Pharma firm iBio (NYSEAMERICAN:IBIO) stock jumped over 800% last week before falling down to what turned out to be a gain of more than 300%. It’s the latest coronavirus “hot stock.” The problem is the company has no real prospects of making money on an ongoing basis.
As a result, investors in the stock are likely to get burned. The huge jump in price came from the company’s efforts to produce a COVID-19 related vaccine product. This led IBIO, on March 20, 2020, to announce an equity capital raise of up to $50 million in common stock.
An Equity ‘Line of Credit’ Raise Is Different
Lincoln Park Capital Fund, a Chicago-based hedge fund, agreed the previous day to buy up to $5 million worth of stock each time iBio asks. In other words, Lincoln Park essentially will have no control over the price paid.
This type of financing is called an “equity line of credit” (ELOC). But it has limitations. These effectively prevent the investor from owning more than 10% of the aggregate issued and outstanding share capital of the issuer.
Lincoln Park and iBio have a relationship that goes back at least to mid 2017, when the firm agreed to purchase up to $16 million of IBIO stock, with an initial investment of $1 million.
So let’s do the math. IBIO stock presently has an $80.7 million market value. The most the company can raise is $8.7 million at any point in time. After that, the most Lincoln Park Capital can accumulate is 20% of the stock. That would be $16 million at today’s price.
So why is the ELOC purchase agreement for up to $50 million? One way that works is if the market cap is significantly higher.
For example, $50 million is 20% of an implied $250 million market value. That implies iBio stock would be more than 300% higher than today’s price. But it works on the downside as well.
Stock Drop Benefits Lincoln Park
If, for example, the stock fell 50% from today, at $40 million, Lincoln could buy $5 million (if directed to by iBio) or 12.5% of the stock’s market value. In other words, it is clearly in Lincoln Park Capital’s interest for iBio stock to fall.
And guess what? Since iBio signed the agreement on March 19, 2020, the stock has been dropping.
So each time iBio calls Lincoln Park Capital and says they need $1 million, Lincoln Park Capital benefits if the stock price keeps falling.
Here is how that works: I am not accusing Lincoln Park Capital of shorting the stock. But it is possible that astute institutional observers, not affiliated with Lincoln Park Capital, have begun shorting iBio shares. Short interest has recently seen a 59.3% increase.
In fact, these short-sellers know that iBio is going to have to issue higher requests for shares to be sold just to raise $1 million. The more the stock drops, the greater the number of shares that have to be issued by iBio. This, in turn, creates more dilution and therefore, more reason for the stock to fall.
As a result, iBio will get into a “death spiral” of sorts. It has to continually issue more shares just to raise the same level of capital. This clearly benefits short sellers of the stock.
In fact, whenever short-sellers see these equity lines of credit deals, they start to massively sell shares that they borrow (i.e., they short the stock).
iBio Stock is Dead Money with ELOC Agreement
The pharma firm clearly needs the money from the equity line of credit. But it’s now stuck in a capital raise deal over the next 36 months. That promises to do nothing but hurt IBIO stock.
That is, unless a huge breakthrough comes through on the vaccine side. But there is no way to forecast this.
So consider the odds. The equity line of credit deal creates forces pushing down the stock. Lincoln Park Capital and the short-sellers benefit from these forces.
But there is only limited and speculative information on iBio’s upside potential. That leads to a lopsided probability chart for the stock.
Bottom line, look for iBio stock to continue dropping.
As of this writing, Mark Hake, CFA does not hold a position in any of the aforementioned securities. Mark Hake runs the Total Yield Value Guide which you can review here.
