By Ivan Deryugin
For Biogen Idec (BIIB), 2012 was a banner year; shares rallied 33% as Biogen moved closer to securing approval for BG-12, now known as Tecfidera. PropThink highlighted BIIB on major dips in share price last November and in early January, which have returned 14% and 11% respectively. And while Biogen's Q4 results, released on January 28, contained little in the way of surprises to drive the stock in the near-term, buried within the company's results and its earnings call was something that may be perceived as cause for concern: Biogen's pipeline, and what its executives said about it, or rather did not say. Should investors be concerned? Even though the company's pipeline is much smaller than that of its peers, solid execution and the buyback of Tysabri rights (details later) trump development concerns, and should put to rest any anxiety over Biogen's longer-term growth prospects.
On its own, Biogen's Q4 results were relatively mundane for a biotechnology company. Revenues grew 6.88% to $1.42 billion, and pro forma EPS fell by 7.28% as the company ramped up spending in preparation for the launch of Tecfidera. In addition, a one-time, non-cash tax charge related to the company's Danish manufacturing operations reduced Q4 EPS by $0.12. Biogen discovered accounting errors related to income taxes on capitalized interest on these facilities (going back all the way to 2006), and elected to take the full charge this quarter as opposed to restating prior earnings. And while Biogen's pro forma EPS missed estimates by 6 cents, revenues beat by $30 million. Much of Biogen's conference call was devoted to Tecfidera, the company's commercialization plans, and other late-stage compounds entering the FDA approval process (most notably, rFIXFc, for the treatment of Hemophilia B)
Interpreting the Forecasts: What Will Biogen do About the Pipeline?
Biogen's mixed earnings report (missing on the bottom line, but a beat on the topline) was mitigated by revenue growth estimates of 10% for 2013 versus a consensus call for estimates of 9%. However, Biogen's EPS forecasts for 2013 tell a different story. Biogen is projecting GAAP EPS of $6.51, a 13.02% rise from 2012 GAAP EPS of $5.76, and 10.26% growth in pro forma EPS to $7.20 (the differentials are due to different levels of intangibles amortization relative to the company's revenue). Among the drivers of Biogen's 2013 EPS growth is a deceleration in research & development spending relative to revenue. For 2013, Biogen is calling for R&D spending to range between 22 and 23% of revenue, versus 24.34% in 2012. At the midpoint of Biogen's guidance, this gives the company 184 basis points of operating margin expansion. And while some investors may see this as a positive sign, given that it will drive margin expansion at Biogen, others may see it as cause for concern, due to what it implies about Biogen's pipeline.
With the failure of dexpramipexole, Biogen's pipeline is starting to wear thin, at least from a development standpoint. When Tecfidera and rFIXFc (which are now in the hands of the FDA) are excluded, Biogen has just 14 clinical programs in its pipeline (6 Phase III programs, 4 Phase II programs, and 4 Phase I programs). For Biogen, 2013 should be a year of filling its pipeline with new programs, not decelerating its research & development spending. And Biogen's pipeline is far smaller than that of its peers; Gilead Sciences (GILD) has 21 programs in its pipeline not currently under regulatory review. Amgen (AMGN) currently has 43, and Celgene (CELG) leads with 54 programs not under regulatory review. On its conference call, Biogen was specifically asked about its business development plans, and CFO Paul Clancy gave a mixed response, stating, "We will continue to look at business development deals in R&D. Our current guidance doesn't include anything real meaningful in that, but we feel that we have an obligation to continue to look at those things and cover the cost of those if they're very manageable and very, very small. And that continues just to be real important strategically to build up the early- and mid-stage pipeline." If this answer seems contradictory, it is; Clancy is implying that Biogen will not be making meaningful R&D moves in 2013, while saying that it is important to build the company's early and mid-stage pipeline. But while Clancy's remarks may not provide clarity into Biogen's strategic direction, the company's forecasts hold clues.
Biogen Idec R&D Spending (in Millions of $)
|R&D as a % of Revenue||24.34%||22.5%|
*Forecasts are based on the midpoint of published guidance
While Biogen's R&D spending will decline in 2013 as a percentage of revenue, the company's nominal spending will increase by over $5 million relative to 2012 levels. And as Biogen shifts more of its pipeline assets into the regulatory stage (peginterferon beta-1a is set to be submitted to regulators in mid-2013), its spending will shift towards earlier stage programs. However, while Biogen's pipeline may be thinner than that of its peers, its solid execution and the decision to take control of Tysabri should trump these concerns.
