Organovo set to fall by 50%

Investment overview

Shares of Organovo Holdings (ONVO) have recently skyrocketed due to widespread media coverage and an equally widespread misunderstanding of the company’s near term revenue potential. The stock has risen from $2.00 to over $13.00 in the past 12 months and is now valued at over $1 billion. To date Organovo has generated no real commercial revenues, but has brought in small amounts of money from grants and collaborations. The company hopes to launch its first commercial product, a 3D liver assay, in December of 2014, 13 months from now. A launch of any possible next products has not been announced or discussed, but would likely take several more years for any visibility. So for now, this one product is all that there is to hope for for the next few years.

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Implications of Organovo Lawsuit

I last wrote about Organovo Holdings (ONVO) on July 24th.  Since my last article, there have been several new developments which further reinforce the short thesis on the stock. The stock has continued to fall as expected.

First, the S3 registration statement for up to $100 million of new shares and/or warrants has now become effective. Some individuals had previously taken comfort that no offering would be impending because the S3 was not yet effective. It is now the case that Organovo is free to issue up to $100 million of equity securities at any time.

Second, I have uncovered an undisclosed legal action against Organovo by their own investment banker, Spencer Trask Ventures (“STV”). The initial arbitration filing  was submitted on June 27th, when STV demanded compensation which is now valued at around $28 million. Under the terms of the original Placement Agency Agreement, Organovo had agreed to binding arbitration. However, on June 28th, Organovo  filed in New York Civil Supreme Court to attempt to fight the arbitration.

There have now been a flurry of arguments and counterarguments in New York Civil Supreme Court during the monthsof June and July.

One issue is that this may prove to be a significant financialissue for Organovo. But as a totally separate issue, this isalready a significant disclosure problem for Organovo.

None of this has been disclosed to investors, including in theS3 registration statement which just became effective a fewdays ago.

Preliminary points

Before getting into these issues, there are a few preliminarypoints that deserve to be made.

Following my article, Seeking Alpha contributor Jason Napodanowrote a forceful rebuttal to my article. It was his 4th bullisharticle on Organovo in less than 1 year.

In his article, Mr. Napodano makes it clear that the points inmy article are either entirely irrelevant or else downrightinaccurate. The author supports these statements with a mix offacts, opinions and anonymous postings from a Yahoomessage board.

There are now three main issues which investors need toresolve for themselves.

  1. How much (if any) of the 32 million share overhang iscurrently depressing the share price ?
  2. How much (if any) equity is Organovo likely to issue underthe recent S3 registration statement ?
  3. How much (if any) revenue is Organovo likely to generatein the next 1, 5 and 10 years ?

Clearly I disagree with Mr. Napodano on each of these points.

A substantial overhang pressing on the share price from the 32million shares from 2012 is evidenced by the fact thatOrganovo still filed a subsequent prospectus on these shares.Once the overhang is fully removed, there will not be additionalprospectuses.

Organovo is likely to complete a very large financing under the$100 million S3 sooner rather than later. It has been less thanone year since the company deliberately reduced the exerciseprice of the existing $1.00 warrants to just 80 cents in order toget money in the door at that price. We can also see from theSTV lawsuit that Organovo tried to incentivize STV to exerciseby reducing the strike price to just 60 cents. This means thatOrganovo was attempting to issue new shares at a price of just60 cents as recently as February / March.

For revenue, Organovo may have some prospects with liver cellmodules at sometime in 2014. But we have been given noindication of the certainty or the amounts which may beinvolved. The key point here is that the hype surroundingOrganovo is in connection with the 3D printing of humanorgans. Not even the most bullish authors expect to seemanufactured human organ revenues any time in theforeseeable future. Instead, we will continue to see smallamounts of revenue from grants and research collaborations.Historically these have typically been in the range of six figureamounts.

