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The biotechnology sector is big in Australia and many biotechs post stunning returns. So why don’t we spend more time studying biotech stocks? Well, let’s begin.

The yearly performance of two hot biotechs is best represented by the chart below:

New Zealand-based Neuren Pharmaceuticals Limited (NEU) has had a winning year, up 300%.  The Company’s focus is on developing drugs to treat neurological disorders and cancer.  The company has a drug to treat Traumatic Brain Injury investors, which could be the first drug of its type to get US FDA approval.

Australia-based Prana Biotechnology Limited (PBT) focuses on developing drugs to treat degenerative processes associate with aging, including Parkinson’s, Huntington’s disease and Alzheimer’s, with a clinical trial of a treatment for Alzheimer’s underway.

While a one year chart for these two Biotechs shows the reward potential, a five year chart shows the risk:

These two companies are classic “story stocks”.  Both are working on exciting things but neither has yet to generate significant operating revenue.  However, both have high potential drugs in Phase 2 clinical trials.  

While punting on such speculative stocks is exciting, there are lower risk biotechs that have handsomely rewarded investors over time.  While attention has largely focussed on the resources boom in recent years, the biotech sector has been going from strength to strength.

In fact, the Aussie Biotech Sector is the largest on the planet as a proportion of GDP, according to a 2011 global biotechnology report from Ernst & Young. And the Australian Life Sciences Index has generated consistently better returns than both the US NASDAQ Composite Index and our the All Ordinaries Index since mid-2006, according to Pricewaterhouse Cooper 2012 BioForum report.

The following table lists the three top Biotech plays on the ASX over the past decade.  We included one year share price change and ROE along with total shareholder return over time and a 2 year earnings growth forecast.  Here is the table:

Company (CODE)

Mkt Cp

Share Price

52 Wk % Change

ROE

1 Yr Total Share-holder Return

3 Yr Total Share-holder Return

5 Yr Total Share-holder Return

10 Yr Total Share-holder Return

2 Yr Earnings Growth Forecast

CSL Ltd (CSL)

$32.7b

$67.02

+52%

40.4%

53.6%

29.5%

12.6%

30.5%

6.8%

Mesoblast Ltd (MSB)

$1.7b

$5.47

-15%

-9.8%

-13.9%

44%

33.9%

68.3%

Sirtex Medical  (SRX)

$720m

$12.83

+66%

20.7%

68.1%

40.1%

41.2%

10.2%

52.6%

 

CSL Limited (CSL) is the crown jewel of the sector with an outstanding 10 year track record of rewarding shareholders.  It’s the only stock to pay dividends, although modest, at 1.5%; its growth forecast is also modest.  The company produces blood plasma products and vaccines.

Mesoblast Limited (MSB) has suffered a tough year but its 2 year earnings growth forecast shows better days ahead.  The company describes itself as a “world leader in novel adult stem cell therapies.” 

If you take the maxim of investing only in companies you can understand, Mesoblast is not for you.  However the same could be said of almost any Biotech.  What you need to know is the potential market size of the drugs/treatments/ or devices under development, the funding situation, and pipeline progress through the regulatory approval process.  Mesoblast has a proprietary cell technology and currently has six products in Phase 2 trials.  These products, if successful, will treat diabetes (type 2), heart disease, and certain orthopaedic disorders.  The company pulled off a successful capital raising earlier in the year, which analysts predict can safely fund the company for another 4 years.  

Sirtex Pharmaceuticals (SRX) is another company with a healthy earnings forecast.  The company’s principal efforts are focused on liver cancer and its Sir-Spheres radiation treatment has approval in multiple markets.  This company is generating revenue, growing from $70.5 million in FY2011 to $96.8 million in FY2012.  Net profit has increased from $11.5 million in FY2011 to $18.5 million in FY2012.  The company has shown 36 consecutive quarters of sales growth with this treatment.  Sirtex is sponsoring an international study (SIRFLOX) to evaluate use of its Sir-Spheres as a treatment for metastatic colorectal cancer.

There are undoubtedly small cap Biotechs out there with the potential to follow in the footsteps of star performers like CSL, MSB, and SRX. 

