Healthcare stocks have been in the sickbed this year for a host of reasons, ranging from rising interest rates and regulatory pressures to the launch of revolutionary weight-loss treatments whose uptake could reduce demand for other drugs and medical procedures.
Yet, the prognosis is better than many investors assume.
That’s the collective view of the four panelists on Barron’s 2023 healthcare roundtable, who see enticing opportunities not only in the highflying shares of weight-loss giants
Eli Lilly
(ticker: LLY) and
Novo Nordisk
(NVO) but also other pharma, biotech, hospital, and medical-device stocks that Wall Street has beaten down or ignored. Scientific breakthroughs, deal making, and a nimble response to regulation could brighten the industry’s financial prospects in the years ahead, these experts say, and reignite investor interest in one of the U.S. economy’s most important business drivers.
This year’s roundtable panelists include Ziad Bakri, a portfolio manager at T. Rowe Price and manager of the T. Rowe Price Health Sciences fund (PRHSX); Asad Haider, head of U.S. healthcare research and sector strategist at Goldman Sachs; Jared Holz, healthcare equity strategist at Mizuho; and Debra Netschert, a managing director at Jennison Associates and portfolio co-manager of PGIM Jennison Health Sciences fund (PHLAX). The group met with several Barron’s writers and editors on Zoom on Sept. 14 to share their views on this year’s biggest developments in healthcare, and on their favorite stocks.
An edited version of the conversation follows. All data are as of Sept. 14, unless otherwise indicated.
Barron’s: Obesity treatments developed by Eli Lilly and Novo Nordisk are probably the biggest story in healthcare this year. Are investors overly enthusiastic about the growth prospects for these products, and Lilly’s and Novo’s shares?
Debra Netschert: At Jennison, we have been following the GLP-1 [glucagon-like peptide-1] space for diabetes and obesity for the past two decades. It has been an exciting time to invest in this space. There have been multiple positive clinical trials for treatment of diabetes and obesity, the most recent being Novo’s Select trial, which demonstrated that obese patients taking the company’s drug Wegovy had a 20% reduction in their risk of cardiovascular events. There are about 85 million overweight Americans with pre-existing cardiovascular disease who would benefit from the treatment. If taken appropriately, it could prevent 1.4 million heart attacks in the U.S. over a 10-year period. Full results of the Select trial are expected to be released at a medical conference in November.
While enthusiasm for obesity treatments has hit a peak, utilization isn’t even close. According to Novo, market penetration of GLP-1s for treatment of diabetes was at 11% at the end of last year. Worldwide, penetration was at 5%. We estimate it is now only about 15% in the U.S., despite this year’s rapid growth.
When I think about whether Lilly is overvalued, I think about how capacity-constrained this environment is. Lilly’s Mounjaro [a diabetes treatment] hasn’t even been approved for weight loss yet, but likely will be later this year. Thanks to a significant ramp-up in manufacturing capacity, uptake is going to increase dramatically in 2026-28. This will translate into significant sales and earnings acceleration. We estimate that Lilly and Novo’s combined GLP-1 franchise sales will reach about $100 billion in 2028. That will translate into annualized earning growth of greater than 30% for Lilly and nearly 20% for Novo from 2023 to 2028.
Asad Haider: Obesity treatments are the artificial intelligence of healthcare, meaning that this is a megatheme to which many healthcare investors are anchoring right now. Novo and Lilly are the only large-cap expressions of that theme. As Deb said, the runway for growth is tremendous. There is a view that these stocks reflect a lot of hype, but you can see why they have run up.
One of our mantras is that stocks follow earnings revisions. If you track these stocks’ performance against analysts’ forward-earnings revisions, the relationship is almost one-to-one. As long as earnings revisions keep rising, the stocks will head higher. Maybe Lilly’s market cap of close to $600 billion is discounting a lot of optimism, but these stocks aren’t trading on the next 12 months’ earnings. They are trading on the longer-term opportunity, a five-year view. Seen through that lens, there is a lot of runway left.
How will the success of these drugs affect the broader healthcare industry?
Jared Holz: As more patients use these medications, they will put themselves in a position to live better lives. Hopefully, the cost of treating patients with obesity-related ailments will degrade severely over the longer term. This is just the top of the first inning: the first year in which these drugs have been sold commercially.
Ziad Bakri: Obesity treatments could have enormous collateral benefits in reducing heart attacks, sleep apnea, and more. Over time, payers and employers will have the data demonstrating that, and these drugs will be covered by insurance. Also, David Ricks, Lilly’s CEO, has spoken of mass-market penetration. To get there, these treatments will have to be delivered in pill form, not just through injections, and that would cost a lot less. Debra’s estimate of $100 billion in sales is solid, although I don’t know in which year, exactly, it would happen. But if you consider that other big drug classes that payers cover, such as TNF inhibitors used to treat arthritis, are north of $40 billion in annual sales, does $100 billion sound crazy? Not really.