In the meantime, we can see that Organovo has beensuccessful in two areas:

– selling stock to investors at $1.00 (or below)

– elevating its share price to above $6.00

The company has recently been sporting a fully diluted marketcap of nearly half a billion dollars, despite the followingfinancial metrics:

– lifetime revenues of just a few million dollars (coming fromgrants and research)

– non cash assets (including all intellectual property) of lessthan $2 million

Metrics like these do not justify a market cap anywhere nearhalf a billion dollars.

A very small but vocal minority of readers continues to posttheir emotional comments below these articles. However amuch larger (and silent) majority chooses to express theirviews by selling their stock rather than typing up rabidcomments.

Prior to my article, the stock was hitting $7.70 in pre markettrading. Following my article the stock fell to $6.50.

It is now the case that all investors have the benefit of fullinformation from these various articles and comments and theshare price continues to slide rather than recover any lostground. Following his article on Organovo, Mr. Napodano left asubsequent comment stating that he believes that “fair value”for the stock is around $4.00-5.00 – an additional decline of asmuch as 20% from the current level. In the near term, I wouldagree with this statement, which is why I continue to be shortthe stock. Although any potential equity offering couldpotentially push the share price even lower.

An undisclosed legal action

In its past financings, Organovo used the services of SpencerTrask Ventures for raising what now totals roughly $28 millionin proceeds from stock and warrants. As of March, Organovohad $15 million in cash remaining.

The lead individual involved was Adam K Stern, a ManagingDirector with STV. Mr. Stern also became a Director ofOrganovo.

According to the terms of the Private Placement Agreement,Organovo would pay to STV a cash fee equal to 10% of theproceeds along with “agent warrants” ($1.00 strike price, 5 yearmaturity) equal to 20% of the stock issuable to investors.There was also an 18 month “tail” provision allowing foradditional fees to be payable to STV based on subsequentcapital raises. A key point of contention in the current lawsuit isthat it was agreed that STV would be appointed as an exclusiveWarrant Solicitation Agent at least 20 days prior to any noticeof redemption. Organovo agreed to not contact any of theinvestors introduced on STV’s proprietary investor list.

In 2012, Organovo Director Stern left Spencer Trask and wentto Aegis Capital. Shortly thereafter, the arbitration suit statesthat Organovo began the warrant solicitation to raise newmoney from STV customers. But instead of using (or evennotifying) STV, Organovo used Mr. Stern’s new firm, Aegis.

In total, Organovo raised $14.8 million through the warrantexercises. In fact, Organovo lowered the exercise price onwarrants to just 80 cents in order to raise new money at thatlevel.

STV did not find out about any of this until it became publicinformation through Organovo filings.

STV and Organovo are now in a protracted legal battle in whichSTV is demanding the disgorgement (and payment) of $14.8million along with $1.3 million in cash fees and the issuance of2.9 million warrants owed. The warrants alone would currentlybe worth around $12 million. Total consideration is thereforenow in the area of $28 million.

During 2013, and after the warrant transactions conducted viaAegis, Organovo and STV began negotiating a Warrant Agreement which would arrange for payment of compensationto STV. A second draft of the Warrant Agreement was alsoprovided.

On March 1st, Spencer Trask’s attorneys sent an email toOrganovo CEO Keith Murphy rescinding the proposedagreement. A copy of the rescind email can be found here.

Following the rescinding, Organovo still sent small payments toSTV, however these payments totaled just $115,000, instead ofthe much larger sum demanded by STV.

Section 13 of the Placement Agency Agreement states (in ALLCAPS) that any “dispute, claim or controversy” which arises withrespect to this agreement will be submitted to JudicialArbitration and Mediation Services Inc. (“JAMS”) in the State ofNew York.

STV filed for arbitration on June 27th.

The next day, on June 28th, Organovo filed to fight the movefor arbitration, stating that the Warrant Solicitation Agreementvoided both the compensation earned by STV as well as theneed for arbitration.

As is often the case, many dirty secrets get spilled out inlawsuits. Organovo reveals that it had already agreed to pay toSTV $23 million in exchange for helping Organovo raise just$15 million in proceeds. The need to pay such a fee isstaggering in and of itself.

