The hypothetical bear case for biotech

Transcription

1 ISI INTERNATIONAL STRATEGY & INVESTMENT GROUP, LLC Healthcare Research: Biotechnology & Pharmaceuticals W C The hypothetical bear case for biotech Being bearish sucks November 2013 Please note that the contents of this slide deck do not necessarily represent my actual views! *See the last page for an important disclosure regarding these stocks and this report.

2 It has been an awesome year for biotech 2

3 No one disputes that some very good things have happened over the past few years Celgene massive long term guidance boost & Abraxane data Pharmacyclics ibrutinib data Gilead de-risked hep C program BioMarin Pipeline progress Biogen awesome Tecfidera launch Regeneron Eyelea launch & pipeline progress Vertex combo CF data 3

4 Let s be very clear about today s questions: Will the pace of fundamental progress hold steady ( HOLD ), slow down ( SELL ), or increase ( BUY )? Which of the above do current valuations imply? 4

5 The case for sustainability (or an increase) in the pace of progress is built on 2 beliefs among investors And these two things are essential for continued outperformance R&D has become permanently more productive FDA has become permanently more cooperative 5

6 Investors clearly believe R&D productivity has permanently improved Do you think that R&D productivity has permanently improved in the biotech sector? 90% 80% 70% 60% 50% 40% 30% 20% ISI buy-side survey conducted Nov unique responders ~82% mutual funds; ~18% hedge funds ~61% generalists; ~39% specialists 10% 0% Yes No 6

7 But has R&D productivity really improved? New drugs approved (NMEs) per $1B in R&D spending (2008 dollars) Developed in collaboration with Jack W Scannell based on data published in

8 ISI Group Healthcare Equity Research Have R&D successes really outnumbered failures in 2013? FAILURES SUCCESSES 16 > 50% Downward Daily Move 70 > 50% Upward Daily Move

9 Is the consensus R&D narrative clearly supported by the facts? Consensus narrative: Although decoding the genome in the 1990s did not bear immediate fruit (thus the popping of the bubble), fundamental progress in understanding genomics is NOW, ~15 years later, transforming drug development and will lead to sustainably higher R&D success rates. If we think of the highest profile R&D successes (i.e. the stuff that really drove the sector higher) over the past few years, which clearly fit this narrative? No Way Maybe Definitely BIIB s Tecfidera PCYC s ibrutinib GILD s Hep C drugs VRTX s CF drugs CELG s Abraxane BMRN s Vimizim CELG s Pomalyst AMGN/REGN PCSK9 ONXX s Kyprolis REGN s Eyelea 9

10 Investors clearly believe FDA is much more friendly AND that this will continue Do you believe the FDA has become much more cooperative with the biotech industry? Do you believe the FDA will become less or more cooperative in 2014? 100% 90% 90% 80% 70% 60% 50% 40% 30% 20% 10% 80% 70% 60% 50% 40% 30% 20% 10% 0% Yes No 0% Less Same or more ISI buy-side survey conducted Nov unique responders ~82% mutual funds; ~18% hedge funds ~61% generalists; ~39% specialists 10

11 But has FDA really become more friendly? 60 # of new drug (NME) approvals per year Long term mean Projected 2013 Actual YTD

12 Friendly FDA? At least 2 drugs pulled (or almost pulled) off the market At least 3 clinical holds At least 1 cancelled SPA Breakthrough designation hyped by Street, but only 1 approval thus far Other bad FDA news Negative Lemtrada review Sola can t file FDA slowed PFE s palbo down Suvorexant rejected Sugammadex rejected BIIB s F8 delayed Degludec rejected 12

13 In 2012 & 2013, everyone stopped talking about the sustainability of biotech drug pricing Even if R&D success rates do improve, financial returns still rely on premium biotech drug pricing! Consensus expects virtually all new cancer drugs to cost ~$100k/year More and more companies pursuing Ultra Orphan drugs ($300K+/year) Average MS drug is now ~$55k per year (up from ~$15K 10 years ago) Consensus expects GILD to price it s new Hep C drug at ~$90K/year On top of this, typical sell side assumptions include annual US price increases of ~5%/year into perpetuity! 13

14 But how long can biotech drugs stay off the radar? How can this possibly not worry you? Ask biotech analysts this question: What pricing assumptions underpin your long term biotech models? 14

15 What are the tools to reduce pricing power? Insurance plans increase out of pocket expenses IMPORTANT POINT MISSED BY STREET: UNDER OBAMACARE, CMS HAS RULED THAT COMPANIES CANNOT PROVIDE CO-PAY ASSISTANCE (ongoing debate) Insurance companies (finally) force real competition in classes where several reasonable alternative exist Happening in DPP4 (diabetes) now Beginning to happen in TNF-inhibitor market (e.g. Humira) Spread of ACOs Bio-similars Present Short/intermediate term Give Medicare+Medicaid dual eligibles Medicaid pricing Longer term Future IPAB could change drug reimbursement methodology without consent of Congress Why, exactly, can t Medicare negotiate a drug price (it can basically negotiate a medical device price!) Is Obamacare an inevitable first step toward a single payer system? First one will launch THIS YEAR in the US! 15

