The Tax Guys Duke It Out Over priceline.com

Is there a CPA in the House?

Yesterday's piece about priceline.com's (PCLN Quote) accounting practices sparked a torrent of emails.

To recap, the company said it is NOT a travel agent (a.k.a. "middleman") and Robert Willens, tax and accounting specialist at Lehman Brothers, said its reporting practices are "appropriate," assuming the company takes the risk of the merchandise (a.k.a. the airline tickets).

But some observers question whether that is the case.

Jeff Brotman, adjunct professor of accounting at the University of Pennsylvania's law school, who is short priceline.com in his personal account, referred me to the company's S-1, filed July 23.

From the "Airline Participation Agreement" exhibit 10.28, section II, paragraphs five and six (is there a lawyer in the house?) note the following outtakes:

"In all Priceline Ticket transactions, Priceline will be the merchant of record and will pay all associated merchant credit card fees."

"In collecting payment for Priceline Tickets, Priceline will act as the agent of Airline..."

"I don't know about your accounting expert, but I have never heard of an agent that treats money collected for its principal as its own revenue," Brotman said.

When I went back to Willens with this, he was -- to say the least -- taken aback.

"It does sound pretty incriminating," he said. "Obviously that's not good language and would not suggest they're taking title and bearing risk."

Brotman also referred to the "Revenues and Cost of Revenues" footnote in the same S-1.

The company books revenue differently, depending on the product and services offered. For airline tickets and hotel reservations, "revenues are generated by transactions with customers who make offers to purchase airline tickets and hotel rooms supplied by participating sellers," the document reads. "Because priceline.com is the merchant of record in these transactions, revenue for these services includes the amount billed to the customer, net of certain transportation taxes and fees."

Both Brotman and Willens agreed the policy adheres to GAAP standards. However, they questioned its character, which we all know counts.

"Being the merchant of record gives you the right to book the sale," Willens said. "The issue is whether that's an appropriate method of accounting. It amounts to whether they take title to tickets or bear risk of loss of resell, regardless of whether they're called merchant or reseller."

The accounting prof was less diplomatic: "It may be acceptable GAAP, but I don't think that it's how most people think of revenues," he said via email.

Finally, Brotman noted the "Prospectus Summary," in which priceline.com describes how it enables "sellers to generate incremental revenue" while allowing consumers to save money (revolutionary indeed!).

"Usually the seller records the sale," he said. "But because it is the 'merchant of record,' priceline.com also records the sale. I find this unusual, even if it's not impermissible."

At deadline time, I was in extra innings of a long game of phone tag with priceline.com's spokesman and will certainly provide the company an opportunity to respond in the coming days.

I have a sneaking suspicion they will.

Biotech Bulls

Add Mark Lapolla and Clarke Adams, partners at Petroscapital in Scottsdale, Ariz., to the growing list of market players bullish on the resurgent biotech sector. In recent interviews, the hedge fund managers expressed unrestrained enthusiasm for Andrx (ADRX Quote), which they are (surprise!) long.

In addition to Andrx's drug delivery technology, Lapolla and Adams waxed effusive about the performance of Cartia XT, its generic version of Cardizem CD, a treatment for angina (heart stuff) and hypertension (modern life).

In its sixth week, Cartia XT captured 40.5% of new prescriptions and 26.5% of the total Cardizem "scripts," Adams said, citing data from IMS America, a tracking service.

Lapolla called Cartia XT the "fastest generic" in history.

Larry Rosenthal, executive vice president of sales and marketing at Andrx, couldn't confirm if Cartia XT is the Carl Lewis of generics, but said "it's certainly among the top of all-time, if not the top. We're more than pleased." (IMS America did not return inquiries seeking comment/confirmation.)

The company -- and investors -- will no doubt be pleased if Lapolla's prediction Andrx will capture "50% of the total market by November" comes true.

The Cardizem CD market is currently dominated by Hoechst, the German chemical and drug giant which owns the patent. The branded market is roughly $700 million, Adams said. Since Andrx's generic sells at an approximate 30% discount, the company is looking at 50% of a potential $500 million market.

"Let's say [the market share gain] doesn't continue to ramp," Adams said. "Forty percent of $500 million is $200 million."

Andrx enjoys about 90% profit margin on the drug because they do their own distribution, the hedgie said. Thus, he's expecting about $120 million of pre-tax profits; on an annualized basis, that could theoretically contribute $3.92 in EPS, given 30.6 million shares outstanding.

Adams acknowledged Andrx would probably use a lot of the "inherent cash flow" from Cartia XT to increase its pipeline of new drugs. But given Andrx earned 25 cents a share in 1998 and the six-analyst consensus is for profits of $1.41 this year, we're talking about a potentially serious "pop."

So why has Andrx's stock retreated from its 52-week high of 77 1/8, reached June 30 (it slid 0.5% to 62 7/8 today)?

"The market is not focusing on how successful they are and the company is not well followed," Adams replied. "People aren't paying attention."

Of course, there's also the issue of competition. Because Andrx was the first to file with the Food and Drug Administration for approval, it gets six months of open field running before other generic versions can enter the market. But competitors have filed for approvals of their own, notably Australia's FH Faulding and Biovail (BVF Quote), which has a marketing agreement with Israel's Teva Pharmaceuticals (TEVIY Quote).

Faulding is "not a company known to go out and slash generic prices" Adams responded. Moreover, Teva is targeting the managed care market while Andrx is focused on the retail drug chains. As for Biovail/Teva, its drug has different attributes and is delivered in one "peak" vs. the two peaks for Andrx's and Hoecht's versions.

Such variation in heart medication is "something neither the FDA is terribly comfortable with nor doctors," he said.

Adams and Lapolla talked about other positives at Andrx -- other drugs, including a generic version of Prilosec, and marketing opportunities for the Fort Lauderdale, Fla.-based firm.

But space limitations dictate I end here. Besides, I'm sure you'll do your own homework.

FYI, Petroscapital has over $140 million in assets. Since its inception in July 1998, it's posted net returns of 62% through July 31.