The lawsuits also reveal that Organovo was willing to lower thestrike price on STV’s warrants to just 60 cents, in order to raiseequity at that level. This was not in the distant past. This was inFebruary / March.

Both of these facts speak loudly to the fact that Organovo hasalways been eager to issue equity at just about any price, nomatter how low. The company has virtually no non-cash assetsand continues to generate only minimal and non-commercialrevenues. So getting money at any price may well be the beststrategy.

But it also reconfirms my suspicion that if the company is eagerto issue substantial equity for just pennies, then it will likely bea very large issuer of equity with the price sitting at just over$5.00. A normal discount for an equity offering like this wouldbe around 20%, meaning that an offering would likely takeplace at around $4.00. The stock price would then reactaccordingly.

Investors now need to ask themselves two very importantquestions:

First, how much of the $28 million in demanded compensationwill Organovo end up paying to Spencer Trask ?

Second, why are investors hearing about a potential $28million legal liability from me, rather than from Organovo in an8K or S3 legal disclosure ?

Reverse mergers in perspective

Commercializing a new product or service in the real world is anarduous and time consuming task. Successes are rare andoften take decades to make themselves evident.

Reverse merger stock promotions, in sharp contrast, are fareasier. It is very simple to achieve 8 and 9 figure fortunes inthe space of just a year or two.

Step one is to acquire the busted shell of a defunct company.Step two is to complete a reverse merger and inject sometoken amount of assets. Step three is to change the name.Step four is to heavily promote the story.

A few years ago, when China was hot, it was possible to create$500 million dollars by simply creating a reverse merger withthe “China” in the name. Hundreds of these companies wereuplisted to the NYSE and NASDAQ. Before that, when solar washot, there were numerous half billion dollar companies createdjust by having some hint of a solar business. Prior to thatadding “.com” to a companies name would often create similarvaluations for reverse mergers. But in the end, when thesecompanies failed to produce profits, we saw them ultimatelyplunge to the pennies.

As noted in “Get Rich or Die Tryin'”, there are two kinds ofinvestors in these promotions. The “Get Rich” crowd gets inearly at very low prices.

It is important to note that the Get Rich crowd has no intentionof waiting for the product to be an ultimate commercial success.Instead, they cash out when the promotion of the stock andthe story hits a peak.

Many authors (such as Mr. Napodano) have clearly expressedtheir views that the early investors in Organovo have alreadysold their stock – well before any commercial success is evenclose. They had no intention of waiting around for real worldsuccess because they were simply playing a stock promotion -not a product.

I agree that these investors will sell well beforecommercialization. But I also believe that they would be smartenough to wait for the price and liquidity which is provided bythe uplisting. This is why I believe that they are selling now.

Early investors cannot sell unless someone else is doing thebuying. Likewise, investors who buy these stocks should beaware that every time they buy, it is the result of someone elsebeing eager to sell. This is where the Die Tryin’ crowd comes in.

It is well known that institutions tend to steer clear of reversemerger promotions. As a result, reverse mergers rely heavilyon promotion to retail investors.

For example, Organovo has made ample use of a servicecalled RetailInvestorConferences.com.

Retail investors can often take comfort from various sources of”validation” which may not be appropriate.

For example, some investors believe that an uplisting to theNASDAQ or the NYSE is reflective of some sort of judgment onthe investment merits of a stock. This is quite clearly not thecase.

In recent years, there were hundreds of Chinese reversemergers which uplisted to the NYSE and the NASDAQ. It wasultimately uncovered that many of these companies wereempty shell frauds with virtually no assets or employees. Mostof these companies were delisted to the pink sheets just asquickly.

The only point I am trying to make is that an uplisting willimprove liquidity, but does not have any implication for theinvestment merits of a company. Note: I am not making anysuggestion that Organovo is a fraud.

Likewise, many investors assume that obtaining a researchgrant is also validation of the long term potential of acompany. Sometimes this can be the case. But we can also seethat the list of non-productive research grants is very long andvery large.