16 European pricing is deteriorating right under our noses UK just last week CAPPED total drug spending This is on top of price controls! Germany implemented a system (AMNOG law) a year ago that has radically reduced companies pricing abilities Many sources indicate there are efforts ongoing across major EU countries to institute systems similar to the UK & Germany Even if this does not happen, reference pricing means lower German prices will impact pricing elsewhere PS: EM markets are not the savior.... The pace of Chinese price deterioration has accelerated in the past 2 years and many large pharmas have been forced to lower China sales guidance 16

17 Investors seem to have suddenly forgotten about biotech patent cliffs GILD s first generation HIV business will fall off its cliff in CELG s Revlimid could fall off a cliff as soon as 2019 BIIB s Tecfidera will eventually fall off a cliff Bio-similars coming 17

18 Biotech specialists tend to ignore macro stuff b/c we re all scientists... BUT THAT IS A MISTAKE What if interest rates rise? Bad for risk on assets What if economy improves? Buy cyclicals What if economy flops? Stock market sells off broadly DCFs take over...! 18

19 Other stuff the bulls are missing Less balance sheet flexibility than you think! Most cash overseas and no chance for re-patriation holiday Outperformance driven, by definition, by generalists (not enough capital in specialists hands) BD professionals all say biotech is expensive Bio-tourism? Where s all the M&A!??? Oh, it ll come tomorrow.... But: VPHM, ALXN, CLVS, BMRN, RCPT... Supply has increased dramatically in 2013 due to IPOs See next page 19

20 Supply has increased dramatically in 2013 due to IPOs Number of IPOs/year Capital raised in IPOs/year Median one day IPO stock performance in 2013 has been higher than any year except 1999 Data courtesy of Stelios Papadopoulos 2013 projected 20

21 DCF is the truth and it s getting much harder to see significant upside Company stocks are the present value of future cash flows. Period. In order to justify substantial upside for a majority of the stocks I look at I must do one or more of the following Increase terminal growth rate on assumption for much better future R&D success rates! Increase pipeline sales estimates or probabilities of success Lower discount rate.... But will rates rise? Notice that we are back to the original theme: upside on DCFs basically depends on permanently improved R&D productivity... THIS BETTER BE TRUE! 21

22 PEs are problematic for really getting at the truth Market turns to PEs in bull markets when DCFs become more difficult to justify This can work perfectly well for a year or two... But eventually DCFs will take over Biotech is a young sector, thus using a historical average PE to benchmark current valuations is very problematic Biotech PE below historical average but now back to ~2008 levels (right before 3 year biotech bear market emerged) Biotech PE is trading at a premium to the broad market for the first time since 2008 (right before 3 year biotech bear market emerged) PEGs are even more problematic... ~3 year growth rates can look VERY DIFFERENT from ~5-10 year growth rates (e.g. patent cliffs) 120.0x 100.0x 80.0x 60.0x 40.0x 20.0x 0.0x LC Biotech Median P/E SPX P/E 22

23 Someone once said it s best to buy when expectations are low In 2014, how do you think biotech, in general, will do? 80% 70% 60% Only 4% of investors believe biotech will go down on an ABSOLUTE basis in % 40% 30% 20% 10% 0% Underperform Perform in-line Outperform 23

24 And someone once said buy low & sell high 24

25 ANALYST CERTIFICATION: The views expressed in this Report accurately reflect the personal views of those preparing the Report about any and all of the subjects or issuers referenced in this Report. No part of the compensation of any person involved in the preparation of this Report was, is, or will be directly or indirectly related to the specific recommendations or views expressed by research analysts in this Report. DISCLOSURE: Neither ISI nor its affiliates beneficially own 1% or more of any class of common equity securities of the subject companies referenced in the Report. No person(s) responsible for preparing this Report or a member of his/her household serve as an officer, director or advisory board member of any of the subject companies. One or more person(s) responsible for preparing this Report or a member of his/her household have a financial interest in the subject companies of this Report (Amgen Inc., Celgene Corp., Gilead Sciences Inc., Pfizer Inc. and Vertex Pharmaceuticals Inc.). At various times, the employees and owners of ISI, other than those preparing this Report, may transact in the securities discussed in this Report. Neither ISI nor its affiliates have any investment banking or market making operations. No person(s) preparing this research Report has received non-investment banking compensation from the subject company in the past 12 months. ISI does and seeks to do business with companies covered in this research Report may have or has received non-investment banking compensation in the past 12 months. DISCLAIMER: This material is based upon information that we consider to be reliable, but neither ISI nor its affiliates guarantee its completeness or accuracy. Assumptions, opinions and recommendations contained herein are subject to change without notice, and ISI is not obligated to update the information contained herein. Past performance is not necessarily indicative of future performance. This material is not intended as an offer or solicitation for the purchase or sale of any security. ISI RATING SYSTEM: Based on stock s 12-month risk adjusted total return. Strong Buy Return > 20% Buy Return 10% to 20% Neutral Return 0% to 10% Cautious Return -10% to 0% Sell Return < -10% ISI has assigned a rating of STRONG BUY to 16% of the securities rated as of 9/30/13. ISI has assigned a rating of BUY to 32% of the securities rated as of 9/30/13. ISI has assigned a rating of NEUTRAL to 48% of the securities rated as of 9/30/13. ISI has assigned a rating of CAUTIOUS to 2% of the securities rated as of 9/30/13. ISI has assigned a rating of SELL to 1% of the securities rated as of 9/30/13. (Due to rounding, the above number may add up to more/less than 100%). Please click on the link below to see more important disclosures: Stock Price Charts 25