Finally Deploying Capital & Creating Operating Leverage Upside
Biogen ended Q4 2012 with $2.6 billion in net cash & investments (a $366.366 million increase relative to Q3 2012), and for some time has been averse to deploying capital in any meaningful way (see our previous report). This conservatism stood in stark contrast to Amgen, Gilead Sciences, and Celgene, all of which deploy capital fairly aggressively on dividends, buybacks, or acquisitions to fill their pipelines. Biogen's management team has a track record of conservatism, and it has been suggested that their reluctance to deploy capital was fueled by a desire to wait for Tecfidera approval. However on February 6, Biogen and Elan (ELN) announced that the two companies have reached a deal for Biogen to take full control of Tysabri. First, some background: Tysabri was approved in 2004 for the treatment of relapse remitting multiple sclerosis, and is administered to patients intravenously every 28 days. Biogen's sales of Tysabri totaled $1.14 billion in 2012, making it the company's 2nd largest drug by sales, behind only Avonex (which posted sales of over $2.9 billion in 2012). Elan and Biogen shared marketing responsibility for Tysabri, with global profits split evenly between the 2 companies.
Under the terms of the deal, Biogen will pay Elan a total of $3.25 billion upfront, thereby draining Biogen's net cash and creating a net debt position of $898.407 million. Biogen is also obligated to make royalty payments to Elan on its sales of Tysabri, totaling 12% for the first 12 months of the deal, and then 18% on the first $2 billion of its global Tysabri sales, and a royalty of 25% on sales above $2 billion. This deal will be immediately accretive to 2013 EPS, with Biogen stating that pro forma EPS will rise by 50-60 cents. Based on the midpoints of this and full-year 2013 guidance, pro forma EPS for 2013 is now set to reach $7.75, a 7.64% increase from Biogen's initial 2013 forecast.
Investors and analysts applauded the deal, sending shares of Biogen higher by over 2%. William Blair noted that the deal simplifies Biogen's operations, and notes that the majority of the cash used to pay Elan will be from international sources (as Elan is headquartered in Dublin). Deutsche Bank notes that the deal has favorable economics, stating that, "Higher economics with this new deal should lead to significant EPS accretion and we calculate this deal to be NPV positive for BIIB," the analyst states. The firm calculates DCF impact of this deal at $6/sh on DCF, they are also decreasing SG&A by $50M every year increasing DCF by another $4/sh." And Credit Suisse notes that this transaction will likely lead to a salesforce consolidation at Biogen, which currently has a different salesforce for Avonex and Tysabri, as well as a third salesforce readying for the launch of Tecfidera. SG&A costs could be reduced further through such a consolidation.
Over the coming days and weeks, consensus estimates for Biogen are likely to be raised as analysts begin to account for an additional 50% of global Tysabri profits. But even if consensus estimates (provided by NASDAQ) remain where they are, shares of Biogen are still not overvalued.
Biogen Idec Earnings Forecasts
|Year||EPS Forecast||% Change Over Prior Year||P/E*|
*P/E based on February 6 closing price of $160.9
Biogen's earnings are set to almost double by the end of 2016, and are set to grow at an average of 15.65% each year for the next 4 years. For Biogen, shareholder value will be created not by optimism over a new series of pipeline programs, but by steady revenue and earnings growth from Biogen's key late stage programs, many of which are now either under regulatory review, or are set for submission. And as Biogen's earnings grow on the back of new product launches, the company will rebuild its net cash position, giving it more capital to deploy on filling its pipeline, as well as buybacks, and perhaps a dividend. If Amgen can use such an "omni-channel" approach to capital deployment to reinvigorate its share price (up around 25% over the past 12 months), then Biogen Idec can certainly use it to sustain continued momentum in its own stock.
Patents, Patents, and More Patents
Buried within Biogen's latest 10-K, released on February 5, are several updates on the company's intellectual property, updates that enhance Biogen's revenue and earnings stability. The company stated that the U.S. Patent & Trademark Office has allowed the company's patent on Tecfidera's dosing regimen (240 mg twice a day), which extends Tecfidera's patent protection to 2028. The equivalent European patent is currently pending at the European patent office, and if allowed, would grant patent protection to Tecfidera through 2033. In addition, the expiration of third-party patents used by Biogen could reduce the company's manufacturing costs. Avonex is manufactured using a license on patents owned by the Japanese Foundation for cancer research, which expire in 2013, thereby reducing the cost of manufacturing Avonex, given that licensing fees will no longer be required.
Biotechnology investors need not focus exclusively on trading binary events or investing in development stage companies. There's room for investing in slow-growth but steady companies within the sector. Biogen Idec may not have the sector's most robust pipeline, but it has a slate of drug candidates pending approval, as well as a quality MS franchise that is set to continue growing in the years to come. And even near all-time highs, shares of Biogen are not wildly overvalued (that said, investors not comfortable buying here can wait for a pullback to add to or initiate positions at reduced prices). Biogen has chosen to deploy its net cash in a prudent manner, giving it full control of its 2nd largest product, and as Biogen's cash position is rebuilt, the company will have more opportunities to deploy capital. Biogen Idec's pipeline may be thinner than that of its peers, but development hopes are trumped by solid execution and growth for the time being.
Disclosure: I am long BIIB.
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