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Many biotech stocks surged on the Friday before a long weekend on speculation that they could be takeover targets. Biogen-Idec (NASDAQ:BIIB) and Allegan (NYSE:AGN) were up 5% and 6%, respectively. This, on a day when the broader market was selling off.

Bloomberg first got the rumor-mill going when it reported that Sanofi-Aventis (NYSE:SNY) is on the prowl for a large biotech company. The rumors make sense, as big pharma needs to consume biotech companies in order to keep their product pipelines flowing. I decided to take a look at which biotech companies would be most attractive from a valuation standpoint. The three companies mentioned cited by Bloomberg as targets include Allergan (AGN), Biogen-Idec (BIIB), and Genzyme (GENZ). I also tossed in Amgen (NASDAQ:AMGN), Gilead (NASDAQ:GILD), and Celgene (NASDAQ:CELG), mentioned in a WSJ blog.

Biogen appears to be the most undervalued stock to me. Including the most recent quarterly results, Biogen is trading at a forward P/E of 10. It has an operating margin of 30%, return on equity of 16%, and has been growing at a 7% clip. The market cap is $13B.

Below is the whole list, ranked in my oder of preference, taking into account forward P/E in relation to return on equity (ROE), one of my favored measures of valuation (ideally, the P/E will be lower in relation to a higher ROE).

  1. Gilead (GILD): Forward P/E 9; ROE 50%; Market Cap. $31B
  2. Amgen (AMGN): Forward P/E 9.5; ROE 22.5%; Market Cap. $50B
  3. Biogen Idec (BIIB): Forward P/E. 10; ROE 16%; Market Cap. $13B
  4. Allergan (AGN): Forward P/E 17; ROE 16%; Market Cap. $19B
  5. Celgene (CELG): Forward P/E 15; ROE 20%; Market Cap. $23B
  6. Genzyme (GENZ): Forward P/E 14; ROE 2%; Market Cap. $14B

To me, Gilead clearly has the best numbers, and it also has a reputation for being a very well-run company. Genzyme doesn't look very attractive at all. Amgen is probably too large for an acquisition plan and today's market reaction reflects that: It's flat.

A more complete analysis is published on the Rayno Report.

Disclosure: No positions, may buy BIIB

Source: The Best Biotech Takeover Targets