Biotech Outlook: M&A Will Continue

Checking on the biotechnology sector, we spoke with Zacks senior analyst Grant Zeng, CFA about recent developments among these companies. We discussed M&A [mergers and acquisitions] activity as well as top Buy recommendations.

How has earnings season gone this quarter? Any major surprises?

As you know, most of the companies covered by me are small-cap biotech companies which usually report their quarterly earnings quite late. I just finished updating all my companies last week and I have both positive and negative surprises.

On the positive side, Celgene’s (CELG) Revlimid beat our estimate by $15.8 million; Vidaza sales beat our estimate by $7.2 million. Total product sales beat our estimate by $16.5 million with quarterly sales of $542 million. Celgene’s adjusted EPS also beat our estimate by 6 cents. We have a Hold rating on Celgene due to valuation concerns.

For BioMarin (BMRN), sales for all three marketed products beat our estimate. Both top line and bottom line exceeded our expectations. We have a Buy recommendation for BMRN.

On the negative side, Both Trimeris’ (TRMS) top line and bottom line were slightly below our expectations. For MannKind (MNKD), its total operating expenses exceeded our estimate by $6 million and loss per share was 7 cents below our expectations. We have Sell ratings on MNKD and TRMS.

Are you expecting M&A activity to continue? If so, for how long?

From the beginning of this year to the date of this writing, M&A has been sizzling for the Pharma/biotech industry. The most high profile acquisitions include the proposed acquisition of Genentech (DNA) by Roche (RHHBY.PK) ($44 billion); the $8.8 billion acquisition of Millennium Pharmaceuticals by Japan drug maker Takeda; the proposed acquisition of ImClone Systems (IMCL) by Bristol-Myers Squibb (BMY) ($4.5 billion) and the acquisition of Pharmion by Celgene ($2.9 billion).

We expect the M&A activity will continue in the remainder of 2008 and beyond because we believe that current market environment in the Pharma/biotech industry is favorable for M&A activity. The big pharmaceutical companies have long been faced with big challenges such as patent expiration for blockbusters, low research and development productivity, and generic competition. Platform technology and efficient R&D efforts in smaller biotech companies may be part of the solution to the challenges faced by Big Pharma. As long as the challenges still exist in the pharmaceutical industry, the M&A of smaller biotech companies by big Pharma will continue to make sense.

Which are your top Buy recommendations at this time?

At this time, our top Buy recommendations are AMAG Pharmaceuticals (AMAG) and BMRN.

AMAG’s Ferumoxytol is under FDA review for IV iron replacement therapy for anemia. This product candidate has advantages over current existing products on the market and has great potential since anemia is a very large market. The FDA will make a decision in late October and we expect an outright approval of Ferumoxytol. Our six to twelve month target price is $70.

BMRN has achieved profitability in the first half of 2008 and will become profitable going forward due to strong sales from its three marketed products for rare genetic diseases. BMRN also has a robust pipeline and strong balance sheet. Our price target is $46.

In what ways has the slowing U.S. economy had a direct impact on the companies you follow?

Although the US and the global economies are slowing down, they have not had any negative impact on the companies I follow. As I said earlier in the year, my outlook for the biotech industry in general was positive, and I have not changed my opinion.

Actually, if you compare the performance between the biotech industry and the broad market indices, you will find that the biotech index has been outperforming both the NASDAQ composite and S&P500 index so far. As of August 27, 2008, NASDAQ composite index has declined by 8.7% from the beginning of year. Both S&P500 and Dow Jones Industrial index have double digit decline with Dow declining by 11.8% and S7P500 declining by 11.4%. However, as of August 27, 2008, Amex Biotech index has advanced by 4.5% from the beginning of the year, while NASDAQ biotech index has advanced by 7%.

As an integral part of the healthcare industry, Biotech companies are very good examples of defensive stocks. Historically, biotech stocks were less impacted by economical downturns, while more affected by the companies’ own clinical trials and business developments.

In what way would you advise investors looking toward overweighting biotech stocks in their portfolios?

Although biotech stocks have been performing well in general so far, investors should be aware of the inherent risks involved with biotech investing. Biotech stocks, especially those still in development stage with no approved products on the market, are very volatile and unpredictable sometimes because their valuation are mainly driven by clinical trial results and business developments.

If investors want to overweight biotech stocks in their portfolios, we always suggest they look at three factors: pipeline, technology and cash position. If a biotech company has a decent pipeline, or even already has approved products on the market with good potential; if the company has a platform technology to derive multiple drug candidates down the road, and the company has rich money to advance its pipeline, then it may be worth adding it to the investor’s portfolio.

Grant Zeng, CFA is a senior analyst covering the biopharmaceutical industry for Zacks Equity Research.

Comments

[John C. Lee:]

What do you think about QCOR?

2008 Sep 02 03:53 AM

[Suppo176:]

Is there any logical reason for Pluristem Therapeutics Inc (PSTI) to be included in any M&A thought process. Currently trading at it's 52 week low. My opinon is that as it holds license on several "cutting edge" stem cell derivitives with great promise, it should be on somebody's radar screen.

2008 Sep 02 10:48 AM