Investment Potential In Pharmaceutical CMO Growth Acceleration

by: Chemistfrog

The changing and challenging economic environment the world economy is contending with has many investors concerned about the stability of their holdings. One can almost feel the tension in the air as energy prices are soaring, U.S. debt is at record highs and China's growth slows. The European Union (EU) is particularly shaky with Greece and Spain teetering on the edge of recession/depression with huge debt to GDP ratios. Already in a sector with huge levels of competition, pharmaceutical companies are also fighting the combined soaring raw material costs and division of resources in which they balance the resources of time and money to develop and market their products while also keeping the FDA and other regulatory entities satisfied. Like the rest of the economy, the sector is now changing to meet the current and future challenges in order to remain profitable or to gain a competitive edge.

In order to more effectively utilize their resources, many pharmaceuticals are now outsourcing their manufacturing and even research functions as early as early-stage clinicals or as late as after marketing approval. Contract manufacturing organizations (CMOs) are entities that partly or wholly earn revenue by manufacturing products as third-party entities for development-phase and marketing-phase pharmaceuticals. The CMOs may function at anything from the basic level of only formulating and manufacturing tablets from the pharmaceutical's supplied materials to the more complicated cell therapy manufacturing for stem cell companies with complex manufacturing, storage and shipping requirements. Utilizing CMOs to manufacture one's products not only frees up the obvious space utilized in the manufacturing process, but it also frees up personnel they may have had to assist in quality control functions, raw material ordering/tracking, regulatory paperwork during the manufacturing and even distribution processes. Large pharmaceuticals once thought to be able to lead the market for years are now looking for areas to cut costs as their blockbuster products lose patent protection. The companies are now in heavy R&D and acquisition mode to find new products to replace those with waning revenue due to competition.

CMO growth over the last decade has been substantial with 200 of the 487 products receiving FDA approval involving a contract manufacturer from January 2005 to June 2010. The latest report by independent business information provider, Visiongain , indicates that the world market for pharmaceutical CMOs will reach $47.6 billion in 2012. Growth among the entities is projected to remain strong with 6% compounded annual growth expected between now and 2016. With 40% of the CMO market revenue in 2011 coming from U.S. demand, investors may wish to consider publicly traded companies that have CMO functions serving as either partly or wholly-generated sources of revenue. Following are companies that my fit the description and benefit somewhat or significantly from the increasing growth in this next step in pharmaceutical sector evolution. The presented companies offer many possibilities for various types of investors ranging from high-risk, short-term biotech traders to long-term and more stable holdings in growth-phase companies with solid revenue investment-quality financials.

Baxter International (NYSE:BAX) is a highly diversified pharmaceutical company with an ever-growing pipeline of drugs and therapies targeting a huge number of diseases, injuries and other medical conditions. We lead off our list of promising CMO companies with Baxter due to its strong financials, strong stock performance this year with YTD gains of over 25% (phenomenal feat for a now $34 billion company) and the industry-wide recognition of its CMO entity. On April 11th, Baxter's Biopharma Solutions CMO unit was named "Best Contract Manufacturing Organization" for the third consecutive year at the annual Vaccine Industry Excellence (VIE) Awards at the World Vaccine Congress in Washington, D.C. Criteria given to judge the nominees were noted as "methods of performance improvement or introduction of new services; attention to and quality of relationships with clients; milestones reached and final/ ongoing outcomes; and building and maintaining existing and long-term partnerships". Biopharma Solutions covers a wide range of needs with expertise and functions in sterile manufacturing solutions, parenteral delivery systems and diversified drug manufacturing capabilities. Although Baxter does not appear to provide a breakdown of revenue due to its CMO unit in its quarterly financials, the "milestones reached" criteria met as indicated in the award mentioned earlier, does indicate that the division is likely contributing to the company's revenue. Net income for the first 9 months of 2012 increased 4% to $1.83 billion versus $1.76 billion in the same period in 2011 with earnings per diluted share increasing by 8%, also from the same period.

