|Shares Out. (in M):||89||P/E||0.0x||0.0x|
|Market Cap (in $M):||1,067||P/FCF||0.0x||0.0x|
|Net Debt (in $M):||-217||EBIT||0||0|
Exact Sciences Corporation (“EXAS”) is an extremely timely and compelling short, with an imminent catalyst that we believe will cause shares to plummet as much as 75% in the near future. EXAS has one product in its pipeline, Cologuard, which is a non-invasive test for colorectal cancer that requires patients to deposit fecal matter into a jar, administer a preservative to the feces, and ship the jar to EXAS’ laboratory where EXAS evaluates the feces and diagnoses for colorectal cancer (“CRC”). Cologuard combines an existing non-invasive test, the fecal immunochemical test (“FIT”), with additional tests for DNA markers to increase sensitivity to cancer and large polyps at the cost of specificity. In our discussions with investors, we have found that the consensus is that the current bear thesis for EXAS is predicated on a failure for EXAS in marketing Cologuard (similar to its predecessors, PreGen-Plus and ColoSure), while bulls believe Cologuard will achieve substantial market penetration. While we are very skeptical of Cologuard’s marketability, we view that as immaterial to our thesis and already well-covered by others, and we will refrain from making it a focal point of this report. We have no doubt that Cologuard will be approved by the FDA. However, we also believe that investors will soon find that FDA approval is a meaningless victory.
Soon after the FDA decision (potentially even the same day), the Centers for Medicare and Medicaid Services (“CMS”) will announce its preliminary National Coverage Determination (“NCD”) for Cologuard. We believe the eventual CMS national reimbursement limit for Cologuard will be below EXAS’ gross cost per test—effectively making Cologuard unsellable for EXAS. Based on extensive diligence and consultations with industry experts (including a former senior CMS employee), we are confident that CMS and its Medicare Administrative Contractors (“MACs”) will establish a reimbursement rate for Cologuard that is at least 70-80% lower than the ~$500 rate EXAS has projected to investors due to CMS using a gap-fill process to price the test rather than the crosswalk analysis EXAS has repeatedly claimed will be used. We also think there is a meaningful probability that CMS may simply decide to issue a negative NCD and refuse to cover Cologuard, as CMS did in 2009 with the CT colonography (“CTC”) when it became clear that while CT colonographies were capable of diagnosing cancer and allowing physicians to detect polyps, they were far from being cost-effective at the reimbursement prices required to make the test economical for practitioners.
There are two methods for CMS to determine reimbursement rates for diagnostic laboratory tests: crosswalk analysis and gap-fill. A crosswalk analysis is a cost-stacking approach where CMS adds up the reimbursements for the various components of a procedure/test to arrive at a reimbursement rate for the procedure/test. Crosswalk analyses are intended for procedures/tests that represent logical combinations of pre-approved procedures/tests that are already in use. The gap-fill process involves assigning a new test code, and allowing MACs to establish carrier-specific reimbursement rates for the first year of coverage. Gap-fill reimbursement rates depend heavily on cost-effectiveness data when it is available, and FITs serve as an excellent and relevant precedent for Cologuard.
In 2003, CMS evaluated FITs after Enterix (a pioneer in the FIT space) requested reimbursement from CMS of $28 per FIT. CMS priced FITs using the gap-fill process, and commissioned a cost-effectiveness study from the Agency for Healthcare Research and Quality (“AHRQ”, a HHS subsidiary) yielding a range of cost-effective prices (-$4.22 to $29.02) based on a range of inputted assumptions. The assumptions used to produce the prices at the very top and bottom of that cost-effective range were overly optimistic and pessimistic, respectively, and included sensitivity and specificity figures outside the range of appropriately-powered published results. Ultimately, CMS issued a national reimbursement limit for the test of approximately $22, which reflected the top of the cost-effective range for published results.
