Biotech predictions for 2017 return to positive fundamentals; 2016 meltdown still in rear-view mirror

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The NASDAQ Biotech Index got hammered in 2016–-but mostly due to the market melting in January 2016. The Nasdaq Biotech Index collapsed 28% in the opening weeks of 2016 and never fully recovered, ending the year down about 22%.

But since mid-February 2016, however, the biotech stock markets ended flat. And given the multi-year run-up, the NASDAQ Biotech Index is still up 160+% over past five years (versus 75% for S&P)–-massive outperformance despite giving back 30% plus since its peak in July 2015.

One of the culprits in 2016 for the #biotech collapse was a slowdown in big-time M&A Click To Tweet

Biotech could really use the clean slate of a New Year, says Max Nisen at Bloomberg. Boy is he spot on. One of the culprits in 2016 was a slowdown in big-time M&A–particularly damaging for a sector that needs deal speculation to boost the share prices of companies years away from actually marketing a drug.

Some of the uncertainty that kept a damper on deals last year will remain; President-Elect Donald Trump is a wild card. But the fundamentals for deals are strengthening.

Pharma is a furnace that constantly needs drug candidates to replace failed projects and expired patents, and baby biotechs are the coal. The need for new ideas only grew more acute in 2016.

A recent Deloitte study found the R&D productivity of 12 of the biggest biopharma companies, measured by expected return, has hit a seven-year low. Billions in R&D spending by biopharmaceutical firms is resulting in fewer and fewer hit drugs, according to the Deloitte study.

M&A didn’t exactly grind to a halt in 2016; 326 deals worth about $91 billion got done. But that was down from $118 billion in 2015. And those 326 deals marked the lowest number of deals in six years.

Shire’s purchase of Baxalta–a resurrection of a deal first attempted in 2015–accounted for more than a third of the total deal spending in 2016. Even as biotech companies have gotten cheaper, M&A in the sector has slowed.

There’s plenty of firepower to get deals done. The 14 biopharma firms with the most cash had more than $220 billion in cash and marketable securities on hand at the end of the third quarter and can raise plenty more in debt on top of that. Sluggish near-term sales growth adds to the motivation for many firms to act.

More of that cash will likely be unlocked if and when the Trump administration makes it cheaper to repatriate cash held overseas. Johnson & Johnson, Amgen Inc., and Gilead Sciences Inc. have the most M&A-friendly combination of cash and back-of-the-pack sales growth. But there are many other contenders.

Sanofi, for example, has relatively little cash. But its sales growth prospects are so sluggish, as its biggest medication Lantus faces competition, that it may spend as much as $30 billion buying Actelion Ltd.

And though AbbVie Inc. is expected to produce stellar sales growth for the next few years, that will be almost entirely on the back of one drug, Humira. If a series of legal disputes don’t go its way, then that drug could face competition sooner than expected. AbbVie has been one of the biggest spenders in the past two years, but it’s a candidate for even more M&A.

Caution is still warranted, and not every potential target is a gem. Sanofi wasn’t exactly being applauded for its potentially expensive pursuit of Actelion; its shares fell 4% after Johnson & Johnson briefly dropped out of the fray and rose once J&J returned as the exclusive bidder.

But with so many firms having a perfect combination of cash and need, expect caution to fly to the winds in 2017, says Nisen.

Steve’s Take:

It’s been a fairly subdued start to 2017 for biopharma, but this could change abruptly during this week’s 35th annual JP Morgan Healthcare Conference in San Francisco.

The industry’s foremost investor bash usually sets the tone in shaping sentiment for the entire year ahead, says Simon King at FirstWord Pharma. This week’s conference could prove particularly important for a sector that performed well below expectations in 2016 (as demonstrated by a 22% drubbing for the NASDAQ Biotechnology Index) and faces additional uncertainty thanks to Donald Trump’s astonishing US Presidential election victory in November.

That said, will early M&A provide a much-needed catalyst for the year?

Celgene was a big winner today, on the first day of the JP Morgan Conference. The big-cap biotech is the traditional kick-off presentation at this closely followed conference, and this year, the company set a high bar for its competitors with strong financial guidance (including a bullish 2017 forecast for the first time) and positive psoriasis results from studies involving its experimental drug apremilast.

Celgene shares rose on Monday and the stock was up again in Tuesday’s pre-market session, bolstered by some analyst upgrades. Gilead Sciences and Biogen also presented at the JP Morgan conference on Monday. While both offered confident outlooks for the coming year, Celgene was a standout. Amgen presented at the conference later in the day.

So a solid, upbeat start, but realistically, an increase in M&A will be needed to lift investor confidence substantially.

Whether any deals will be announced this week remains to be seen, but Gilead’s kidnapping of Novartis cancer specialist Alessandro Riva and his appointment as its new head of oncology has heightened speculation the company will seek acquisitions in this therapeutic space.

Actelion remains “in play” and has cancelled its appearance at JPM, where it was scheduled to present on Monday. The Swiss company re-entered exclusive negotiations with Johnson & Johnson just prior to Christmas. At the very least, Actelion’s no-show in San Fran suggests a deal could still happen.

But while it definitely had its challenges, 2016 was a strong year by many measuring sticks for those of us who follow the biopharma space. Biotech venture funding likely topped $7 billion in the US alone–a benchmark met only one other time in biotech history (2015), according to PwC MoneyTree. Approximately 500 private biotech companies were successful raising capital last year, in line with the past decade.

