June 30, 2007

Biotech Weakness: Opportunity or Justified?

The weakness in the large-cap biotechs is back, but why? With the exception of Amgen, the financials and growth from these companies continue to amaze. Genentech has grown sales and earnings at a clip above 35% for the last three years; Gilead and Celgene have both grown greater than 60% per year over the past five years. These growths should continue in 2007, but after that, growths for Genentech and Gilead could slip below 20%. Should this cause investors to panic? Is this reasoning for the weakness?
An article in Investors Business Daily Friday outlined some other problems facing the industry. Investors are worrying about FDA delays, Congress, and potential competition from generics. Is this weakness justified? Or should we look at this as a buying opportunity?

Not to be neutral, but I think that it is both. The volatility in the overall market will make it tough for any one stock in the group to stand out, but I think that this is a stock-pickers market and you have to find stocks that will continue to be quality companies, deliver strong growth, and that will continue to be market leaders in their respective areas. Companies that possess these qualities will outperform the market and the industry in the long-run.
Investor concerns over the FDA, Congress, and generics are justified. The FDA has been more stringent in its review of drugs, but that poses more of a threat to the small biotechs. It has been unkind to Genentech recently, asking it to provide more information before approving Avastin to treat breast cancer. But, Gilead got its drug approved to treat hypertension without much trouble.
The article in IBD also outlines some newly passed measures from Congress that will allow generics to have a better chance in the future. But, biotechs still will have 12 years of exclusivity in the market, and with the large R&D budgets of these companies and the advancement of medical technology, most drugs will have competition within 12 years anyway.
I think this recent weakness is justified, but I also feel it is just a short-term hiccup. Most of the large biotech firms are growing too fast and have positions in their respective markets that are untouched. Genentech is expected to grow 30% this year and its cancer drugs are the best available, but the stock has given back 7.8% year-to-date. Gilead has had an impressive run, up 20% this year, but even it has given back 4% in the last month. Celgene's run has been tempered as well, giving back more than 9% in June.
As I've posted before, I'm a buyer of Gilead. I also like the weakness in Genentech and Celgene as buying opportunities, but the weakness will probably continue in the entire industry, especially with the overall market volatility. I don't see any reason to rush into a position right now, the momentum is pushing lower, so I would suggest doing the proper due diligence and taking your time to find the proper fit for your portfolio.