To justify its ~$500 price target, EXAS requires CMS to price Cologuard’s reimbursement using a crosswalk analysis. That is, EXAS added up CMS reimbursements for the separate test components within Cologuard, and arrived at a total sum of approximately $500. Analysts have inputted reimbursements ranging from approximately $300 to $500 into their models, and used those assumptions to churn out valuations in the $15/share to $25/share range for EXAS. This analysis is completely flawed, and we are confident that CMS will base its reimbursement rate off of a cost-effectiveness analysis instead. As we confirmed with a former senior CMS employee with more than a decade of experience working on CMS reimbursements and policies, the assumption that CMS will use a crosswalk analysis is fundamentally wrong for two reasons:
1) The DNA tests contained within Cologuard, which account for over 95% of the value in EXAS’ hypothetical crosswalk analysis, were explicitly banned by the Department of Health and Human Services (“HHS”, parent bureau of CMS) in 2012 from being reimbursed as diagnostic tests (as they would be used in Cologuard). See below for relevant text from the HHS memorandum (emphasis added):
“The Social Security Act provides that no Medicare payment may be made for expenses incurred for items or services that are not reasonable and necessary for the diagnosis or treatment of illness or injury or to improve the functioning of a malformed body member. Consistent with this, Medicare does not pay for preventive screening tests except for those specifically authorized by statute (e.g., prostate-specific antigen test). Since CMS considers predictive tests to be screening tests, genetic tests for this purpose are not covered by Medicare.”
While certain DNA tests for cancerous markers are covered by CMS, due to the expensive nature of such tests, they are almost exclusively used as “companion diagnostics” for patients who have already been diagnosed with cancer in order to determine proper treatments—they are NOT approved to diagnose cancer itself in normal, asymptomatic patients and it is well-known that they are not cost-effective for such purposes. For instance, the most expensive component of Cologuard is the KRAS test (currently sold as therascreen KRAS PCR Kit). This test is being reimbursed by Medicare, but only for patients who are already known to have colorectal cancer in order to determine whether or not EGFR inhibitors (such as cetuximab and panitumumab) would be appropriate treatments. It is NOT reimbursed as a diagnostic tool for patients without symptoms to determine whether or not they should be referred for a colonoscopy. We encourage investors to visit the MolDX website to review further information regarding caveats for genetic test reimbursements.
The genetic tests EXAS uses within Cologuard (KRAS, NDRG4, and BMP3) are not new or novel, and CMS is not permitted to reimburse for any of those tests individually as screens for colorectal cancer. It makes no sense for HHS to contradict itself by suddenly electing to make an exception for Cologuard, and this would open the gates for companies to push for the dozens of existing genetic tests to be independently approved for screening for various cancers.
2) Calculating the reimbursement rate via crosswalk analysis has no relation at all to the true value of Cologuard. Crosswalks are only used in cases where the test components are used together in practice and combining them represents a logical, cost-effective combination. That is not the case for the DNA tests within Cologuard—none of which are currently being reimbursed as screening tests for CRC. Again, the DNA tests within Cologuard that EXAS is seeking reimbursements for are only used in practice to check for specific mutations within patients who are already known to have cancer in order to determine proper courses of treatment.
Given that Cologuard is a screening test for CRC, it is especially ridiculous to assume that CMS will price Cologuard via crosswalk as opposed to using gap-fill (cost-effectiveness). First, there are numerous alternative tests spanning a wide range of sensitivities/specificities available to screen for CRC which allow for an easy cost-effectiveness analysis. Second, CMS has consistently relied on established cost-effectiveness models in order to determine appropriate reimbursement rates for CRC screening tests. CMS has commissioned a cost-effectiveness report for every single CRC diagnostic test it has reviewed in the past decade. Finally, pricing Cologuard using a crosswalk would open the floodgates for biotech companies to stack on as many expensive DNA tests as possible without regard to practicality or efficiency.
Imagine if a competitor created a new test that combined a dozen random DNA tests for markers linked to different types of cancer, and then asked for a $5,000/test reimbursement from CMS based on a crosswalk analysis of those tests. Would this new test be able to detect (to an extent) different types of cancer without harming patients? Sure, but only to a very limited extent—most cases of cancer would be missed since specific DNA markers are typically found in a relatively small portion of total patients with any given type of cancer. Would the new test be a cost-effective use of healthcare dollars? Not at all. Cologuard can be boiled down to a combination of FIT (a CRC test with a CMS national reimbursement limit of $21.70) with additional DNA marker tests (KRAS, NDRG4, and BMP3). As we will show in this paper, the incremental value of those additional DNA tests does not even come close to justifying EXAS’ asking price. Breaking out the sensitivity of the FIT by itself based on the DeeP-C results, we find that at least 80% of the total sensitivity to cancer provided by Cologuard can be directly attributed to Cologuard’s embedded FIT (which carries a national reimbursement limit of $21.70). To put it simplistically, 80% of Cologuard’s cancer detection ability is already available for $21.70 per test. EXAS is claiming that it will be reimbursed an additional $450+ per test for the 20% of the cancer sensitivity provided by the DNA tests simply because those DNA tests are ordinarily billed that much, despite that fact that those prices are associated with completely different uses that affect a much smaller patient population.