With that in mind, here are 9 Biotech stocks with interesting stories to tell. Here is our table; including the two outperformers we discussed earlier, NEU and PBT:

Company (CODE)

Mkt Cap

Share Price

52 Wk % Change

1 Yr Total Share-holder Return

3 Yr Total Share-holder Return

5 Yr Total Share-holder Return

10 Yr Total Share-holder Return

2 Yr Earnings Growth Forecast

StarPharma Limited

(SPL)

$278mb

$0.98

-30%

%

%

%

%

%

Bionomics Limited

(BNO)

$243m

$0.62

+88%

88.9%

32.2%

12.6%

5.9%

223.1%

Nanosonics Limited (NAN)

$231m

$0.885

+77%

80.6%

12.6%

29.8%

Prana Biotech (PBT)

$177m

$0.52

+190%

205.8%

60.8%

4.4%

-4.9%

QRx Pharma (QRX)

$122m

$0.84

+24%

24.2%

-1.5%

5.2%

56.8%

Universal Biosensors (UBI)

$118m

$0.68

+17

16.2%

-23.5%

-3.9%

Neuren Pharmaceuticals

(NEU)

$111m

$0.09

+291%

308.7%

79.2%

5.6%

6.8%

Tissue Therapies Ltd (TIS)

$68m

$0.34

-21%

-21.8%

21.9%

34.5%

170.1%

Osprey Medical Inc. (OSP)

$66m

$0.66

+80%

78.4%

 

With the exception of Osprey Medical (OSP), which has been trading on the ASX only since April 2012, all stocks have rewarded shareholders over time.  Firstly, let’s look at those showcasing positive earnings growth forecast.  

With a staggering 223.1% growth forecast, Bionomics Ltd (BNO) seems a good place to start.  As always, however, there are two problems with raw earnings forecasts.  The first is regardless of their source, they are nothing more than intelligent (we hope) guestimates from a financial analyst.  The second is the quality of the analyst.  Bionomics does not have coverage from any major analyst firms.  Three analysts cover the company with average EPS (earnings per share) estimates of $0.03 per share for FY2014 rising to $0.11 in FY2014. 

Bionomics develops drugs and treatments for big-market areas – Alzheimer’s, cancer and central nervous system disorders, including epilepsy, multiple sclerosis, and anxiety disorders.  The company has a treatment for renal cancer in Phase 2 trials in partnership with Pfizer, and a treatment for anxiety and depression disorders in Phase 1.  The potential market size for the anxiety/depression treatment is estimated at $US15 billion per annum.

The company recently signed a deal with Merck & Co for a chronic pain treatment.  In March of 2013 the company executed a successful capital raising to fund further development of its drug candidates.

Starpharma (SPL) has a nanotechnology platform using dendrimers aimed at a variety of industrial and healthcare applications.  The technology is difficult to understand, however the company has an impressive list of partners and positive trial results.

The most promising products is VivaGel – used for treatment and prevention of genitourinary conditions.  If you are not sure what a genitourinary condition is, consider that major condom manufacturers are ready to market VivaGel coated condoms.  Starpharma’s technology has agribusiness applications as well and the company in August 2012 announced an agreement with Nufarm Australia to use dendrimer technology to develop crop protection compounds.  

CIMB Securities has an OUTPERFORM rating with a $1.72 price target. There are 5 analysts covering SPL, with three STRONG BUYS; one BUY; and one HOLD.  Coverage is provided by Nomura, Bell Potter, Canaccord Genuity, CIMB, and Philip Capital. The share price is up some 15% over the past three months.

Tissue Therapies Ltd (TIS) is best known for its VitroGro ECM, a treatment for hard to heal wounds.  Earlier in the year the company revealed that European regulators said VitroGro should be regulated as a medicine, not as a medical device as the company had hoped.  The European Medicines Agency (EMA) has now set a start date for the regulatory review beginning in September 2013.

Astute investors might question the market potential for hard to heal wounds, but TIS also develops treatments for a wide range of applications, many of them very common such as burns, acute wounds, skin ulcers, and psoriasis.  Other applications include scar prevention, and breast, colon, and prostate cancers.

