Monday, September 10, 2007

Choosing a Biotech Stock 2: Gilead

Analyzing Gilead Sciences, Inc. (GILD) will act as a template and standard of measure for my project of choosing a biotechnology stock to add to my portfolio. Gilead is on a short list of stocks I know I would like in my portfolio. I have cash to buy one biotech stock. I also want to look beyond the biotech stocks I have been following (See the list of stocks I follow). For more on my guidelines for this process see Choosing a Biotech Stock 1: Overview. For background information on Gilead see my Gilead (GILD) page. So the questions left for Gilead are, what is a good price to buy the stock at, and is there any better biotech stock for the money?

Gilead has several drugs on the market. Here are the ones producing substantial revenues in Q2 2007:

Truvada $385.4 million.
Atripla $212.4 million.
Viread $154.9 million.
Emtriva $9.6 million.
Hepsera $75.2 million.
AmBisome $64.8 million.

The first Atripla, Emtriva, Viread and Truvada are all for treating HIV infections. Hepsera is for treating Hepatitis B. AmBisome, is for fungal infections, which are often a secondary problem with HIV infections. Tamiflu sales are through Roche and were not broken out.

Sales totalled over $1 billion in the quarter. Net income was $408 million. Cash generated was $512 million, but $455 million was spent on stock repurchases. At today's closing price market capitalization of Gilead is almost $35 billion. So the price of the stock is steep: if revenues and earnings flatten out, you would be getting only $4 billion in revenues and $1.6 billion in net income if you bought the whole company. Still, that gives a price-to-earnings ratio of about 22. Pretty safe. But you should always ask about the upside and downside risks.

On the upside Gilead could sell more of the products it currently has on the market. With revenues up 52% from the year-earlier quarter, it would be a good bet that there will be more revenue growth in the short run. In addition, with development costs for these drugs now in the past, net income should continue to ramp faster than revenue.

The other upside for biotech companies is in the pipeline of potential future products. This is harder to judge because the risk of failure to prove both safety and effectiveness to the FDA's satisfaction is hight. Gilead's pipeline has three Phase III candidates, a Phase II candidate, a Phase I candidate, and a number of preclinical candidates. They have the cash to license more candidates if necessary. They have a good track record, so I would expect at least some candidates to make it to market as the years progress.

Downside risks for drug companies have three components: macroeconomic, safety, and competitive. Macroeconomic risks may come from the economy in general or from resistance of private or government insurers. Safety would not seem to be a big issue with antiviral drugs, given the alternatives, but some times issues reveal themselves years after a drug is introduced to market. The main danger for Gilead would be competition. Someone could actually come up with a cure for HIV infections. While the possibility cannot be discounted, I see nothing on the short term horizon that falls in this category.

So as far as I am concerned, Gilead is a buy at this price, but at this price appreciation will more likely be in the long run than in the short run. Two categories of companies could beat that. One would be an underappreciated company that has a likely but unproven drug candidate. That would be a far riskier investment, but could pay off big. The other type would be a biotech company that has a better price-to-earning ratio, is likely to grow earnings faster than Gilead, or that has a more promising pipeline.

Before buying Gilead, even if it wins this competition, I would look a bit more closely at its pipeline. But for now this overview will serve my purposes.

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