We believe that CMS will price Cologuard using the gap-fill process instead of crosswalk, meaning that MACs will calculate reimbursement rates largely based on a cost-effectiveness analysis commissioned by CMS. A prior cost-effectiveness report published by CMS shows that a theoretical test dominating Cologuard in every single aspect of sensitivity and specificity, many of them by a wide margin, warranted a reimbursement rate of $179 - $247/test. Therefore, Cologuard cannot possibly achieve a reimbursement higher than $247/test. We have constructed an internal cost-effectiveness model based on thorough assessment of published colorectal cancer (“CRC”) detection cost-effectiveness modeling, and our model shows that the most likely cost-effective reimbursement price will be between $100 and $150 per Cologuard test: approximately 70-80% less than EXAS’ proposed rate. However, a complex model is not even necessary to see that this is the case—it is clear from published CMS data that we will discuss in this paper that even a $150/test reimbursement rate for Cologuard is a major stretch. We also find it very telling that EXAS has been unable to find any partners for Cologuard and has not published its own cost-effectiveness study for Cologuard despite purportedly “working” on one since 2011.
Cologuard is EXAS’ second attempt at getting CMS approval for a CRC test. CMS previously reviewed Cologuard’s predecessor, PreGen-Plus, which was a different fecal test for CRC that also relied on DNA markers. CMS rejected it due to lack of FDA approval—but not before commissioning a cost-effectiveness analysis showing that the cost-effective price for PreGen-Plus would be $34 to $60 per test—well below the $300/test that EXAS was asking for. Let’s assume that $300 was representative of the reimbursements for the DNA test components of PreGen-Plus. While CMS technically did not use gap-fill to price PreGen-Plus because it was rejected, ask yourself this: do you think CMS would have been willing to reimburse $300/test when cost-effectiveness showed that the test was only worth $34-$60/test? Do you think CMS will reimburse at $500/test for Cologuard when cost-effectiveness modeling shows that the test is only worth $100-$150? Exactly. Using a crosswalk analysis in the case of Cologuard is especially inappropriate given the huge discrepancy between the cost-effective price for Cologuard and the price calculated using a crosswalk.
Due to the high gross costs associated with its Cologuard test (estimated by sell-side analysts to be between $150 - $250 per test and implied to be $165+/test based on EXAS executives’ comments during earnings calls and EXAS’ 2013 Investor Fact Sheet), EXAS needs to achieve reimbursements in excess of $150 to even turn a profit. To put it bluntly, we believe that following FDA approval, EXAS will be unable to sell its Cologuard test at a gross profit. Barring any new radical developments in its pipeline this leaves EXAS worth little more than the cash on its balance sheet (a little over $3/share).
Again, the two problems with a crosswalk analysis are that 1) such a reimbursement rate has no relation at all to the true value of the EXAS DNA test and 2) the DNA tests contained within Cologuard are explicitly banned from being reimbursed as diagnostic tests for patients with no symptoms (as they would be used in Cologuard). A crosswalk analysis ignores the actual cancer detection rate or prevalence of type 1/type 2 errors (sensitivity and specificity) and completely ignores the other currently available methods for colorectal cancer detection. Crosswalk pricing is only applicable in cases where the proposed test/procedure represents a logical combination of other reimbursable tests/procedures that would be used in conjunction with each other during the ordinary course of care, which is not the case for Cologuard’s DNA marker tests. While genetic tests could technically be used to detect cancer, using them for such a purpose is not cost-effective. The reimbursement rates for KRAS, NDRG4, and BMP3 (the DNA marker components of Cologuard) were set by MACs for detecting mutations in patients already known to have cancer in order to determine the proper treatments. EXAS’ proposed crosswalk analysis takes the reimbursement rates for the DNA tests contained within Cologuard completely out of the context of established reimbursement rates. In addition, performing cost-effectiveness analyses to determine coverage/reimbursement rates for colorectal cancer screening tests has been CMS policy for the past decade. Every single innovation within colorectal cancer screening that came up for CMS review regarding National Coverage Determination has been subject to an extensive cost-review paper ordered by CMS—this includes a report on Fecal Immunochemical Tests commissioned in 2003, a report on Cologuard’s predecessor PreGen-Plus commissioned in 2007, and a report on CT colonographies commissioned in 2009. We strongly encourage investors to review the relevant papers, which we have posted in the Appendix to this report.
