They're No Longer a Cheap Date, but Biotechs Still Appeal

Biotechs aren't cheap.

Investors, in fact, are almost frenzied about the industry. Stock jobbers like what should be a flood of new drugs over the next few years, the sales momentum of biotechnology therapeutics and the industry's high-technology that big pharmaceutical companies need but don't have. They just can't get enough of Big Pharma's biotech acquisition spree.

And, of course, they effortlessly forget the risks of drug development, the biotechs' management ineptitude and the marketing dominance of the big boys.

Consequently, Wall Street, which had virtually given up on the industry a year ago, is eager to pay up now. Moreover, it's willing to pay more for earlier and earlier stage companies.

But now the more soul-searching of investors (an oxymoron, to be sure, and even more so in a bull market) wonder whether biotechs are at the top of a stock market cycle or have more room to run. Should you just ignore sky-high P/E ratios? Is there value in more than just the biggest names? How much value should the Street grant to compounds that haven't at least reached Phase III, the pivotal round of testing before a product can be approved by the

Food and Drug Administration

?

With all that in mind,

TheStreet.com

asked some smart investors and analysts which stocks looked attractive here. We asked for big as well as small companies, to depart from last year's

overloading on small-caps.

Biogen

Biogen

is the definition of darling. The company is trading at 62 times 1999 earnings and 52 times 2000. That's painfully expensive. The company is expected to have earnings growth of 20% next year. Reasonable investors typically might pay twice that -- if they're aggressive.

But this is a different market, argue the bulls.

Biogen's multiple sclerosis drug

Avonex

is an unvarnished blockbuster. The company just preannounced that its third quarter would be better than expected, because of high growth in the number of patients getting the injection. The drug should have sales around $775 million this year, estimates

BancBoston Robertson Stephens

, up from $558 million last year. It could eventually be a billion-dollar drug annually.

The company is enormously profitable, too. It could earn $225 million, compared with $139 million last year.

Its pipeline is quietly becoming attractive. In June, Biogen said that its Phase II compound for psoriasis,

Amevive

, had positive trial results. If things go well, it could hit the market as Avonex peaks.

Immunex

Investors are worried about

Immunex

(IMNX)

. They see a slowdown in sales of

Enbrel

, a rheumatoid arthritis injection. They complain that Immunex has to spend too much selling the drug and that its

margins aren't attractive.

Of course, the stock still trades at -- don't even look -- 195 times 1999 earnings and 68 times the 2000 estimate.

But even at those levels, the stock is weak enough for investors to start gingerly picking up some for the next run, says Craig Parker, an analyst at

Donaldson Lufkin & Jenrette

who rates the stock a buy. (DLJ hasn't performed recent underwriting for the company.)

He says Immunex is

well managed. And the company has an attractive pipeline, with several new products. If it hits on one of them, especially asthma drug

Nuvance

, it could spark the stock and then earnings.

Several investors think that Enbrel is likely to be a billion-dollar drug, up from what should be around $350 million in sales this year. The promise of the drug is in treating rheumatoid arthritis patients earlier, and in a different disease, chronic heart failure. One portfolio manager at a major health care fund in Boston thinks that the drug will have -- after a couple of quarters of a pause in growth -- a swing up in sales. He has covered his short and is going long.

QLT Phototherapeutics

QLT

(QLTI)

, along with the

Ciba Vision

unit of Swiss drug company

Novartis

, has submitted to the FDA

Visudyne

for age-related macular degeneration, a disease that can cause blindness and has no treatment. It could reach the market in five months.

The Boston-area money manager, who has a big position in QLT, thinks Visudyne is likely to become a $500 million drug. "But Novartis talks about it being a billion-dollar product," which could juice the stock, he says.

Aviron

Aviron

(AVIR)

has a nasal flu vaccine partnered with

American Home Products

(AHP)

. Evan Sturza, who runs a small health care fund called

Ursus Capital

and is long the stock, thinks despite some manufacturing glitches, the vaccine could be a big seller.

Dusa

Here's a sleeper, says one New York health care hedge fund manager.

Dusa's

(DUSA) - Get Report

product

Levulan

has gotten an approvable letter from the FDA, meaning only a few technicalities remain before it's approved. Levulan is a photodynamic therapy that's rubbed on precancerous skin spots called actinic keratosis and is removed by a light shined on the skin. The company awaits a separate FDA verdict on the light device.

The problem for Dusa is two fold. First, it hasn't managed to find a partner to sell Levulan. Second, competitive therapies are cheap. But the company says it's in late-stage negotiations on a partnership, and Levulan is easy to use and painless. The hedge fund manager thinks "it's a solid $100 million drug" for actinic keratosis. With its promise in other dermatological uses, like hair removal, Levulan could be a nice hit.

CV Therapeutics

CV Therapeutics

(CVTX)

makes the cut again this year, says DLJ's Parker, who rates the company his "top pick." (DLJ is lead underwriting the company's current secondary offering.)

In August, the company announced that its angina drug had positive Phase III results. It's the first of two Phase III trials. If the second matches the first, the company will file for approval.

"There's not much clinical development risk," says the analyst, who adds that the drug could be at least a $200 million product. CV gets a majority of the profits. He expects the company to earn 80 cents a share on sales of $69 million in 2002, its first year on the market. And that's pretty attractive for a company that has a market cap of about $210 million.

Aradigm

Kellie Seringer, an analyst for sell-side firm

Evolution Capital

, likes this little guy's -- $173 million market cap -- drug-delivery technology, which makes it easier to get the correct amount of drug into a patient. She acknowledges that

Aradigm's

(ARDM)

lead programs have been a bit delayed as the company confronted design challenges. (Her firm hasn't participated in recent underwriting for Aradigm.)

But it expects to have three programs in Phase III by next year, with the possibility of a fourth, she says. The two Seringer thinks are most promising are the inhaled insulin with Danish

Novo Nordisk

and morphine with

SmithKline Beecham

(SBH) - Get Report

. Aradigm will get an attractive royalty of 20% of both of those drugs, she estimates. She also says the company is working on Immunex's asthma drug Nuvance and

Genentech's

(DNA)

cystic fibrosis drug

Pulmozyme

.

Cellegy

Cellegy

(CLGY)

was a dog for years. Worse, it works on diseases that no one likes to hear about. Seriously, investors pass on this company solely because of that. Try explaining that to the efficient market blowhards.

Cellegy is working on a nitroglycerin gel,

Anogesic

, for anal fissures. The drug is finished with Phase III and the results should be out shortly. If they're positive, the drug could sell several hundred million annually, say people at two hedge funds that own this $90 million market cap company.

As originally published, this story contained errors. Please see

Corrections and Clarifications.