NEW YORK (TheStreet) -- Foundation Medicine (FMI) was a big winner earlier when they announced Priority Health would be the first healthcare plan to cover its FoundationOne and FoundationOneHeme genetic cancer tests. There are two separate ways to analyze the impact of this news: What effect will it have on Foundation's bottom line? Does Priority Health's decision have any implications for the long-term prospects of Foundation?
In terms of the first question, the impact on Foundation's bottom line will be positive but not major, at least over the near term. Priority Health covers about 600,000 patients who now have reliable access to FoundationOne and FoundationOneHeme. One would expect that doctors and patients would both be more willing to use the test when coverage is guaranteed, which will naturally translate into higher volumes among patients with this plan.
Outside of the boost to volume, this also should increase the average realized price per test. This does not mean that the test costs more, but with coverage, Foundation has fewer tests that are generating no revenue. Currently when a healthcare plan refuses coverage, Foundation does not book any revenue from that test. In other words, there tests are "sold" but do not generate any revenue. As coverage expands, the proportion of zero revenue-generating tests decreases and this has the effect of increasing the average realized price.
While the effect on Foundation's near-term bottom line is certainly positive, I would not expect a hockey stick-like increase in sales as this is still only a relatively small number of patients. The reason Foundation's stock deservedly moved higher last week related to the implications for the long-term prospects. An aspect of the bear thesis on Foundation revolves around reimbursement. Bears believe insurance companies are unlikely or will be slow to pay for Foundation's cancer tests. While the decision of Priority Health does not guarantee other insurance plans will follow suit, it certainly shows that it is possible and is happening sooner than most expected.
Coverage decisions are still likely to slowly build over time but it is a clear positive that we are seeing the early adopters start to reimburse the tests. Not only does it show that Foundation Medicine has been making a persuasive argument but I suspect other payers will be following the experience of Priority Health with the tests when making their own decisions. This ultimately undermines an important part of the bear thesis.
The other long-term positive is that this creates a larger moat around Foundation Medicine. While they are the clear leader in this genetic cancer test space, competition will eventually arise. Each plan that covers the Foundation Medicine tests makes it that much harder for competitors to cut in.
Outside of this coverage decision the company is clearly making headway with the tests as they reported 9% sequential and 149% year-on-year growth in clinical tests. This lead the company to increase their yearly revenue guidance to $58-60 million and narrow the range of clinical tests guidance to the high end of their original 22,000-25,000 guidance.
There seemed to be some disappointment with the growth in tests but the company believes that was more a function of summer seasonality than a weakening in growth as sales rebounded nicely in September and October. Obviously this is something to follow both with the fourth quarter numbers but one has to have confidence given the clinical test guidance. While the recent performance of Foundation Medicine is not the same as a clinical-stage biotech company reporting positive data, it is clear that the company has developed some momentum as it executes on its long term vision.
Sobek is long Foundation Medicine.