Finding Solutions, Saving Lives!

Biology was one of those subjects that just about ended my high school career (yes, that’s right, high school). I will tell you that I aced chemistry, but that was because the whole discipline is based around math. Numbers??? Those I can do! But still, my medical expertise leaves much to be desired.

However, when it comes to investing, I often find myself digging up statistics in areas that would normally be outside my field. That’s one of the things I love about this business. As I remarked to my 8-year-old recently, “You learn something new every day.” To which he replied, “Not me!” You can be sure his dad is now reminding him every day to keep his learning cap on.

As I look for stable, long-term investment opportunities in this upside-down market, I continue to find myself drawn back to medical stocks. The big picture is easy to understand: No matter how bad the economy gets, people will still need medical attention. In Economics 101 they called it “inelastic demand.” In real life, we call it “meeting basic necessities.”

I’m going to show you how you could make 50% profits by next spring by investing in a “personal touch” company with considerable expertise in a very sensitive market. I’ll tell you more in just a bit, but first let me explain why this company is so important to the medical field.

Cancer — A Harsh Reality

One of the harsh realities most developed nations are facing today is an aging population, and inherent with that harsh reality is another — an increase in the rate of cancer. The good news, however, is that survival rates are increasing as medical technology continues to find new, more effective ways to treat many different types of cancer.

According to the American Cancer Society, approximately 1.5 million new cancer cases were expected to be diagnosed in 2008. Back in the late 1970s, the five-year survival rate for cancer was roughly 50%. But for the period from 1996 to 2003, that statistic increased to 66%. And that doesn’t cover the multiple advances physicians have made in the last five years!

Knowing is Half the Battle

One of the companies leading the charge against cancer is the small, but rapidly growing, firm Genoptix Inc. (GXDX:NASDAQ). Like many of the larger laboratory companies, Genoptix specializes in diagnosing leukemia, lymphoma and other specific blood-based cancers.

However, unlike most laboratory companies, Genoptix has decided to stay out of major hospitals and, instead, work with individual practitioners.

The decision to focus on individual physicians is one borne out of a wise management team. “We built our business around serving the interest of these physicians as they work to answer complex clinical questions…” –Tina Nova Bennett, President and CEO. The company cannot compete against larger rivals when it comes to the common blood tests that are ordered in most hospitals. The margins are just too tight, and the service has become commoditized.

But when it comes to specialty bone marrow testing, Genoptix has a substantial edge. That’s because there is a very real opportunity for the company to compete based on service and not just on price.

Since Genoptix works hand in hand with each individual physician on each unique patient, they have developed trust and admiration among the doctors that they serve.

Bone Marrow Testing — A Painful Process

At this point the skeptic in you is probably doubting whether a diagnostic firm can actually compete based on service — am I right? I hope so, because that’s one of the nearly universal traits of all good investors. Don’t believe it just because you heard it. Let’s dig into how this firm sets itself apart from the crowd.

If you’ve ever had to give a bone marrow sample, you understand what a painful process it is. We’re not talking about a finger prick or even a tourniquet on the bicep and a needle in your forearm. No, this process actually involves drilling into the bone (usually the hip) and drawing the marrow out in a timeconsuming, painful process.

“OK Zach, that’s more information than I really need to know!” I totally understand. Your editor actually turned green and was asked to sit down when his wife got an epidural during their baby’s birth.

But I point out the issue because, as a doctor, you would want to take extreme caution when handling that sample. Can you imagine returning to a patient and saying, “I’m sorry, but we lost your marrow. Do you mind rolling over so we can get another sample?”

A Perfect Record

This is why Genoptix’s unmatched record of never losing a single bone marrow sample comes into play. The company has a competitive edge with individual physicians who understandably wince when faced with the prospect of shipping such a precious sample to an international laboratory with an 800 number and no personal service.

Interestingly, Genoptix has a special relationship with FedEx, whereby the company uses the shipper for all logistical transfers. If I were the CEO of FedEx, I think I would give Genoptix a discount in return for using the relationship as the basis for a line of commercials. The tagline
could read: “When it ABSOLUTELY HAS to get there!”

A Growing Customer Base

In its most recent quarterly announcement, management claimed to have over 950 ordering physicians nationwide. Although this number continues to grow quarter by quarter, it only represents a small fraction of the 8,700 doctors that fit into its target market. At the same time, the company expects that this market of physicians, referred to as hematologists/oncologists (or HemOncs), will continue to grow by approximately 3.8% each year.

Not only is the company seeing growth in the number of physicians served, but the most recent quarter represented the seventh consecutive quarter of growth for both revenue and number of diagnostic tests. In case you are wondering, the company actually performed more than 9,900 diagnostics in the third quarter.

Expansions in the Works

With a growing caseload and an increasing sales force, the company has made a necessary expansion to its central facility. The improvements essentially double capacity.

According to Executive Vice President and Chief Operations Officer Sam Riccitelli, the new facility supports sales growth for the foreseeable future.

And yet, beyond the foreseeable future, growth is expected to continue to challenge the existing structure. That is why by the end of 2009, Genoptix expects to roll out plans for an additional facility to be built the following year.

Logistically, this new facility should help beef up an already strong level of customer service. The current location is in Carlsbad, about 40 miles south of Los Angeles. Ideally, the new facility will be on the East Coast, which will only improve turnaround times for patients in this part of the country. Although the building will certainly be a large expense, operational and financial benefits should offset the necessary capital expenditures.

Crunching the Numbers

Speaking of capital expenditures, I would be remiss not to point out the excellent financial state of the company. Now, if you’re not into math and don’t care about the figures, you might want to skim down to the next subheading. But I’m sure there is one or two of you out there who, like me, want to know the nitty-gritty financial details.

The company is currently sitting on $101.3 million in “cash and marketable securities.” While a small portion of this cash is tied up in auction-rate securities (an unfortunate area of short-term investment that has recently locked up), more than 90% of the cash is highly liquid and available.

The cash balance is more than enough to fund initiatives through 2009, not counting the cash generated through normal operations. And the company has no debt, which gives them plenty of flexibility when deciding how to fund a new facility months down the road.

Genoptix reported revenues of $32.1 million for Q3 2008, which was up 98% from the past year. With stable margins and an attractive tax rate, the company was able to record 52 cents in earnings per share for the quarter, which is quite impressive considering the prior year’s earnings for the third quarter were 22 cents.

Most important, management has painted a robust picture for 2009, guiding revenue expectations of $165 million. While 47% revenue growth certainly seems exciting, Barclays believes this estimate is overly cautious and expects revenues to come in much higher. That makes sense, as management has a history of underpromising and overdelivering.

Political Tailwinds

If you passed out for the numbers portion, it’s time to pay attention again. While historical growth for this developing company has been tremendous, it looks as if the best years are still ahead.

As the United States enters this period with a new Democratic administration, healthcare will become an important issue. Obama has made it clear that he will lean further toward universal health coverage. This means that not only will government programs be more liberal in the programs they will cover, but this also sets the tone for how private insurers organize their universe of coverage.

This bodes extremely well for Genoptix, which receives roughly 40% of its revenue from Medicare. As you can see in the slide, the vast majority of bills are paid by private insurers or the government in the form of Medicare. A stable base of revenue is most important for any growth company — especially given the current economic climate.

So, as we await a turn in the economy and suffer through volatile markets, Genoptix offers us an attractive stable stock, which appears miles away from the turmoil of Wall Street.

Other Related Topics: Healthcare Industry , Medical Industry , Zach Scheidt

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