As summer fades to fall, will biotech stay in season?

Salim Syed
Salim Syed Senior Biotechnology Equity Research Analyst
September 27, 2022

Just like that, fall is here once again. And a key question for biotech investors and operators is whether the sector’s recent summer comeback will continue. After a challenging environment through the first half of 2022 (and 2021), the XBI, a popular biotech index, is now at ~$90 (up from a near ~$60 trough in mid-2022). We are still some ways off the $175 peak from early 2021 and the macro environment remains challenging, but with recent, positive data readouts and M&A in the sector, and valuation metrics attractive, biotech’s summer comeback may just stick. 

A rising tide lifts all boats

Innovation has always been at the core of the biotech industry, and that remains true today. Clinical data – the industry’s number one KPI (key performance indicator) and a measure of whether drugs in development are working – have produced promising results recently. That’s the good news. The great news is good news helps everybody. 

In September, Regeneron’s well-known and heavily-marketed ophthalmology product, Eylea, received positive news, with two Phase 3 studies showing that 12-week and 16-week dosing regimens produced vision gains, statistically similar to its 8-week regimen. This result led to a 20%+ increase in its stock price, or about $15 billion in the company’s market cap. 

In August, Alnylam released positive Phase 3 data for patisiran in ATTR-CM, a cardiovascular disease. Its stock price is now 50%+ higher, up by about $9 billion in market cap. It also means Alnylam is now trading sufficiently north of the $20 billion threshold, which some market observers use to classify large-caps. 

In August, Karuna, a SMID-cap biotech company, reported positive Phase 3 results for KarXT in schizophrenia. Its stock price is now trading 75%+ higher, or by about $4 billion in market cap. 

In biotech, Phase 3 trials garner the most attention. They are the largest, most advanced studies in any drug’s development program. In 2015, according to IQVIA, Phase 3 trials had an overall success rate of 81%. This rate has gradually decreased over the last six years, with 2021 sitting at 48% – the first time since 2010 (or earlier) that we’ve seen a sub-50% year. Hence, to have a recent string of positive Phase 3 results among a variety of therapeutic areas, is indeed a welcome shift from the trend.

M&A remains the kind visitor, always

If there is one perennial topic in biotech, it’s M&A. Regardless of where we are in the market cycle, the questions (1) “Who are they going to buy?” (if we’re talking about large-caps) or (2) “Who do you believe will get acquired?” (if we’re talking about SMID-caps) never go away. Positive clinical data, either validating a drug or indicating a drug is closer to validation, signals there is more commercial potential, at least relative to the price paid. And while M&A levels may ebb and flow, when it’s here, it’s a kind visitor, always.

This summer, we’ve seen several $1+ billion transactions that have helped the tape: Pfizer’s ~$12 billion acquisition of Biohaven, Bristol Myers Squibb’s ~$4 billion acquisition of Turning Point Therapeutics, Amgen’s ~$4 billion acquisition of ChemoCentryx, and Pfizer’s ~$5 billion acquisition of Global Blood Therapeutics. Merck’s reported interest in $28 billion Seagen still lingers in the background, though deal negotiations have reportedly hit a snag on price. 

The M&A question persists as biotech investors believe there is always a chance a deal occurs. In my view, today, the chances are higher that it does occur. Large-cap therapeutics have over $250 billion in cash, not including any potential additional debt they can add. Patent cliffs – referring to the potential sharp decline in revenues once a patent expires – are a constant part of the industry, and as much as science matters, so does revenue growth. Arguably, the fastest way to fill an upcoming void is to buy a product or company. There are over 1,000 publicly traded biotechs today, double the number of three years ago. These are important ingredients for further consolidation. 

Valuations are attractive 

In the context of valuation, fundamentals matter. Large-cap NTM (next twelve months) P/E’s are hovering around 15x (the range over the last 15 years has been about 12-25x); and NTM EV/Sales for the sector are around 5.5x (range over the last 15 years has been about 3.5-10x). Roughly 20% of SMID-cap biotech companies are trading at a negative enterprise value (vs. ~25% at its peak in June 2022), still at higher levels seen since 2000. In other words, biotech valuations appear attractive. 

Time will tell if the trends in positive data and M&A continue. While we generally believe that pumpkin spice lattes and peppermint mochas should be enjoyed regardless, we tend to believe biotech investors and operators have a decent shot of enjoying them this upcoming holiday season on a fundamental and price upswing. 

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