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PropThink: Pressure On QCOR Continues as Gov't. Investigation Introduces New Risks

September 24, 2012 - London

By David Moskowitz

Questcor Pharmaceuticals (NASDAQ:QCOR) shares are taking another pounding Monday after the company announced in an 8-k that it "became aware of a U.S. government investigation involving the Company's promotional practices." As a result, QCOR is unlikely to bounce back and could trade down further today, given that the company's primary driver of revenue and earnings, H.P. Acthar Gel, is commonly prescribed for indications that are not in the product's FDA approved label and the company has specifically stated that it works closely with doctors on prescribing the drug and aiding in the process of health insurance reimbursement. After a press release and a conference call with investors last week on the news that Aetna (NYSE:AET) will only reimburse the drug under certain conditions, the company has clammed up on the marketing investigation issues. While we agree that the company shouldn't speak publicly about the government probe, a lack of  information for investors and analysts this morning, especially given the company's high visibility last week, will likely have a chilling effect on the stock.

Mid-$20's is still the battle line between growth and no growth (or sales declines). We stated in our article last week (available here) that in the mid-$20's, QCOR was estimated to be at fair value, assuming that H.P. Acthar Gel sales remain flat at ~$450M annually. I noted that from this level, assumptions about H.P. Acthar Gel's growth are likely to be the driver of valuation for the stock. So, if one is involved or thinking about getting involved in QCOR, that remains the key question. The shares have been bouncing pre-market between the low-$20 and mid-$20 range, but given our analysis below, the shares are not expected to hold up today.

A key fundamental question on today's news: Will prescribing practices change for Acthar? Prescription trends for H.P. Acthar Gel will be the main gauge of whether or not today's news has had an impact on the behavior of physicians prescribing the drug, and we will see if the company updates those trends as it has in the past. If doctors are truly choosing to prescribe H.P. Acthar Gel on their own to patients that have exhausted all other therapies, then the probe should have minimal impact on prescription trends for the drug. However, if physicians themselves are worried about being investigated for being too aggressive when prescribing H.P. Acthar Gel, then prescription trends could weaken and growth of the product could stall or even turn negative. Importantly, sales of H.P. Acthar Gel, by the company's own admission, are a low volume, high touch process, making this probe feel a bit more worrisome than most.

How big could government fines be, if any? Over the last decade, the popularity of government probes into marketing practices of drug companies has increased, with many early cases resulting in fines, and firms settling without admitting guilt. However, there have been a few landmark cases in recent history with drug giants like Pfizer (NYSE:PFE), Merck (NYSE:MRK), and GlaxoSmithKline (NYSE:GSK) pleading guilty and each paying billions of dollars in fines for inappropriate marketing practices. Notably, whistleblower protections and incentives have bolstered the trend. While the payments from these drug companies are stiflingly large, State and Federal governments know that QCOR would never be able to pay billions of dollars in fines. So, like smart lawyers, these entities, if they are in position to extract a settlement from the company, are likely to ask for an amount that QCOR can afford. For instance, generic drug maker Mylan (NASDAQ:MYL), agreed to pay $280M in a settlement with the government over pricing practices related to Medicare and Medicaid, a figure that is more appropriate for a firm of this size. Either way, the threat of any disgorgement of capital is a negative for QCOR, and the uncertainty is likely to weigh on shares for some time. If the mid-$20's is truly fair value on no-growth of H.P. Acthar Gel, then sizable fines and declining growth could cause the shares to see sharply lower levels. Given the new uncertainty related to prescribing practices for H.P. Acthar Gel, potential fines related to the government probe, and of course new insurance company reimbursement hurdles, we would not be surprised to see the shares trade into the teens today. The primary support for the stock today - potential short covering.

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