Now trading at $61.16 per share, the company's common shares have broken through the $60 resistance, which can now be construed as support. The 52-week range for the stock is $47.55 to $63.05. Investors wishing to consider investment in Baxter's common shares for exposure to the growth potential in CMOs are advised to watch the share price over the next few days and see if share price can punch through the $63.05 52-week high or if it retreats. If support is found to be solid at the $60 price range, entry there is a likely good starting point. If the support fails, entry should probably be delayed until new support levels can be ascertained. Investors should also note the company's quarterly dividend payouts which are now tempting at $0.45.

NeoStem (NBS) is an emerging force in the biopharmaceutical sector. With its stem cell therapies still in development phase, the company is not the typical biotech with its worth only being due to "potential success in clinicals" or "potential targeted market groups" as many biotechs are valued by. Rather, the company has an impressive cell therapy manufacturing division in its Progenitor Cell Therapy (PCT) subsidiary. With over 65,000 square feet of developing and manufacturing space between its Allendale, NJ and its Mountain View, CA facilities, the company has participated in more than 50 regulatory filings in the U.S. and Europe. The company boasts experience in more than 20 cell/tissue types with more than 5,000 patients receiving therapies produced at its facilities with more than 30,000 cell therapy procedures performed.

Already achieving recognition as the Phase III clinicals provider of Dendreon's (NASDAQ:DNDN) Provenge, the author believes much of Dendreon's cost issues could have been averted if the company had continued its contract with PCT beyond the development stage and on into the commercialization phase. The uncertainty facing stem cell companies and immunotherapy companies not only in the development stages of development but even into the commercialization stages of growth can be formidable. NeoStem's expertise and state-of-the-art facilities may prove to be huge sources of revenue in the coming months and years as the immunotherapy and stem cell approaches gain more validity and approvals. Investors desiring to have exposure to the immunotherapy approach to fighting cancer and stem cell therapy for fighting a host of indications may find the best of both worlds here in NeoStem's PCT division. This year alone the company has already announced partnerships with SOTIO, LLC for the U.S. portion of a pivotal Phase III trial for SOTIO's autologous dendritic cell vaccine, a partnership with Baxter International to produce a Phase III CD34+ stem cell therapy to target chronic myocardial ischemia and an increased partnership with ImmunoCellular Therapeutics (NYSEMKT:IMUC) to produce the company's ICT-107 immunotherapy product for its Phase II trial to treat the brain cancer, glioblastoma.

NeoStem investment potential is unique with its broad-spectrum experience in the cell therapy field while still developing its own platform of therapies. Those wishing to open a position in this budding stem cell company in order to more fully understand the company's potential not only as a CMO but also a biotech company, should research the company's pipeline. With the continued success of immunotherapy agents to fight cancer and the growing list of successes in the stem cell sector, both of these technologies are validating themselves as associated clinicals progress. NeoStem is in a unique position to capitalize in either or both of these fields and could be construed as a "multi-sector" representative investment for both of these cell therapy approaches. Much of not all the division's current revenue is from contracts for development-phase therapies. It seems inevitable that one, some or many of these therapies could obtain marketing approval from the FDA and abroad. Once that happens, the company may find itself in even more lucrative contracts as a manufacturer of larger-scale commercially available treatments which would likely be a big boost for the company's growing revenue stream. NeoStem generated revenue of $3.4 million for Q2 2012, up 53% from the same period of 2011. Revenue was categorized as follows: Clinical Services - $1, 753,700; Clinical Services Reimbursables - $846, 900; Processing and Storage Services - $765,100; and Other - $6,400.

NeoStem's shares are currently trading in the $0.66 range with good support in this area with the next support level seen at $0.60. Its current market capitalization is $102.1 million and is dramatically undervalued in the author's opinion. Something interesting to note in terms of PCT's capabilities should be considered. Baxter's Biopharma Solutions CMO unit is growing and has been named as "best CMO" for the third consecutive year at the annual VIE Awards. Yet the $34.5 billion diversified healthcare company chooses NeoStem's PCT division to manufacture its Phase III stem cell therapy product. The partnership further validates PCT's legitimacy and expertise and also adds a sort of speculative nature to an investment in the company. Although the author does not invest or trade based on speculation of merger and acquisition rumors, it should certainly be noted that Baxter has acquired 4 other companies, or their assets since 2000. Baxter now has first-hand knowledge and experience of PCT's capabilities, and it could certainly incorporate the promising company's capabilities into its portfolio.