Netschert: When a patient goes from an obese state to one with a more normal body mass, what other health problems are eliminated? What other costs, for drugs or medical care, come down? That is why it will be important to see the full details of the Select trial. In five years we might say, remember when we were worried that weight-loss drugs would break the system? Look at how much these drugs have bent the cost curve in a positive way.
Holz: Near term, calculating the coverage of these treatments will be a bit of an actuarial nightmare for insurance companies as they try to piece together the immediate benefits of weight loss and the longer-term benefits of other positive health outcomes. Payers will have to engage in a mathematical exercise to determine what they are willing to pay out now, versus what they might save later. It seems difficult, but if the data hold up as we expect, it might be easier.
Haider: We can all acknowledge that the field is in its infancy, both commercially and scientifically, and we can debate whether the two approved drugs—Novo’s Saxenda, an earlier-generation GLP-1, and Wegovy—are going to dominate the market long term. But if you take a step back, at least a dozen diseases are a consequence of obesity. It is hard to argue that managed care wouldn’t want to pay for these drugs, given the magnitude of the savings that ultimately could be generated.
We should also discuss the impact of GLP-1 drugs on medical-procedure volumes and medical technology. Obesity treatments have penetrated just a sliver of the total U.S. adult obesity market, so far. Yet, we are already starting to see an impact on some procedure volumes.
Intuitive Surgical
[ISRG] said it saw weaker demand for bariatric surgery in its latest quarter as a result of GLP-1 drug use for obesity. Orthopedic procedures could increase, as many patients were told to lose weight before hip and knee surgery.
It is harder to know what the long-term impact will be on makers of diabetes devices such as CGMs [continuous glucose monitoring devices], pumps, sleep-apnea equipment, and so forth. The market is starting to price in a dent to growth. It isn’t about what happens in the next quarter, or the quarter after that. It’s what happens over a longer period.
Bakri: For bariatric surgery, this is an obvious negative. For other categories, the impact might not be so clear. Statin use began in the 1990s, and it isn’t like there is any shortage of cardiovascular stent procedures or heart attacks now. The orthopedic market is likely to benefit. It is already benefiting from the pickleball effect. Older people are more active today. That’s why they are getting their hips and knees replaced. If you lose weight, you are also going to be more active. As for diabetes devices, it is hard to know. In part, the stocks have fallen because they have high price/earnings multiples. You introduce a bit of uncertainty, and people won’t want to pay as much for high-multiple stocks.
Haider: With interest rates rising, long-duration equities are under stress anyway.
Holz: The concern about medical-device stocks seems like 99% narrative, 1% actual risk. I doubt we will see any meaningful degradation in medical-device revenue or earnings in the next few years as a result of the use of weight-loss drugs. You would think some food and beverage stocks would also get hit, and yet
J.M. Smucker
[SJM] is buying
Hostess Brands
[TWNK] and upping its bet on snack foods. [A
Walmart
(WMT) executive said on Oct. 4 that the retailer had seen a small change in grocery purchases by customers taking appetite suppressants.]
We could talk about obesity drugs all day, but let’s move on to the other big healthcare story this year: Medicare drug-price negotiation, which the pharma industry has been trying to derail through lobbying and litigation. What are your thoughts?
Netschert: I don’t call legal battles, but the unintended consequences of the Inflation Reduction Act are significant to the drug industry, in particular drug pricing. One thing the IRA doesn’t limit is the price at which a drug can launch. So, if you think about a drug launch as a simple discounted cash flow exercise, the IRA decreases the number of years you have to earn a return on your investment. Due to what has happened with interest rates, we have also increased the discount rate dramatically. This means you need to hit peak revenue much earlier in the life cycle of a drug because that life cycle will be shorter.
There is only one way a company can get its desired revenue stream and return on capital on a given drug launch, and that is to price the drug higher. Companies are also going to take a hard look at the number of indications for which they launch a drug. If you have a limited time span of nine or 13 years in which to get revenue from a branded product, you aren’t going to be running large Phase 3 trials for new indications in year six or 12. This means that companies will be aiming to hit peak sales of a drug faster and will stop investing in research and development for that product in the last few years of its fully branded life cycle.
If the unintended consequences of the IRA are that negotiated prices decrease innovation and potentially lead to higher drug prices, people might stop and think, is this really the right thing? Wasn’t the IRA supposed to lower drug prices over the long term and increase the number of patients treated and the diseases pharma companies are willing to go after? From that perspective, it doesn’t look pretty.
Does that mean we need to reset earnings expectations for pharma stocks?
Haider: You could argue that a lot of this uncertainty is already reflected in valuation multiples for the industry. Pharma stocks are trading at about a 25% discount to the broader market, and near the troughs seen during prior periods of policy uncertainty.
