Battered but Unbroken Biotechs

by: Stephen Simpson, CFA

Disappointment is a fact of life with biotech investment. While clearly some companies do go on to become Amgen (NASDAQ:AMGN) or Gilead (NASDAQ:GILD), the roughly 85% failure rate for new experimental drugs means that most companies will eventually fail … or do little more than struggle along from disappointment to disappointment while using even the slightest glimmers of hope to shake down shareholders for more capital.

Despite that somewhat morbid lead-in, the reality is that some biotechs do recover after periods of disappointment and malaise. Current successes like Alexion (NASDAQ:ALXN) and Celgene (NASDAQ:CELG) had their trials by fire and came back to handsomely reward those who took a chance on them during the dark days. In fact, history has shown that sometimes the best time to buy is after the initial enthusiasm has been wrung out of a stock and management has earned some credit hours from the school of hard knocks.

With that in mind, then, let us look at some biotechs that have been battered but may yet have life in them.

Exelixis (NASDAQ:EXEL)

Though Exelixis has a long way to go to recapture a peak price in the $40's, it has largely completed its rebound from the second downturn. There are ample reasons for ongoing optimism as Exelixis has been exceptionally aggressive in advancing clinical trials of more than 6 cancer drug compounds in multiple applications. Although Exelixis has not always had successful long-term partnerships [Glaxo (NYSE:GSK) largely backed out in 2008 and Bristol-Myers (NYSE:BMY) dropped out of XL184 in 2010], those deals brought the company quite a bit of cash and XL184, now known as cabozantinib, recently showed very encouraging efficacy in metastatic prostate cancer.

Isis Pharmaceuticals (ISIS)

Isis has been around long enough to have disappointed a lot of investors and completely turned them off the idea of antisense therapy. Yet, Isis is still standing and may yet have a solid chance of surmounting its past highs in the $20's. The list of Isis disappointments is too long for this piece, but the company now has a promising drug for very high cholesterol partnered with Genzyme (GENZ), as well as a deep clinical program that includes drugs for cardiovascular disease, diabetes, and clotting disorders. While investors thinking about Isis should not overlook the safety concerns with the cholesterol drug mipomersen, Genzyme and Isis appear to be taking a careful path with this drug and doing what they can to ease a safety-obsessed FDA.

Lexicon Pharmaceuticals (NASDAQ:LXRX)

Lexicon was part of a once-hot group of companies that thought they would find their fortune in mining and selling genetic data. Unfortunately, while the company's knockout mice models provided interesting clinical targets, the business model didn't make sense and the stock tumbled from peaks in the $30's and $40's. Now, the new Lexicon is keeping its good ideas to itself and developing drugs for diabetes, irritable bowel syndrome, and carcinoid sydrome. Not all of the new Lexicon's ideas have worked (a drug for cognitive disorders failed and an RA drug seems to have uncertain efficacy), but the company still has a rich vein of ideas to mine and promising compounds in the clinic.

Nektar Therapeutics (NASDAQ:NKTR)

Though the stock set two peaks in the $50's and $20's, Nektar got nowhere fast by licensing its pegylation technology to major pharmaceutical companies like Amgen or Roche in exchange for tiny (sometimes sub-1%) royalties. Couple that with the spectacular failure of Nektar's inhaled insulin and Nektar was most certainly battered. Now, though, the company has a promising cancer drug all to itself, a partnership with AstraZeneca (NYSE:AZN) for a constipation drug, and another partnership with Bayer for an inhaled pneumonia drug, to say nothing of several early-stage candidates for pain.

Neurocrine Biosciences (NASDAQ:NBIX)

Neurocrine had what should have been a goldmine – a new insomnia drug, a major partner [Pfizer (NYSE:PFE)], and a price in the $60's. Then it all went horribly wrong, as the FDA basically hamstrung the insomnia drug and Pfizer bailed. Now, though, the company has a potential blockbuster for endometriosis [partnered with Abbott (NYSE:ABT)] and other shots on goal with drugs for anxiety/depression, and movement disorders, and an active preclinical program in CNS and women's health.

By necessity this is only a partial list of beaten-down biotechs that still hold promise. Alnylam Pharmaceuticals (NASDAQ:ALNY), Amylin Pharmaceuticals (AMLN), and Celldex Therapeutics (NASDAQ:CLDX) are all worthy contenders for this list, while Human Genome Sciences (HGSI) and Onyx Pharmaceuticals (NASDAQ:ONXX) have arguably come back too strong to still be "battered."

What To Watch For

Of course, not all biotechs have their trials by fire. Gilead never really suffered a major tumble, and emerging onco-biotechs Seattle Genetics (NASDAQ:SGEN) and Ziopharm Oncology (NASDAQ:ZIOP) have yet to encounter those setbacks either. Consider those the exceptions that prove the rule.

So what should investors watch for when considering a battered biotech? Multiple shots on goal (that is, multiple different drug candidates in clinical development) are key. It only really takes one successful drug to redeem a stock, but multiple independent programs significantly improves the odds. Likewise, the company does not have to be absolutely flush with cash, but investors should be extra-cautious with battered biotechs that lack the funds to run their own Phase 2 studies. Attractive access to funding often ultimately spells the difference between "battered" and "broken".

With this in mind, investors should always keep an eye on the biotech sector. Today's crushing disappointment can become tomorrow's great recovery trade and sometimes all it takes is a strong Phase 2 study result.

Disclosure: I am long ALNY, AMLN, LXRX.