CIMB Securities has a NEUTRAL recommendation on the shares and Thomson/First Call indicates one other broker covering the company with a BUY rating.

QRxPharma Limited (QRX) is working on new treatments for pain management, with an eye towards commercialisation in the US and EU markets.  The company’s prime offering, MOXDUO, is ready for commercialisation with only one remaining regulatory hurdle.  However, that hurdle from the US FDA has been diffult to surmount and serves as a prime example of the high risk of biotech investing.

The market for effective pain management treatments is huge; the company’s original NDA (New drug Application) was sufficient to demonstrate efficacy and no safety issues were found, according to the FDA, however, at the end of August 2013 the FDA required more information; effectively, they requested validation of an issue requiring the study of millions of data points in the 375 patients studied.  The company will resubmit and expect approval in Q1 2014.  Investors were cautious, and the share price dropped 25%.  Here is a one month chart:

The approval delay led JP Morgan to downgrade the stock from OVERWEIGHT to NEUTRAL; the target price was dropped from $1.15 to $0.95.  The analyst suspects the additional six month delay could jeopardise the company’s funding.  

Despite the setback, Citi sees significant upside providing FDA approval comes through and maintained its BUY rating and price target of a lofty $2.52.

Strictly speaking the remaining three companies are not Biotechs, but rather medical device companies.  However, some investment firms include them with traditional Biotech companies.

The largest of the three, Nanosonics Ltd (NAN) is actually generating revenue, but unfortunately still losing money.  Full year results for FY2013 showed a 21% increase in sales but a net operating loss of $5.8 million.  The company makes products for the control of infections acquired from healthcare related activities, or the industry terminology HAI’s (Health Acquired Infections.)  The US Center for Disease Control (CDC) estimates close to two million HAI’s annually in the US resulting in 100,000 fatalities.

Nanosonics has developed a technology for quickly disinfecting ultrasound probes.  In the US GE Healthcare has exclusive distribution rights and in the UK Nanosonics has a similar arrangement with Toshiba.  Both arrangements are fairly recent with the GE agreement going back to mid-2011 and the Toshiba agreement reached in May of 2013.  

Universal Biosensors Ltd (UBI) makes diagnostic testing equipment for the point of care (POC) market, bringing diagnostics to the patient care site for quicker results.  The company partners with US based Johnson & Johnson subsidiary LifeScan for glucose testing and with Siemens Healthcare for coagulation testing. The company’s existing products are proprietary, protected by over 500 patents with new products in the pipeline.  Although the target POC market in the US is estimated to be $15 billion annually, with yearly growth of 10%, Universal’s financial performance to date has been lacklustre.  Half year 2013 results showed a 35% year over year revenue decline and profit loss in FY2010, 2011, and 2012.

The final company, Osprey Medical Ltd (OSP) began trading on the ASX on 30 April, 2012.  The company is based in the US but has Australian roots since its trademarked CINCOR system can trace its development to technology originating at the Baker Heart and Diabetes Institute in Melbourne.

Osprey’s CINCOR Contrast Removal System will be used by cardiologists performing high risk heart procedures to protect against CIN, or Contrast Induced Nephropathy.  In lay terms, the dye used as contrast media in these heart procedures can damage the kidneys of patients with less than optimal kidney functioning.  The CINCOR system is still in the FDA approval process.  

In August the company announced another of its systems for dealing with CIN, the AVERT system, had received FDA 510(k) clearance, meaning the system is approved.  The AVERT system reduces the amount of dye injected.  The company claims 4 million yearly angiogram procedures performed in the US and Western Europe could use this proprietary technology.

Osprey anticipates FDA approval of the CINCOR system by the end of 2014. The company estimates the global market potential to be US$800 million, treating approximately 400k patients.  A third system under development, CINAVERT, could raise the target patient population by one million per year.  

Although the initial FDA approval of AVERT is a very positive sign, failure to get regulatory approval for CINCOR and CINAVERT would be bad news for the share price.  That is the risk.  The reward potential can be seen in a one month share price chart for OSP showing market reaction to the FDA approval of the AVERT system.  

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