With so much about health care reform in the news, there has been a lot of investment media focus on big pharma and health insurance providers. The biotechs are important players, also - but is growth and value there?
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From Blockbuster to Target Niche Drugs
Both pharmaceutical and biotech companies have historically gone after the development of blockbuster drugs. Lipitor and other widely-known medicines can provide enormous revenue for companies that market them. Conversely, when you have failures in the drug development pipeline, as is often the case, it's a costly risk, part of the business. Recently, for example, Genzyme Corp. (Nasdaq:GENZ) reported the failure of its partnered muscular dystrophy drug, Ataluren, to meet its goals in midrange studies. These clinical trials are part of the high-stakes biotech game. (These three drugs were the winners of their day. Find out what winning pharmaceuticals have in common, in Stocks On Drugs: What It Takes To Get High.)
There is a move, however slight, to more targeted, precise niche drugs that may reduce some of the costly research and trial risk. Amgen (Nasdaq:AMGN), in partnership with Genetech, is developing genomic diagnostic tests that will narrow down which patients will most likely not respond accordingly to a particular medication. This would have the potential to greatly increase testing efficiency in the clinical trial stage of developing a new medicine.
Costs Remain High
There is still the effect of the high cost of research and development in new medicines, however. Recently, Celgene's (Nasdaq: CELG) drug Vidaza, used for the rare blood cancer myelodysplastic syndromes, was rejected by the National Health Service for use in state-run health service in the U.K., due to significant expenses associated with the drug. Use of the drug to treat rare bone marrow disorders would cost on the order of $68,000 per year.
Earnings and Growth for Biotechs
As for the biotech stocks, with merger and acquisition in the air, some stocks, such as Biogen Idec (Nasdaq: BIIB), and others are spurred higher. Simply, this is because it is a mid-size biotech which might be a takeover possibility. Many of the biotechs, such as Genzyme, are trading at close to their 52-week highs, due in part to expected results, but also because of merger potential.
Earnings estimates for many of these stocks, including Amgen and Gilead Sciences (Nasdaq:GILD), are very robust. Gilead is expected to grow by 17.6% in 2010, and an additional 12.5% in 2011. The problem can be that investors will have to pay a premium for such earnings, as the current PE ratio for Genzyme is more than 37. With the way the market has run up in the last year, the phrase "priced to perfection" starts to come to mind.
The Bottom Line
March of 2009 would have been a better time to buy biotechs. Thanks for nothing, right? Keep in mind this is for long-term growth and value. The valuations on most of the big-name biotechs are fairly high, even though some of them are trading at more reasonable multiples than Genzyme. Still, you want to be cautious at this time. With the market heading up, although these companies have good growth potential, there is always risk in the biotechs. A failed drug product can dent earnings growth quickly, and with stocks looking pricey, the value is not there. These stocks are better buys when cheaper. (For further reading, check out Measuring The Medicine Makers.)
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