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Biotech Stock Outlook: M&A Activity Retains Growth Streak

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The Zacks Biomedical And Genetics industry includes biopharmaceutical and biotechnology companies that develop high profile drugs, manufactured through biological processes using live organisms for a wide range of diseases like immuno-oncology, virology, neuroscience, cardiovascular, metabolism and rare diseases. These biotech companies strive hard for innovative technology to develop novel drugs with a superior mechanism of action. Given the dynamic and evolving nature of technology, the sector has always been riskier than the more stable large-cap pharma or drug industry.

Here are the industry’s three major themes:

  • Since only a handful of biotech companies have approved drugs, the prime focus in this industry is on product pipelines. Most companies spend millions to create a drug with pathbreaking technology inducing a huge R&D expenditure. Approval of a key drug, positive data readouts, encouraging pipeline progress and favorable regulatory updates can lead to a massive surge in the share price of a biotech company. On the contrary, an unfavorable outcome from a key study of a promising candidate can spell doom for that particular biotech player. Moreover, it might take quite a few years for any newly approved drug to contribute significantly to the respective company’s top line.
  • Mergers & acquisitions have been an important trend in this dynamic sector as leading pharma/biotech companies look to diversify their revenue bases.  Attractively modest valuations on account of a disappointing run in 2018 sparked renewed interest in the ever-volatile biotech sector from the onset of this year. A slowdown in mature products due to increasing competition and the rise of biosimilars forced most pharma/biotech behemoths to target lucrative buyouts in this space for bolstering their pipelines. While oncology and immuno-oncology are the key areas of focus, treatments related to non-alcoholic steatohepatitis (NASH), rare diseases and gene therapies also promise great potential, thereby making the same profitable for investments. In addition, in-licensing deals consistently pour in with the bigwigs partnering smaller and mid-sized entities that boast promising mid-to-late stage pipeline candidates or interesting technology.
  • Given the cost-intensiveness of developing a drug using an expensive technology, pipeline setbacks are a major deterrent. Most drugs are years away from a prospective approval that makes the returns more uncertain. Other headwinds faced by the industry include government scrutiny of high drug prices and decline in sales of high-profile drugs due to intensifying competition.

Nevertheless, new drug approvals and label expansions of blockbuster drugs boosted investor sentiment in 2019 and should drive further growth. Moreover, ramped-up M&As and collaboration activities led to a substantial uptrend in valuations and we expect the same to gather further steam.

Prominent names in the industry include Gilead Sciences (GILD - Free Report) , Regeneron Pharmaceuticals (REGN - Free Report) , Amgen,  Biogen et al.

Zacks Industry Rank Indicates Bright Prospects

The group’s Zacks Industry Rank is basically the average of the Zacks Rank of all the member stocks.

The Zacks Biomedical and Genetics industry currently carries a Zacks Industry Rank #61, which places it at the top 24% of more than 251 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning within the top 50% of the Zacks-ranked industries is a result of a positive earnings outlook for the constituent companies in aggregate.

Before we present a few biotech stocks that are well positioned to outperform the market based on a strong earnings projection, let’s take a look at the industry’s stock-market performance and current valuation.

Industry Underperforms S&P 500, Surpasses Sector

The Zacks Biomedical and Genetics Industry, which is a 522-stock group within the broader Zacks Medical Sector, has underperformed the S&P 500 index but outperformed the sector it belongs to on a year-to-date basis.

While the stocks in this industry have collectively gained 8.5%, the Zacks S&P 500 composite and the Zacks Medical sector have rallied 26.1% and 7.6% year to date, respectively. Given the recent ongoing consolidation craze in the overall pharma/biotech sector, companies with impressive portfolio/pipelines witnessed an enormous rally in their share prices.

  Year-to-Date Price Performance

Industry’s Current Valuation

Since most companies in the biotech sector do not have approved drugs, valuing these stocks becomes complex. While the worth of bigwigs can be ascertained on the basis of earnings, sales are likely to be the determining factor for most companies on average. On the basis of forward twelve months price-to-sales ratio (P/S F12M), which is a commonly used multiple for valuing biotech companies with approved drugs, the industry is currently trading at 2.46X compared with the S&P 500’s 3.35X and the Zacks Medical sector's 2.84X.

Over the last five years, the industry has traded as high as 2.91X, as low as 1.99X and at a median of 2.52X as the chart below shows.

                  Price-to-Sales Forward Twelve Months (F12M) Ratio


Bottom Line

The biotech industry is steadily evolving and is largely volatile. The industry has been in the spotlight of late as a slowdown in old, established products of most pharma biggies forced them to eye lucrative acquisitions in this domain to bump up their pipeline. Several deal wins happened with most companies eyeing smaller entities with encouraging pipelines. This, in turn, drove the share price value of small biotech stocks, which are well-equipped with path-breaking technology. We expect the momentum to sustain in the near term as well.

The industry currently has quite a few stocks, sporting either a Zacks Rank #1 (Strong Buy) or 2 (Buy). Here we list a few such stocks that flaunt positive earnings estimate revisions. You can see the complete list of today’s Zacks #1 Rank stocks here.

Anika Therapeutics, Inc. (ANIK - Free Report) : Based in Bedford, MA, Anika has jumped 58.8% in the year so far. The Zacks Consensus Estimate for current-year EPS has been revised 0.16% upward over the past 60 days. Anika has a Zacks Rank of 1.

                          Price and Consensus: ANIK

ACADIA Pharmaceuticals Inc. (ACAD - Free Report) has delivered a stellar performance so far in 2019 with shares skyrocketing 168.6% year to date. The stock currently carries a Zacks Rank #2. Loss estimates have narrowed 14 cents in the past 60 days.

                        Price and Consensus: ACAD

Vertex Pharmaceuticals. (VRTX - Free Report) is one of the leading biotech companies of the world. The Zacks Consensus Estimate for current-year EPS has been revised 4.7% upward over the past 60 days. Vertex holds a Zacks Rank of 2. The stock has surged 32.4% so far this year.

                         Price and Consensus: VRTX

Alexion Pharmaceuticals, Inc. : New Haven, CT-domiciled biopharmaceutical company Alexion has seen a 12.2% rise in its share price this year so far.  The Zacks Consensus Estimate for this Zacks #2 Ranked stock's current-year EPS has moved 3.8% north over the past 60 days.

                           Price and Consensus: ALXN

Headquartered in Wilmington, DE, Incyte Corporation (INCY - Free Report) is currently a #2 Ranked player. The stock has gained 43.4% in the year so far. The Zacks Consensus Estimate for current-year EPS has been raised 6.1% over the past 60 days.

                      Price and Consensus: INCY

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