Ringing in the New Year

Published: Jan 31, 2008

The New Year started with the biotech sector on solid ground as both the biotech indexes showed strong performance. It was truly a welcome sight to see the breadth of strength across the sector. And, despite the fact the market has been turbulent of late, the biotech sector has held steady. Wall Street knows that biotechnology continues to be the engine of innovation for the drug development industry; providing cutting-edge platforms, technologies, and pipelines with promising compounds. So it should be no surprise that the biotech sector has performed well compared to the overall market which has lost some ground largely due to macro factors such as the subprime-credit crisis/ensuing credit crunch, housing downturn and sluggish growth forecasts for 2008. With that in mind, big market swings are expected to continue, and investors may employ defensive strategies and/or favor large, dividend-paying companies with steady, predictable earnings, strong free cash flow and a multinational footprint. However, volatility creates opportunity, and there will be pockets of value for long-term investment, particularly among some of the beaten-down stocks.

What else should one expect to see in 2008 for the biotechs? We believe merger and acquisition (M&A) activity and collaborations will continue to play an important role in biotech as large-cap pharma/biotechs’ need to strengthen internal pipelines. Lower interest rates should also help stimulate these activities, as companies try to preserve cash to fuel their developing pipelines.

Unfortunately, we also foresee a reduction in the number of approvals granted to new drugs/biologicals by the Food and Drug Administration (FDA) in 2008. In 2007, the FDA approved 18 new drugs/biologics for market, a number that is the lowest since 1983. Comparing this to 2006, the approvals for 2007 were down by roughly 20%, whereas the number of “approvables” rose by about 50%. To supplement this decline, firms rich with pipelines and/or technology platforms will continue to be coveted targets by their larger peers. Therefore, M&A will continue to remain ripe in the biotech sector; however, acquirers will be selective, similar to 2007, where they passed on PDL Biopharma (NASDAQ: PDLI) and Biogen-Idec (NASDAQ: BIIB). Acquirers will focus on fundamental-driven, product-focused companies with modest exposure to the CMS- (Centers for Medicare & Medicaid Services) related reimbursement issues (particularly heading into an election year) and FDA's regulatory action.

Given the recent market turmoil, we expect 2008 to be a selective year for biotech stocks, as investors will focus primarily on names with near-term catalysts.


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