Examples include a $3 million federal grant to study the gameWorld of Warcraft and a $2.6 million program to teach Chineseprostitutes to drink responsibly.

My point is not to suggest that Organovo’s grants are withoutmerit. Instead, my point is to suggest that obtaining a fewmillion in grant money is a very common occurrence for manycreative ventures in the US.

So far, Organovo has not achieved any meaningful degree ofcommercial success. But the stock promotion has beenextremely successful.

Despite minimal assets and revenues, the company has beenable to briefly exceed half a billion dollars in market cap. Therecent rise briefly put the value of CEO Keith Murphy’s stock atnearly $40 million in a very short time since coming public.

Fortunes like this often take decades to achieve when one isdependent upon the actual commercial success of a product.But with reverse merger stocks, they often take just a year ortwo.

Ultimately, Organovo may end up being the reverse mergerthat transforms the nature of medicine as we know it. If so, itwill end up being worth many billions of dollars.

On the other hand, if Organovo fails, someone will come along,acquire the defunct shell and start over with a new billion dollarreverse merger idea. The name will be changed and so on.

Fortunately we are all able to come to our own investmentconclusions with respect to these divergent potential outcomesand we are all able to act accordingly.

I am short Organovo.

ONVO: Red hot but set to drop

Organovo (ONVO) is about as hot as any concept stock could ever be right now. It sits right at the crossroads of 3D printing and regenerative biotechnology. In addition, Organovo just uplisted from the OTCBB to the NYSE, further fueling the strong enthusiasm.

Following the uplist, Organovo soared from $3.90 to $8.50, a gain of over 100%. But since then it has been dropping almost daily. By Monday it had fallen 26% to $6.29. However, yesterday the latest issue of Popular Science hit the news stands with a cover story featuring futuristic “bio-printing”. Organovo was mentioned and the stock soared as much as 15% due to the article alone.

The article was clearly good for a predictable trade. It was also welcome relief for investors who were getting tired of seeing their stock give up gains each day. But those who are still left holding are likely walking in front of a moving train.

Popular Science has been a long time source of very interesting and thought provoking topics including flying cars and life on Mars. But in stoking the imagination, it tends to ignore many of the practicalities that these futuristic ideas entail.

With Organovo, we are now seeing a “rush for the exits” from different classes of sellers who are trying to beat each other to hit the sell button. With over $300 million in stock coming for sale, this will easily take the stock back to $4-$5 very quickly.

Overall, those who choose to hold shares of Organovo are likely fighting a losing battle which really just comes down to a huge supply of available shares coming for sale which can overwhelm current demand.

No one has a perfect crystal ball to predict where Organovo will be in 10 years time. The stock could be at $30 or it could be at zero.

While the concept is extremely cool, the company is extremely speculative.

Almost all revenues (only a few hundred thousand dollars per quarter) at present are the result of government grants and research collaborations. Revenues from actual product sales are still years away at best. The stock currently boasts a market cap of over $400 million (over $500 million fully diluted), despite having almost no revenues or near term revenue prospects. Against this $500 million valuation, the company has just $15 million in cash. Aside from this, the company has only $1.5 million in total assets. This is truly a “blue sky”, concept stock.

Fortunately, we all have the tools to predict the share price performance in the near term.

A sharp rise upon the uplisting was certainly easy to predict. The company had implemented all of the perfunctory corporate governance and structural measures necessary for an uplisting. Management had also been hinting at it for some time. Anyone who sold before the uplisting was either not paying attention or was just too impatient to wait for this predictable move up. However, the 100% gain was certainly larger than anyone could have predicted.

Now that the uplisting is behind us, a near term drop of at least 20-30% is easy to predict due to the following four very visible sell catalysts:

First, Organovo overshot on its uplisting, doubling from $3.90 to nearly $8.00 on that event alone. Many stocks will see a bump up of around 10-30% upon uplisting due to the improved liquidity that a senior exchange provides. But given that an uplisting involves no fundamental change in the business, any increases of more than 30% are typically very short lived. The 100% gain experienced by Organovo was highly unusual and has already begun to reverse itself.