On top of all this, EXAS has grossly misrepresented the relative benefit of Cologuard to investors. EXAS’ pivotal DeeP-C trial results are extremely misleading when comparing Cologuard with FITs because EXAS intentionally used a high cut-off level (100 ng/mL) for hemoglobin levels in the FITs it was comparing Cologuard to, which made the FITs seem less capable of diagnosing cancer/large polyps than they really are. FITs work by measuring levels of human hemoglobin in a fecal sample provided by the patient and comparing them to a predetermined “cut-off level” to determine whether or not a patient should be referred for a colonoscopy. The presence of human hemoglobin in feces indicates bleeding in the colorectal passage, which could be caused by polyps and/or cancer. The higher the cut-off level, the more likely the FIT will miss cases of advanced adenomas or cancer and the less likely the FIT will show false positives. The lower the cut-off level, the more likely the FIT will catch advanced adenomas or cancer, but the more likely the FIT will also show false positives for patients who do not have CRC or advanced adenomas. In this report, we show that a well-powered 2012 trial using the exact same brand of FIT as EXAS used in the DeeP-C trial showed that adjusting the cut-off point for that FIT down to 50 ng/mL as opposed to the 100 ng/mL level EXAS used in DeeP-C accounted for nearly all of the difference in sensitivity between the FIT and Cologuard observed in DeeP-C, while maintaining superior specificity. Because EXAS took so long to develop and get Cologuard approved, technological advancements in the machines responsible for interpreting FITs have allowed FITs to achieve comparable results to Cologuard.
Finally, we think the addressable market for Cologuard is approximately 70% smaller than EXAS claims and is in decline. A paper published on March 17, 2014 shows that the majority of patients (approximately 70%) using FITs/FOBTs
are also concurrently having colonoscopies every 10 years, and used the non-invasive tests as a secondary detection test for CRC. The author explicitly stated that “dramatic declines in incidence in recent years have been largely attributed to the uptick in colonoscopy because it is the only test for which use increased from 2000 to 2010; use of fecal immunochemical testing and sigmoidoscopy declined during that time period.” Given the price point EXAS is targeting, no payer would be willing to cover their test in tandem with colonoscopies unless the colonoscopy were medically necessary based on the results of a Cologuard test. As a result, we believe the true addressable market would be thos patients who are exclusively using FITs/FOBTs: approximately 2.7mm patients. Assuming 30% market share (as EXAS Management has), we arrive at 810,000 patients. Assuming uniform discrete distribution over three years, this comes out to 270,000 patients per year. Even if EXAS were to achieve their theoretical reimbursement of $500/test (which we view as impossible), peak revenue would only be $135mm/year (compared to the billion dollar market that bulls and analysts are predicting).
We believe that the unfavorable CMS reimbursement decision will be followed by EXAS unsuccessfully attempting to convince private insurers to pay a price above its gross costs. While we, like many others, also believe that adoption by patients would be low regardless of reimbursement and that both patient compliance/acceptance and total market size for Cologuard are grossly overestimated, these issue are ultimately irrelevant. These issues are secondary to the much larger problem: a failure to achieve a reimbursement price in excess of the gross cost of each Cologuard test. We believe this will prevent the test (regardless of how many patients want to use it) from ever generating a profit.
 Sensitivity is the rate of correct positive readings; if sensitivity is 90%, then, on average, 90% of the positive cases would be correctly interpreted as positive while 10% of positive cases would be incorrectly interpreted as negative
 Specificity is the inverse rate of false positive readings; if specificity is 90%, then, on average, 10% of the negative cases would be incorrectly interpreted as positive
 The exception is Maxim Capital, which was rightfully suspicious regarding EXAS’ prospects and has issued a Sell rating on EXAS with a current price target of $8
 See CMS CRC Screening Precedents & How CMS Will Get to $100-$150/Test