec 28 after the company received a preliminary injunction related to a copyright infringement lawsuit by Natera (NTRA), one of our other genetic diagnostic companies.
Natera alleged in the suit that NeoGenomics' RaDaR infringed on Natera's patent.
The District Court for the Middle District of North Carolina on Wednesday issued a preliminary injunction barring NeoGenomics from producing, selling, and promoting its RaDaR assay product, which Natera claims infringes its patented technology. The court order allows the continued use of RaDaR in ongoing treatments and trials.
"We continue to believe in RaDaR's innovative and distinguished technology and plan to appeal the court's ruling and defend our technology," NeoGenomics Chief Executive Chris Smith said in a statement. "We remain committed to bringing our highly sensitive test to market and providing cancer patients and their clinicians with options for their care."
Needham analyst reaction: A longer-term growth driver for NeoGenomics may be off the table due to a patent-infringement lawsuit, Needham's Mike Matson said in a research note. The analysts see the preliminary injunction as a bad sign, since they are rarely granted by courts and tend to signal merit in the underlying patent infringement case. Still, the analysts see NeoGenomics with other growth catalysts from its clinical services and advanced diagnostics businesses.
"We believe that the preliminary injunction is clearly disappointing since it disrupts a longer-term growth driver for NEO. But we do not expect a significant impact to 2024 or even 2025 estimates given minimal near-term sales expectations for RaDaR," the analysts said.
Needham maintained a $21 price target on NEO and concluded they expect revenue from RaDaR to be insignificant during 2023 and project minimal sales during 2024.
Piper Sandler analysts led by David Westenberg also had little revenue modeled for the NEO RaDaR assay and see the stock sufficiently de-risked now to make it attractive with an $18 PT. Here's what they wrote after the court ruling which prevents NEO from commercializing RaDaR at this time...
The decision follows a similar ruling against Invitae/Archer and likely demonstrates that Natera has a strong IP position on tumor informed MRD (minimal residual disease). The silver lining for NeoGenomics is that the order still allows for ongoing research and clinical trial to continue. Assuming NeoGenomics wins on appeal, the company would probably lose little in terms of time to market. Saying all that, our call on NeoGenomics has always been around its strong commercial channel, and we think RaDaR matters little.
Bottomline: I would own either NEO or NTRA at these levels. In fact, I own them both.
Disclosure: I own NEO, GH, and NTRA shares for the Zacks Healthcare Innovators portfolio.
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