Second, there is a substantial overhang of 32 million shares (around $200 million) from the sellers who were named in the April prospectus from the Reg D offerings. These investors would certainly not have sold before the uplisting. For anyone who had already been waiting for over a year to sell their stock, waiting an extra few months for the uplisting would be just plain common sense. The stock began its run up after the announcement on July 9th, but has only been on the NYSE for a few days. As a result, there simply has not been enough time for these sellers to complete their selling.

An article in May entitled “Get Rich or Die Tryin’” highlighted this overhang and caused a brief dip in the share price. But the volume that resulted from that article was nowhere near what would have been necessary to clear this number of shares and the price drop was not nearly as steep. So again, it is only sensible to conclude that the majority of holders were waiting for the uplist catalyst in order to sell their shares. The liquidity event that they have been waiting for is happening right now.

It should also be noted that many of the 16 million warrants that are listed in the prospectus would have already been exercised, either voluntarily or due to forced conversion by the company. When the warrants are exercised, the holder is then left with shares which must be sold. So the simple act of exercising the warrant does not remove the overhang. Only selling the underlying shares removes the overhang.

Third, Organovo just filed an S3 registration statement for the sale of $100 million in new shares. The S3 was just filed on July 17th, meaning that it was ready and waiting for the uplisting. By filing immediately after the uplisting, Organovo has signaled its intent to proceed with the offering as quickly as possible, taking full advantage of the strong share price. But with an offering size of around 25% of market cap, this deal will require a discount of around 20%. Relative to the current price, that would price the offering at around $5.50 plus warrants. However, the offering is now competing with the existing Reg D sellers. Any additional selling from the Reg D sellers will mean that Organovo must price its $100 million offering at an even lower level.

Forth, the uplisting has also made Organovo a much easier stock to short. Shorting a stock which just spiked due to its uplisting is often an easy money trade. But when such a stock has as much as $300 million in imminent selling due to two registration statements, it becomes almost too easy for short sellers to pass up. There is ample ammunition to make the stock fall, but there is virtually nothing that could make the stock rise substantially for more than a day or so.

As with the Reg D sellers, short sellers will likely drive the share price lower. This will potentially cause Organovo to price its equity offering below $5.00 if the price dips even slightly.

We can already see that the shorts have been flocking to Organovo as soon as the uplist was complete. The stock was quickly placed on the short sale restriction list due to heavy shorting. Borrowable shares have been snapped up almost as quickly as they become available due to very high demand.

Trading the uplisting

Anyone who follows uplistings should certainly have predicted that this one was coming. An uplisting is actually not a difficult process to undertake. In fact it is entirely mechanical and perfunctory.

Obtaining the original shell on the OTCBB is as easy as completing a reverse merger with a once-defunct company. Organovo completed its reverse merger in a series of transactions in 2011 and 2012.

From there, getting to the NYSE was easy. All that Organovo had to do was implement a board which was comprised mainly of independent directors and then establish three board committees (audit, nominations, compensation). The biggest impediment keeping most issuers from the NYSE or NASDAQ is the market cap and share price restriction. However, the sharp rise in Organovo’s stock this year made the uplisting almost a sure thing.

Organovo’s uplisting was entirely predictable and had been hinted at by the CEO for months. Despite this, the stock quickly doubled.

Investors need to keep in mind that there has been no fundamental change to the actual company which would change its valuation. It is the same company which now simply trades on a more liquid exchange.

In addition, many investors continue to be mistaken in assuming that the uplist implies some type of positive opinion being expressed by the exchange with respect to the company. This is absolutely not the case. Instead, the company simply fulfilled a simple check list of criteria and was then automatically accepted. In the past we have seen hundreds of companies undergo the identical process. A few years ago, it was the case that hundreds of fraudulent Chinese companies became listed on the NYSE and the NASDAQ. When they were ultimately delisted again due to fraud, the NASDAQ and the NYSE were very quick to point out that uplisting does not involve any qualitative assessment on a company’s investment merits.

