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Biotech Bets for the Fearless

By Alex Halperin Call 2005 the year of the biotech bounce. The Amex Biotech index has marked impressive gains thus far in 2005. As of Dec. 11, it's up more than 40% from its lows in early April, on the backs of industry giants like Amgen (AMGN) and Genentech (DNA).

But investors may wish to think twice -- or even three times -- before joining the party. Biotech, particularly drug development, remains a wildly speculative field. Even after a drug is created, it must advance through expensive clinical trials that easily can last upwards of five years. At the end of the process, the fledgling compound needs to win approval from the Food & Drug Administration, a regulator that, at least from a company's perspective, can appear inscrutable.

WILD RIDES. Think of the process as something like a video game: biotech companies push their candidates toward development milestones to test, typically, a compound's safety, efficacy, and eventually its performance against existing therapies. Upon successfully completing a stage, the biotech outfit developing the drug might receive a new infusion of resources in the form of milestone payments from partners.

Fall short, and the player loses time as it must carry out new trials. In the worst cases, companies close up shop. Drugs hyped as blockbusters can be quickly surpassed by competitors or not even make it to market.

Not surprisingly, this investment minefield can bring in spectacular returns even before a drug wins approval. During drug development, stocks often rise sharply when they hit milestones. Alternately, when a small company's drug candidate fails a clinical trial, it can devastate the stock.

ONE OF A KIND. If an investor is set on playing biotech issues, what should he or she look for? The best bet may be to identify companies developing unique technologies addressing large market needs. In this week's Five for the Money, we present five publicly traded biotechs with promising products at various stages in their development. Did we mention that biotechs can be risky?

1) Onyx Pharmaceuticals

Onyx Pharmaceuticals' (ONXX) fortunes will rise or fall with Nexavar. Co-developed with Bayer (BAY), the drug is an oral therapy designed to target cancer-cell proliferation and the blood vessels that feed tumors. It could be approved imminently for treating kidney cancer, but the timing will be crucial.

Sutent, a drug from pharmaceutical giant Pfizer (PFE), is also potentially on the brink of regulatory approval. "If Sutent is approved for kidney cancer as well, it will be a big competitor," says Karen Andersen, a biotech analyst with Morningstar who awards Emeryville (Calif.)-based Onyx three out of five stars.

Also, if Sutent wins approval for treating certain gastrointestinal cancers, she says doctors might use it "off-label" for kidney cancers, poaching potential Nexavar users. Still, the drug has a focus beyond kidney cancer. It's in late-stage trials for melanoma and liver cancer, where Andersen says there is "extremely high unmet need."

2) Progenics Pharmaceuticals

Tarrytown (N.Y.)-based Progenics Pharmaceuticals (PGNX) is developing a drug for treating severe opioid-induced constipation. This is a side effect associated with certain opiate painkillers that not only causes great discomfort but can also delay hospital releases and cause medical emergencies. Progenics' methylnaltrexone (MNTX) is in a late-stage clinical trial for treating patients with advanced medical illness (AMI), an umbrella term encompassing terminal cancers, and for other very sick patients, for whom it would be administered via a subcutaneous needle.

It is in earlier-stage studies for postoperative patients (as an IV treatment) and for those who take opiates to alleviate chronic pain (an oral form), uses for which a much larger market exists.

George Fulop, a biotech analyst with Needham & Co., which rates the stock a buy, says a key to the company's success will be if it gets approval for "multiple indications in multiple formulations." (Needham & Co. makes a market for Progenics.) He projects that the AMI therapy could be available in 2007 with the more lucrative post-op treatment estimated for 2009.

One competitor is Adolor (ADLR), which Fulop said is developing an oral drug aimed at postop patients. The analyst prefers the Progenics approach, since post-op patients usually can't take drugs orally. Investors also see promise in Progenics. Its stock is trading around $24, up more than 70% from its 52-week low.

3)Human Genome Sciences

Founded in 1992 to discover genes to be employed in therapies, Human Genome Sciences (HGSI) is developing a broad drug pipeline with support from heavyweight partners such as GlaxoSmithKline (GSK). The Rockville (Md.)-based outfit has presented data showing promise in several drug candidates for treating ailments including cancers and hepatitis C.

In October, the company's LymphoStat-B failed to meet goals for a midstage clinical trial for treating lupus. That day, the share price dropped about 30%, to $9.87. Human Genome now says it can identify a narrower patient population for whom the drug was more effective -- something it will certainly consider, since it's planning a later-stage trial for the drug.

Although the October study didn't meet Human Genome's own goals, it showed that "we have an active drug and we know the dosage that it's active at," company spokesman Jerry Parrott says. Furthermore, Human Genome has also announced some encouraging results for the drug in targeting rheumatoid arthritis.

4) Gilead Sciences

By far the most mature company on this list, Foster City (Calif.)-based Gilead Sciences (GILD) was in the news this fall when it settled with Swiss pharmaceutical giant Roche on a larger royalty agreement for the influenza drug Tamiflu. The drug is already reportedly in short supply as the world braces for a possible avian-flu pandemic.

While Tamiflu brings in some revenues, Gilead's core business is the HIV/AIDS drugs Truvada and Viread. They accounted for most of Gilead's $493.5 million in third-quarter revenue.

Thomas Wei, a senior research analyst with Piper Jaffray, rates Gilead "outperform." He says it has some promising compounds in its pipeline, notably an HIV integrase inhibitor, an experimental drug designed to impair the virus's replication. (Piper Jaffray makes a market for Gilead.)

Troubled pharma giant Merck (MRK), currently undergoing major restructuring, is developing a similar drug. However, Wei says Gilead's compound may not have to be administered as frequently. Morningstar's Andersen thinks it's too early to get excited, however, and rates Gilead Sciences at two stars. The drug "could be very promising, but it would definitely be a big call at this moment," Andersen adds.

5) Exelixis

Small biotech companies tend to have a laserlike approach to drug development. They focus on one or two compounds and hope the revenues from them can be used later to develop more drugs. If such a strategy resembles a surgical strike, Exelixis (EXEL) does carpet bombing. Thanks to an elaborate network of strategic partnerships with drug companies like GlaxoSmithKline and Genentech and the investment firm Symphony Capital Partners, the well-funded company is developing eight cancer drugs.

Of the eight, only its lead candidate, a treatment for relatively rare bile-duct tumors, is in advanced trials. Even so, Jeffrey Loo, a Standard & Poor's biotech analyst, gives the stock a hold recommendation (3 STARS) on the grounds that the company's "pipeline is filling up quite nicely." In rating the stock outperform, Edward Tentoff, a Piper Jaffray senior research analyst, likes that Exelixis is targeting numerous cancers. He says that although it's still early, the safety data for powerful cancer drugs is crucial since tolerability is an important factor in their use. (Piper Jaffray makes a market for Exelixis.)

Again, Morningstar's Andersen was more bearish: She gives Exelixis a one-star rating. According to Andersen, having eight drugs in development "would lead you to believe that they have a lot of confidence in their pipeline." Even so, she expressed concern that South San Francisco (Calif.)-based Exelixis' many partnerships could cut into revenues, should the drugs eventually win approval.

It's clear that the five companies identified here have attractive attributes, but each has potential pitfalls. The bottom line: Proceed with caution.

Halperin is a reporter for BusinessWeek Online in New York

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