Royal DSM NV (OTCQX:RDSMY) is an $8.4 billion Netherlands based multi-dimensional company with a strong CMO entity in its DSM Pharmaceutical Products division. The CMO received recognition as the "Best Contract Manufacturing Organization" award From Biopharma Asia in April of this year. These recognitions stem from the company's "end-to-end suite of customer solutions, spearheading contract manufacturing innovations and raising standards in the region (ASIA)". At the presentation, the CMO was heralded for its commitment to improving CMO relations throughout the region and reducing lead times for its customers.

Already a leader in its field, DSM recently announced a collaboration with Almac Group in the field of biocatalysis to provide sustainable manufacturing services to the pharmaceutical industry. The agreement was described as combining Almac's experience in rapid enzyme identification, scale-up and implementation with DSM's "experience and track record of over 30 commercial manufacturing bioprocesses run on a multi-ton scale." In a July press release, the company announced a biologics agreement with Brazilian-based RECEPTA Biopharma. The agreement entails process development and cGMP manufacturing of an antibody to be evaluated in clinicals earlier this year. Interested investors only have to view DSM's website and view its partnerships and other recent news to understand the scale that the powerhouse CMO operates. Investment potential in this CMO is a solid investment in a large, revenue-generating entity with a worldwide presence thereby reducing risk associated with local markets or government stability.

Trading on the Pink Sheets in the U.S., the company's shares are trading at $12.73, just below the $13.00 support level and near short term "breakout territory" with additional resistance at $13.30 and then $14.00. The 52-week range is $10.83 - $14.65 with the company paying dividends twice per year with the last being $0.28 on May 17th. An indicator of the company's growing revenue, its cash/equivalents position has been increasing sharply from 2007 to 2011 with values of $482 million, $785 million, $1.75 billion, $1.90 billion and $2.69 billion.

In one of the most anticipated pharmaceutical spinoffs in recent memory, Abbott Laboratories (NYSE:ABT) announced in late 2011 that it intended to spinoff its research-based CMO unit. The final separation should occur in Q4 of this year, and the new entity will be called AbbVie. Although the CMO does not currently have a tentative ticker symbol, interested investors should watch closely in the coming weeks as the quarter winds down. As part of Abbott, the CMO division generated revenue to the tune of $425 million in 2011 and $112 million in Q1 2012.

According to the filing, AbbVie will have an impressive portfolio of products including the brands HUMIRA, Lupron, Synagis, Kaletra, Creon and Synthroid for revenue generation. The entity will also have "20 new compounds or indications in Phase II or III development across such important medical specialties as immunology, renal care, Hepatitis C, women's health, oncology, and neuroscience, including multiple sclerosis and Alzheimer's diseases." It will also boast "a number of new clinical indications in development for our market-leading anti-TNF biologic, HUMIRA."

AbbVie will likely not only continue with the same contracts it had while part of Abbott, but will also receive a boost due to a manufacturing agreement it will have with its former parent company. In the section titled "Commercial Agreements", the document stated "AbbVie will enter into one or more manufacturing and supply agreements with Abbott prior to the distribution pursuant to which AbbVie or Abbott, as the case may be, will manufacture, label, and package products for the other party. The manufacturing and supply agreements will have a term of up to five years, and payments will be determined on an arm's length basis."

Although the upcoming spinoff from Abbott Laboratories has been referred to in multiple instances as a "CMO", the entity appears to be the beginning of another pharmaceutical company with R&D, manufacturing and revenue generation comparable to that of many pharmaceuticals. Final details on the spin-off have not been unveiled, including the IPO pricing and new entity market capitalization. Interested shareholders should research carefully and be diligent if they decide the IPO merits an entry. The market's response to IPOs has been mixed in 2012. However, this is an IPO of a multi-billion dollar entity with known financials, a solid product line and a large and continually developing pipeline. Investors interested in opening a position once the shares become available should have a plan ahead of time to determine how much loss or gain they would accept in the event of a large upside or downside move in early stages of the new entity's existence.

Disclosure: I am long NBS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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