The key point is that holding Organovo prior to the uplisting was an obvious and easy trade. The uplisting was almost certain to provide a quick boost of 10-30%. But once the share price spiked by 100% with no fundamental developments, selling it is now an even more obvious trade.

The impact of a 32 million share overhang

Back in April, Organovo filed a prospectus which allowed for the sale of 32 million shares of stock by selling stockholders. These shareholders got in at a price of just $1-2 per share around 18 months ago and are now sitting on 3-4 baggers in that time.

Expecting these shareholders to continue to hold such a quick homerun forever is just plain unrealistic. In addition, the timing of the uplist coming just 9 weeks after the prospectus suggests that this was very much a planned liquidity event for these shareholders.

Some may be tempted to think that these shares were already sold following the “Get Rich or Die Tryin'” article in May. This is clearly not the case. That article caused a brief dip in the share price. But the volume only exceeded 1 million shares for two days. Within days of the article, the volume was back down to 200,000-300,000 shares per day – not nearly enough to clear such a huge overhang.

The ability for these holders to eventually sell was entirely made possible by the uplist to the NYSE. Just prior to the uplisting, the stock was trading only around 100,000 shares per day. A full liquidation of 32 million shares would easily have taken months and would have put extreme pressure on the share price.

Now the stock has far greater liquidity and the share price is 100% higher than where it was before the uplist.

Although this is highly beneficial for those who are selling, it will still mean heavy pressure on the share price for those who continue to hold. At current prices, the 32 million shares equates to around $200 million, or roughly 50% of Organovo’s market cap !

Even at prices of around $4.00, this means that many of these holders will still be sitting on 4 baggers. If selling at around $6.00 these holders are locking in quick 6 baggers. The point is that these sellers will likely not be very sensitive to price when locking in their tremendous gains. They have more to lose by waiting than they have to gain.

There has simply not been enough volume to allow for sales of 100% of these shares since the uplisting, which means that we will likely see continued pressure on the share price. We have already seen it dip from a high of $8.50 on Thursday to a low of $6.29 on Tuesday – a very quick retreat of 26%.

Evaluating the $100 million S3 offering

Organovo filed its $100 million S3 shelf registration statement just 1 week after it became listed on the NYSE. The timing of this filing was clearly not a coincidence.

Documents such as this will take the company and its legal counsel weeks to complete. But completing it before the uplisting would have been a waste of time and money because there would be many stock specific sections that would need to be redrafted following the move to a new exchange.

Instead the company clearly had a fully drafted S3 which applied to an uplisted stock even before the uplisting had occurred. They simply waited for the uplisting to take place and then filed the document almost immediately.

Given the price and liquidity before the uplist, launching such an offering at that time would not have been possible.

Offerings such as this can be differentiated between operational offerings and opportunistic offerings. Operational offerings are sized according to specific operational needs which are defined in the “use of proceeds” section. Opportunistic offerings are typically done simply to take advantage of an unusually high share price.

The offering by Organovo is really a combination of the two offering types. It is clear that the company does have an operational need. Losses have ranged anywhere from $10 million to almost $40 million – per quarter ! Yet the company currently has only $9 million in net cash. The company clearly needs to raise at least $30-40 million in the near term.

But the offering size of $100 million clearly reflects a view by the company that the current share price makes NOW the time to raise as much as possible.

This is further confirmed by the defined use of proceeds, which is totally open ended and non-committal:

Except as described in any prospectus supplement and any free writing prospectus in connection with a specific offering, we currently intend to use the net proceeds from the sale of the securities offered under this prospectus for general corporate purposes, including research and development, the development and commercialization of our products, general administrative expenses, license or technology acquisitions, and working capital and capital expenditures.

We may also use the net proceeds to repay any debts and/or invest in or acquire complementary businesses, products or technologies, although we have no current commitments or agreements with respect to any such investments or acquisitions as of the date of this prospectus.

We have not determined the amount of net proceeds to be used specifically for the foregoing purposes.