2016 featured an above-average number of biotech IPOs, including several promising preclinical companies in the gene editing space, noted Bruce Booth at Forbes. Depending on whom and how you count, over two dozen young biotechs completed IPOs–making it the 5th or 6th healthiest year for sheer number of IPOs since 1995.

FDA product approvals, often seen as a harbinger for sector health, were puny at just 22 new medical treatments. Although well off the golden years of 2014 and 2015, some innovative new medicines did reach the market, such as:

  • the RNA splice corrector Spinraza (nusinersen) for spinal muscular atrophy (SMA)
  • Ocaliva (obeticholic acid) for liver disease and
  • Rubraca (rucaparib) for ovarian cancer, among others.

And many of these new medicines were discovered by small and mid-sized biotech firms, which is solid substantiation of the external collaborative R&D model emerging in the industry.

Sentiment around novel drug approvals should be lifted in the next few months if–as expected–Regeneron Pharmaceuticals and Sanofi’s Dupixent (for moderate-to-severe atopic dermatitis) and Roche’s Ocrevus (for relapsing/remitting and primary progressive multiple sclerosis) are approved by the FDA. These two products are forecast to be the most commercially successful new drug approvals in 2017 and feature prominently in FirstWord’s list of drugs that will shape the year ahead.

And as for the thorny issue of drug pricing, the heated debate will be prominent on investors’ minds in San Fran, especially ahead of Donald Trump’s inauguration later this month. Much conversation will likely focus on whether his populist approach to policy making could prove equally damaging to the threat that a Hilary Clinton presidency absolutely promised.

Rounding out this crystal-ball gazing, the following are select prognostications from Forbes’ Booth:

“We’ll see more than 30 life science IPOs on the NASDAQ in 2017. Most of these will be biopharma companies, and many of them will be early-stage companies whose lead programs are still pre-proof-of-concept in the clinic. I expect a bolus of IPO activity in the winter following #JPM17, a spike in 2Q, and a strong second half after Labor Day driven by a wave of young companies currently advancing into the clinic. I also think it’s likely that both of biotech’s big private unicorns, Moderna and Intarcia, will go public in 2017 if positive market conditions prevail (if only just to remove the likely large liquidation preferences on top of those management teams).”

“The dispersion in trading performance of the 160-plus IPO group of 2013-2016 will continue: by end of 2017, less than 40% of these offerings will be trading above their IPO prices. For context, back in September 2016, 43% were above their IPO prices. Over the course of 2017, I expect the challenges of drug development to take their toll on a few more of these companies and push that metric below 40%. That said, many of the winners will be significantly higher (100%+ gains), as their programs advance favorably.”

“M&A will continue to drive liquidity in biotech venture capital with over $10 billion in private acquisitions (upfront and milestones) by year’s end. In 2015 and 2016, we saw over $10 billion in private M&A deal value, and I expect this heavy volume of activity to continue into 2017. Innovative early-stage private companies will be able to demand a premium as big biopharma compete for these scarce assets.”

“On the public side there’s certainly plenty of speculation around which SMID-cap (smaller mid-cap) players are likely to get bought: Incyte, Alexion, BioMarin, Tesaro and Clovis are on the buying list for many. Acquisition multiples for commercial-stage biotechs have gone up considerably in recent years, so I’d be very surprised if we didn’t see more tan five public biotech M&A deals of over $5 billion in value next year.”

“We’ll continue to see Boston and San Fran consolidate the market for both capital and talent. Biotech venture funding in these two geographies has moved from 40% of the national funding total in 2005 to north of 70% in 2015. Expect these two first-tier clusters combined to continue to receive over 70% of biotech venture funding in 2017.”

“The FDA will approve more than 30 new medicines. Coming off 2016’s very light year for approvals (22), I expect this macro biomarker of the industry to rebound. We’ll likely see the first gene therapy approved in the US And the first CART product in ALL (Kite), maybe a second (Novartis). The number of approvals in 2017 will also benefit from a carryover from 2016 rejections; several were from GMP (Good Manufacturing Practice) issues, which should get resolved in 2017 and contribute to the total of new approvals. It’s unlikely to reach the heights of 2014-2015 given the projected PDUFA calendar, but a sizable uptick over 2016 is likely.

“Lastly, #JPM17 won’t be a bust, nor will the NASDAQ Biotech Index. Rain or shine, we won’t likely see a repeat of the disaster of #JPM16 and the subsequent weeks in January, when the biotech markets shed 20% in a few weeks. Investor sentiment isn’t great, but it’s more positive than it’s been in a while, with a majority of investors believing the markets will improve according to the latest Evercore ISI survey.”

I agree with Booth and Nisen that the entrepreneurial spirit is alive and well again in biotech with so many firms having both plenty of cash and the need for eye-catching deals.

Forbes’ Booth recalls writing a piece in early January last year about how “This Time Is Different,” trying to put the turmoil of the biotech markets in the second half of 2015 in perspective. But following last year’s shockers, like Brexit, the Warriors NBA championship loss to Cleveland and, oh yeah, the US election, he courageously admits he didn’t realize quite how different 2016 would actually be.

Steve's Take: For 2017, #biotech may be due a year of positive shockers Click To Tweet

Life is full of surprises, but perhaps this time for biotech, 2017 will be different by being fraught with positive shockers.