Biotech Takeover Bets

08/19/2005 12:00 am EST

Focus:

John McCamant

Editor, Medical Technology Stock Letter

The Medical Technology Stock Letter is a "must read" for biotech investors. I caution that biotech is a risky sector, as is betting on takeovers. However, for those aware of these risks, we look at four of the stocks on the service's list of potential takeover candidates.

"Mergers and acquisitions in biotech is one of our favorite topics. Traditionally, Big Pharma has avoided the risk of acquiring biotech companies whose drugs have not been approved by the FDA. We now believe that their need for new drug candidates outweighs their traditional caution. Plain and simple, competition is much tougher than it used to be. Big Pharma is faced with the daunting task of trying to fill their pipeline holes, caused by looming patent expirations. In fact, 2006 will be the worst year ever for patent expirations, with over $17 billion at risk. Thus, we expect Big Pharma to become more active in M&A within the biotech sector.

"A major wild card that has yet to really surface is the American Jobs Creation Act of 2004. This legislation allows for US corporations to repatriate foreign earnings at a 5.25% tax rate instead of the statutory corporate tax rate of 35%. To be eligible the money has to be repatriated in 2005 and reinvested by December 31, 2007. While the money cannot be used for many corporate activities, it can be used for M&A. In total, Pfizer, Johnson & Johnson, Eli Lilly, Bristol-Myers, Merck, and Schering-Plough could repatriate over $90 billion. While it can be interesting to speculate on the potential acquirers, it does not provide much investment value. Thus, our focus will be on the takeout candidates which could provide stunning returns.

"AtheroGenics (AGIX NASDAQ) represents one of the more attractive acquisition candidates in the biotech space. Its product candidate, AGI-1067, is an oral anti-inflammatory agent that has shown evidence, in placebo-controlled Phase II testing, of the ability to not only slow the atherosclerosis process—one of the leading causes of coronary artery disease—but actually reverse it. It would undoubtedly become a multi-billion-dollar product opportunity. We know that there is a lot of interest in AGI-1067 among Big Pharma and have little doubt that if the right suitor came along, and the price was right, then AGIX would just sell the whole company.

"Big Pharma is becoming more attracted to the oncology arena and  BioCryst (BCRX NASDAQ) would provide a nice fit. Plus, we already know that biotech companies which are working on the development of oral anti-inflammatories, as BCRX is, are looking to partner their programs because they can’t run trials for all of the large inflammatory disease indications on their own. The company also has other highly promising development programs, including a drug that has shown activity against avian flu. There is no question that BCRX remains undervalued, and is a legitimate acquisition target.

"GenVec (GNVC NASDAQ) has an under-appreciated portfolio of drug candidates that do not have partners. The lead drug candidate is TNFerade, in Phase II testing for unresectable pancreatic cancer. BIOBYPASS for cardiovascular disease and adPEDF for ophthalmic disease are also undervalued assets that an acquirer would get very cheap. The ophthalmic field is becoming a hot space for investors and we believe that adPEDF may ultimately become the company’s most valuable asset.

"Taking a step back from the dismal price performance of NPS Pharmaceuticals (NPSP NASDAQ), we are convinced that the company represents a legitimate target for acquisition. In fact, it is this very underperformance of the stock that makes a buyout that much more likely. The company’s lead product candidate, Preos, targets osteoporosis. This agent doesn’t just stop bone loss; they build new, healthy bone. Forget about the rest of NPSP’s pipeline. Based on the potential of Preos alone, we believe that any potential acquirer would be getting an absolute steal."

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