As a result, our management will have broad discretion in the allocation of the net proceeds and investors will be relying on the judgment of our management regarding the application of the proceeds of any sale of the securities.

Pending use of the net proceeds, we intend to invest the proceeds in short-term, investment-grade, interest-bearing instruments.

This is a very boiler plate use of proceeds definition for companies who wish to complete an opportunistic offering. It basically says “We know that we will need the money sooner or later, so just trust us.” It is also a very clear way of management saying that “at the current share price, we wish to sell every share possible”.

The problem for current investors is that the offering size is extremely large. At nearly 25% of market cap, the $100 million offering will likely require a 15-20% discount from the current share price. The offering is made more difficult given that the stock is almost entirely held by retail investors. A $100 million offering will clearly require the participation of institutions into a stock which has never had institutional interest. This will likely mean the further issuance of a large number of warrants as we have seen in the past.

All in all, if the offering were priced today, it would likely be priced at around $5.50 or below and would include warrant coverage. This would almost certainly send the share price back to around $4.50 in short order.

The problem is that now the company is competing with the Reg D sellers for who gets to sell first. If the stock falls below $6.00 due to Reg D selling, then the company may end up selling at below $4.50 under the S3 and having to include even more warrants.

For those who wish to remain longer term holders of Organovo, there is no reason to hold at a time when the share price is likely to exhibit a predictable decline of 20-30%. It is just as easy to sell now and buy back in at prices below $5.00 again.

Here come the shorts

One of the biggest positives of an uplisting is the fact that liquidity is greatly improved on a senior exchange. This will typically provide a boost to the share price. But it is often overlooked that the uplisting is typically the beginning of meaningful short interest. Once the share price rises, the new wave of shorts can often push it back down significantly.

Shorting OTCBB stocks is often a losing game due to the poor liquidity. As a result, funds who wish to short an OTCBB stock will simply keep it on their watch list and wait until it uplists. This strategy has an added benefit in that it usually becomes possible to short the stock at a noticeably higher level due to the predictable pop upon uplisting. This is exactly what we have seen with Organovo.

This short selling should be expected to create additional downward pressure on the stock at just the time the company is looking to issue stock.

Now there are 3 major competitors all selling stock at the same time: Reg D sellers, short sellers and the company itself with its $100 million S3.

Prior to the uplist, only about 1% of shares were sold short. This is virtually nil. When short interest is already high, any changes in the short will not have a noticeable effect on the share price. But when short interest is going from nothing up to something high, the effect on share price can be pronounced. As a high flying stock with minimal revenues, Organovo could expect to see as much as 25% of shares sold short – around 15 million shares. At a minimum, this will serve to cap further upside in the share price. At a maximum, it could end up driving the share price much lower when combined with the Reg D selling.

Valuation considerations for Organovo

At the present time there is no defensible way to place a fundamental valuation on shares of Organovo. The best we can do is try to predict how certain events will move the stock in one direction or another. The uplisting saw a move up while the flood of shareholder and company selling will knock the stock back down substantially.

Organovo now sports a fully diluted market cap of around half a billion dollars. This market cap will grow considerably larger once the $100 million S3 offering is completed.

Against this, the company has only generated lifetime revenues of a few million dollars. These revenues have primarily been the result of government grants and research collaborations. There have been virtually no meaningful revenues from actual sales of a product. Any material revenues are still years away at best.

As a result, investing in Organovo is largely about investing in a story, not about investing in financials. This is the primary benefit of using a reverse merger to list on the OTCBB.

If Organovo were a private company attempting to tap private equity investors, there is simply no way that these investors would award a half billion dollar valuation to a company which only generates a few hundred thousand dollars per quarter in total revenue.

But the reverse merger-OTCBB-uplist process is both cheap and easy. This allows the company to tap into retail investors who are willing to invest based on a sexy story and based on current market hype for both biotech and 3D printing.

