Friday, September 15, 2006

Discovery Partners-Infinity Pharmaceuticals Merger Completed (new ticker INFI)
Decision Time for Net/Net Buyers

When we purchased shares of Discovery Partners, it was because Discovery was not only trading below its NCAV, but at a discount to the cash on its balance sheet. We also saw some promise that the company could get back to profitability, or so we thought. We essentially viewed the purchase as a free one year call on the recovery of the company’s business.

The game changed when Discovery announced plans to merge with Infinity Pharmaceuticals, a private biotech company. Presumably, these companies saw the merger as a marriage between a company with lots of cash and no products (Discovery) and a company with a little cash, and some products in the pipeline. Now the merger is complete, and the new entity, Infinity Pharmaceuticals, trades under the symbol INFI.

Decision Time?
Just last week, we published a piece “When to sell a Net/Net”, which stated that the time to sell a net/net was when the original reasons you purchased it were no longer true. Believe it or not, we wrote this piece with Discovery Partners in mind. We knew the merger was approaching, we also knew it was decision time.

Torn and Lucky?
Shares of Discovery Partners have been on a nice tear since we purchased in the $2.40 range this past March. Factoring in the 1 for 4 reverse split that went hand in hand with the merger, shares are up about 67% since our purchase. We'd like to believe that gain is a result of our skill as deep value stock pickers. But we value honesty too highly here at Cheap Stocks. We got lucky with this one. Just prior to the completion of the merger, Infinity announced a cancer drug development deal with Medimmune (MEDI) which provides an upfront $70 million payment, with the possibility of up to $430 million in milestone payments. This news lifted the stock 10%, to the $3.50 range, and since the merger, it now trades at $16.00 post the 1 for 4 split, or $4.00 split adjusted.

The Dilemna
We hate being right for the wrong reasons. We have little interest in owning a biotech company, yet this company has some momemtum (Did we use the word momentum?)
with the Medimmune deal as a tailwind. Our net/net is gone, replaced by a cash burning biotech company. Forgive us Ben Graham. Maybe its time for a trailing stop.

Other Discovery Partners Research:

*The author has a position in this stock. This is neither a recommendation to buy or sell this security. All information provided believed to be reliable and presented for information purposes only.

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