Intrinsic Value Assessment of GW Pharmaceuticals

Should you invest in GW Pharmaceuticals' stock? Find out here in this assessment of GWPH's stock and intrinsic value.

Since its inception, GW Pharmaceutical (NYSE:GWPH) has been leading the way in the development of plant-derived cannabinoid therapeutics. In 2010 GW successfully launched the world's first prescription medicine derived from the cannabis plant called Sativex, which is a treatment of spasticity due to multiple sclerosis.

In 2018, the FDA approved Epidiolex, an oral formulation of purified cannabidiol (CBD) product for the treatment of seizures associated with Lennox-Gastaut syndrome (LGS) or Dravet syndrome. Then in 2020, the FDA expanded the list adding a new indication of seizures associated with Tuberous Sclerosis Complex or TSC.

With the ever-growing development of scientific technology, the prospects to develop treatments for common illnesses and make an absurd amount of money has made the industry highly competitive. But the reward doesn't come without its risks, companies require huge amounts of capital to develop treatments that come with a strong possibility of never producing any revenue.

This presents a difficult challenge in selecting an investment-grade business within the pharmaceutical industry, as by the time companies have successfully established a variety of products and have significantly progressed their clinical trials, their stock would have fired off into space.

This is where GW Pharmaceuticals comes in.

Is GW Pharmaceuticals an Investment-grade company?

This is a difficult question to answer, so instead let's ask, can they make money?

Absolutely, but it hasn't been a smooth path.

Even with the approval of the world's first prescribed cannabis-derived medicine in 2010, GW had to wait until 2019, a year after Epidiolex was FDA approved to see their revenue increase significantly from $12 million to $311 million. This is an incredible achievement, it really says a lot when a company can pull off a result in unchartered territory (read – the cannabis industry).

But amazingly, in just the first 6 months of 2020, GW has recorded revenue of $240 million. With another two quarters to go, expect to see their annual revenue reporting up by at least 30%.

What about the operational side?

GW has managed to maintain an average research and development (R&D) cost of $148 million annually up until the approval of Epidioxlex. Management intelligently boosted operating costs from $141 million to $259 million in 2019 to aggressively distribute the product to start producing some revenue, which as you read above, seemed to have paid off.

These numbers aren't expected to decrease in the near future as the company aggressively distributes its treatment and continues to strengthen its brand as a household name of cannabis-derived medicine. The next financial report should be closely monitored for whether or not these high operating costs have boosted GWs revenue into profitability, because up until March 31st, 2020, they still had yet to produce a profit.

The ability to generate a profit shouldn't worry you, because sitting behind the income statement is a strong balance sheet that has grown from $242 million dollars of equity in 2015 to $756 million dollars in 2020. This has all been achieved while maintaining an average debt to equity ratio of 2.6%.

With the ability to produce revenue, continue to strengthen their balance sheet, GW sure does look like a strong contender in becoming the Nike of the medical cannabis space. GW seems like it has the hallmark of a successful company, but do they face any imminent risks?

What risks does GW Pharmaceutical face?

Like any company in the pharmaceutical industry, their success is heavily weighted on the approval of their medical products. Further to this, being a company deriving its products from cannabis, this creates additional layers of complexity to the approval process, especially with the FDA.

But it's not just the initial approval of the product that is a risk to GW, hurdles also come in the form of:

  • The approval of doctors to prescribe the product and the response from the public
  • Whether the product will ever be covered by the health insurance providers
  • Different countries have different regulatory standards which add layers of cost and complexity (read risk) to the distribution and revenue models

But that isn't all, the company as a whole faces many risks, they include:

  • Lack of experience marketing or using a salesforce which was only introduced in 2019
  • Bigger, more financially stable, more resourceful, and experienced companies are out there who could try and compete (think Big Pharma)
  • Bootleg copies of their product could challenge their market share and overall profitability

The Value of the Stock

At time of writing, GWPH is trading at US$95, and since it hasn't produced a profit we're unable to use any metrics to determine where it lies compared to competitors in the same industry. What we can see is that the price is trading 4.1x its book value, which admittedly doesn't tell us much more than those owning shares are seemingly optimistic about the company's future.

Book value (P/B ratio) is the sum of Assets minus Liabilities divided by shares outstanding, essentially the value of the business in terms of what it owns. What is doesn't measure is its future cash flow, so one shouldn't rely heavily on this metric. What it does tell us, is that in relation to the industries standard P/B ratio of 3x, it is overpriced.

If we rewind back to March 31st, 2020 when GW recorded a profit, we would find the price to earnings (P/E) ratio is 94 and the earnings per share (EPS) is US$1. Not really that impressive when you consider that Johnson & Johnson had a P/E ratio of 22 and EPS of $6.

With those metrics and current earnings considered, we believe the company to be currently overvalued.

Disclaimer: Past performance is not an indicator of future performance.

The Bottom Line

GW Pharmaceuticals' future looks promising. Having successfully brought two approved products to market, including the first-ever FDA-approved cannabis-derived product, there's a strong case that points to GW successfully developing more products in the future, driving sales, revenue generation, and the possibility maintaining its first-mover advantage in the medical cannabis industry.

Moving forward, we would like to see regular recordings of positive net income and a variety of leading products in order to feel more comfortable to start buying the stock.

For the latest news and updates on GW Pharmaceuticals, click here

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Mark Page
Mark Page

Mark is a UK born investing enthusiast based in Sydney. He has a keen eye for technical analysis and is paying close attention to the ongoing legalisation of cannabis for the health benefits, opportunities, and emergent industries that will follow.

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