When nuclear cancer treatment device developer Sirtex Medical announced mid-month that a clinical trial of its targeted radiation treatment did not show a meaningful improvement in patients with liver tumours, the sharemarket took the stock out the back, and shot it. Sirtex shares plunged 62% on the news, finishing down 55% on the day at $17.53, stripping $1.2 billion from its market value.

The Sirtex story

Now if you had bought Sirtex Medical for 70 cents in 2001, that fall would have been annoying; but if you had bought the shares at any time since July 2014 – the last time SRX traded at $17.53 – you were, all of a sudden, under water.

And if you had bought this year – when investors were getting excited about the upcoming trial results – you could be very deep under water: earlier this month, Sirtex Medical changed hands for as high as $39.

Sirtex

Source: Yahoo!7 Finance, 30 March 2015

Some people might tell you that the gut-wrenching plunge in Sirtex shares is part-and-parcel of biotech investing, but it is actually part-and-parcel of sharemarket investing in general. All listed companies are constantly being revalued on the prospects for their future earnings: this process is simply magnified in the case of biotech companies, where success (or otherwise) in clinical trails is absolutely critical. But the news flow for a biotech stock is much more important than it is for an industrial stock.

Resources companies face a similar knife-edge when reporting drilling results: what looked like turning into a promising mining development or gas field can turn sour with a poor well.

As it happens, all is far from lost for Sirtex Medical. The treatment did meet the study’s secondary end point of controlling liver tumours, while not improving survival rates: that could lead to higher utilisation, and on that basis, the shares have recovered to $20.17. The full results of the trial will be released in May.

But Sirtex has built a profitable business, generating almost $200 million in revenue selling its “micro-spheres” to surgeons (mainly in the US and Europe, for treating patients with liver cancer, who have undergone chemotherapy and have no alternative treatment available.) The company hoped the latest trial would change doctors’ perception of the Sirtex treatment, from last-ditch to more of a mainstream option.

A long way to the top

Sirtex shareholders were hoping that the company could join the Australian biotech heavyweights of blood products heavyweight CSL and hearing-implant maker Cochlear. But even in those cases, it has not always been an easy ride.

In September 2011, Cochlear shares slumped 27% in one day after the company announced the recall of its newest range of hearing implants, after a recent unexplained increase in failures. In December 2003, Cochlear plunged 24% in one day, after it issued a profit downgrade, warning investors that a combination of international problems had robbed it of market share and dented its growth profile. In July 2002, Cochlear fell more than 11% in one day after a US warning that patients with inner-ear implants may be at greater risk of contracting meningitis.

Cochlear

Source: Yahoo!7 Finance, 30 March 2015

While CSL shares have risen consistently – all the way from the float price of $2.30 a share in June 1994 (a three-for-one share split in 2007 means that was effectively 77 cents) to the current price of $91.85 – yes, that is a 119-fold increase – they have occasionally fallen out of bed.

In February this year, CSL fell 10% after the company lowered its profit forecast, citing tougher global competition for haemophilia therapies. That brought back bad memories of April 2010, when CSL sank 11% after US-based rival Baxter International slashed its full-year profit forecast; late 2008, when the stock plunged 20% after sales of the Gardasil vaccine for cervical cancer missed estimates, and 25 young women were reported to be suffering “suspected hypersensitivity” after receiving the vaccine (Gardasil was later given the all-clear); and early 2003, when CSL lost more than one-third of its value on concerns over the price of CSL’s key product, the blood plasma IVIG, and worries about how much capital CSL would have to raise to fund the takeover of US blood fractionator Aventis Behring (a deal that actually transformed CSL.)

CSL shareholders could have understandably got cold feet during all of those episodes, and decided to take their profits. In hindsight, that would have been the wrong thing to do.

CSL

Source: Yahoo!7 Finance, 30 March 2015

This kind of alarming slump is not something about which any investor can be complacent: while the GFC slump of November 2007 to February 2009 was an extreme case, it still hammered the bluest of blue-chip stocks: Rio Tinto lost 80%; BHP, 41%; ANZ Bank fell 63%; Commonwealth Bank slumped by 61%; National Australia Bank lost 60% and Westpac plunged 53%. Wesfarmers lost 63%, Telstra surrendered 40%, and even the best-performed blue chip, Woolworths, could only limit its loss to 30%.

Finding the real value

Clearly, it is worth hanging on to good stocks when they occasionally cop a battering from the stock market. Of course, professional investors who know the stock well – and have worked out what they believe is its intrinsic value – will often use these kinds of sharp falls in a stock to buy more of it for their portfolios, because the plunge takes it to an irresistible discount to that intrinsic value.

This approach often works for the pros because the stock market tends to over-react to bad news (and good news, too.) This is why, for example, big holders of Sirtex Medical, including Peter Hall’s Hunter Hall and Roger Montgomery’s Montgomery Investment Management, were buying the stock on its horror day earlier this month, because it was suddenly going cheap (and it has subsequently risen 20% from its low point.)

Buying a stock when everyone else is selling it is a difficult thing to do: if they’re right and you’re wrong, you are “catching a falling knife.” To do this, you need to have a very clear view of what the stock is actually worth – as opposed to its share price.

For non-professional investors, there are tools that can give you an idea of this figure. Subscription services like Skaffold will give an intrinsic value figure for a stock, based on proprietary workings. Fundamental analysis site Stock Doctor will give you a valuation derived from its proprietary workings, plus an analysts’ consensus price target. Stock market news and analysis site FN Arena also gives you an analysts’ consensus price target. And your stockbroker should be able to give you an estimated fair value for each of the stocks it covers.

Share price falls can be alarming, but having another valuation figure against which to compare the share price can make all the difference in assessing whether a share price fall (or rise) is an over-reaction. In fact, without this, you are effectively flying blind.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.