Investors cannot say that they were not warned about the speculative nature of Organovo’s stock. The list of risk factors runs longer than most companies at 13 pages. The company has made it clear that they are working with an unproven emerging technology which may never amount to anything. The have also clearly stated that they will continue raising money and incurring losses for the foreseeable future. This is all part of the norm for this category of speculative “concept stock”. There is simply no foundation upon which to build a traditional valuation framework.

For those who choose to invest in Organovo, it is essentials to keep abreast of any new corporate developments. But of even greater importance is the continuous monitoring of the market for signs of increased or decreased hype surrounding the space. With no real revenues or assets, this stock is affected far more dramatically by sentiment towards the space than it is by actual developments at the company.

Organovo – longer term investment thesis

Organovo is hoping to one day commercialize technology that generates human tissues. The company hopes that its technology could one day generate tissues for use in drug discovery and development, biological research, and therapeutic implants. The previous technologies in the field have relied on monolayer (2D) cell cultures. Organovo hopes to create constructs in 3D that could potentially replicate human biology.

According to the 10-K, Organovo’s technology is derived from the research of Dr. Gabor Forgacs, a professor at the University of Missouri. The company currently holds licenses to patents from the University of Missouri-Columbia, Clemson University, and Becton Dickinson. The Company has outright ownership of six other patents.

Organovo’s path to its current point in the development process has been long but the company still has far to go.

In 2004 Dr. Forgacs began working on organ printing at the University of Missouri-Columbia when his team was awarded the $5 million National Science Foundation Frontiers in Integrative Biological Research (FIBR) grant. This same team subsequently filed the first patent application for the NovoGen™ bioprinting platform. Following the technological developments under Dr. Forgacs direction, a founding team formed and Organovo incorporated in 2007. In July 2008 the company raised $3 million in angel funding, and Organovo opened laboratories in San Diego in January 2009. As Organovo continues down the path towards commercialization, the company has entered into collaborative research agreements with pharmaceutical corporations and federal grants as well. The company first began to form corporate partnerships in the drug discovery area with pharmaceutical and biotech companies in March 2011. In February 2012 the company went public in a $15.2 financing round. Clearly, the company has grown enormously since its $3 million angel investment in 2008 and $15.2 million financing round in 2012, one and a half years ago. However, Organovo’s technology remains extraordinarily speculative and conceptual. It is likely 10 years away from being any sort of reality.

The key to the company’s technology is the NovoGen MMX Bioprinter™ which the company proudly states it developed within two and a half years of commencing operations. Organovo’s technologies enable various types of tissues to be created using combinations three types of building blocks that themselves include combinations of “bio-ink” comprised of only cells and “hydrogel” comprised of biocompatible gel. The company believes that at least part of the tissues its technology creates could be constructed solely of cells, a key differentiator from older technologies. This feature enables organovo to generate architecturally and compositionally defined functional human tissues for in vitro use in drug discovery and development. This can potentially allow more efficient drug development by eliminating the need for actual human subjects in some cases. To illustrate the enormous utility of this, imagine how much more efficient it would be to test drugs on human tissue that can be constructed in a lab than it would be to test drugs on actual people who must be recruited and for whom safety must be assured. Moreover, tissues created using Organovo’s technology may be more effective than animal testing. Organovo’s fully cellular constructs may also offer advantages in regenerative medicine such as augmenting or replacing damaged tissues. In addition to products for use in drug discovery/development and regenerative medicine, Organovo plans to sell 3D bioprinters for use in medical research and a portfolio of consumables for use with the bioprinters. The role of consumables is conceptually similar to the role of ink in the business model of traditional printer manufacturers.

While the products Organovo is developing may in the long term represent significant advances over today’s technology, the company is innovating in a rapidly changing field, and by the time the company’s products reach the market the landscape may be very different. While Organovo works on their 3D printing technology, pharmaceutical, biotech and diagnostic companies, as well as research institutions and government agencies are pursuing related technologies that have the potential to make Organovo’s technology obsolete. In fact, the scariest thing is that it is very possible that this obsolescence could occur before the company is even able to realize any material revenues from its technology.

Disclosure: I am short ONVO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.