Complicating matters, as Debra said, are several unknowns about how the current situation will play out. We don’t know the extent of the industry’s negotiations with the government, and we won’t know the magnitude of the discounts until next year. They could vary by drug. Also, if one drug in one class of drugs is up for negotiation, what does that mean for the pricing and rebidding structure of other drugs in that class?
Then, there is the potential impact on clinical development strategies, M&A [mergers and acquisitions], R&D [research and development], and all that. And even if you think you understand everything, we’re moving into a presidential election. Typically, election years aren’t great for the performance of healthcare stocks. The further policy uncertainty creates a diminished appetite for the stocks.
To finish up on the litigation, there are eight active lawsuits against these provisions of the IRA. I don’t take views on lawsuits, either, but if one of these suits were to prevail, and there were to be an injunction against price negotiation, it would be a significant development.
Is all of this changing the way you think about the pharma stocks you’re holding?
Bakri: Not really. Obviously, if a drug is on the IRA list, you have to model out the potential consequences. But you just can’t predict the legal situation. This accentuates the importance of investing in companies with drugs that are efficacious, safe, and meet big unmet needs—drugs that dramatically improve people’s lives or the quality of life. That is always a theme.
Holz: Investors seem to have shaken off the news around the selection of the 10 drugs subject to Medicare price negotiation. The stocks haven’t done much of anything in recent months. The fact that pharma stocks have basically been flat even after the Centers for Medicare & Medicaid Services unveiled the list is a positive to me. Management teams are focused mainly on two things: internal R&D, and whatever seems interesting enough to bet on externally. Neither of those things changes as a result of the Inflation Reduction Act or the list.
Circling back to next year’s presidential election, what is at stake for the healthcare sector? And what would change if a Republican were elected president?
Haider: As noted, healthcare tends to lag in an election year. That said, this could be one of the more benign election cycles for the sector. Democrats have already extracted a win from the industry with the IRA. Now the conversation shifts to implementation of the law. Also, President Joe Biden has taken more of a moderate stance on some of the bigger policy matters that cropped up in other election cycles, like Medicare for All. If he is the Democratic candidate, that probably will be seen as a good thing from a healthcare-sector perspective.
The Republicans, on the other hand, might look to scale back some of the IRA’s clauses. The complicating factor is that Donald Trump has taken a populist position on drug pricing. Initially, there was a relief rally in healthcare stocks when he was elected president. Then, people realized he would go after drug pricing even more aggressively than the Democrats had, and the sector started selling off. There is already some talk that he might look to tag what Medicare pays for drugs to the prices paid by other developed countries, many of which have nationalized healthcare systems. In short, the outlook is cloudy.
The Federal Trade Commission has taken a hard line on pharma mergers this year, although its recent settlement with
Amgen
[AMGN] that would allow the company to proceed with its purchase of
Horizon Therapeutics
[HZNP] seems like a positive sign. What are the investment takeaways here?
Holz: The FTC has heightened its scrutiny of most industries, not just pharma, but the fact that the Horizon deal seems closer to happening is positive. It also seems like
Pfizer’s
[PFE] deal to buy
Seagen
[SGEN] will close. If these two large transactions take place, that could open the floodgates to more M&A activity. Large-cap pharma companies are in need of revenue generators, either near or long term. Next year could be a productive year for deals. Ziad, you’re focused on biotech. FTC concerns have put a damper on the sector. Do you see a potential thaw for the stocks?
Bakri: The scrutiny tends to be on bigger deals involving marketable products. The irony is that acquisitions improve innovation. If we owned Horizon and it was bought by Amgen, we would reinvest our deal proceeds in other biotech companies. The FTC hasn’t seen it that way.
Haider: Some $200 billion of revenue will go off-patent for the pharma industry by the end of this decade. The biopharma industry has $700 billion-plus, by our calculation, in M&A firepower. It needs growth. Deals will get done. The challenge for investors is picking the right targets.
Another complicating factor is the unintended consequences of the Inflation Reduction Act on M&A activity. We could see a pivot toward acquisitions, given different rules across stages of drugs and patient populations.
Netschert: M&A is important to the pharma ecosystem and drug pricing. We can’t have hundreds of small biotech companies building commercial infrastructures to sell one product. How many biotech companies reach profitability? How long does it take? How many baby biotechs have become full-grown commercial companies? Not many. That requires a lot of capital. From that perspective, M&A keeps drug prices down. It is important for small biotechs with good science to be swallowed up by larger companies that can afford to increase R&D.
Switching gears, let’s look at advances in Alzheimer’s treatment. The FDA has given full approval to Leqembi, produced by
Eisai
[4523.Japan] and
Biogen
[BIIB]. Approval for Lilly’s donanemab is likely to come by the end of the year. What is next in Alzheimer’s treatment, and what should investors be watching?
Your silence is worrisome.
Netschert: Our silence is a representation of how slowly this space is evolving. It is taking patients six or seven months just to get a doctor’s appointment, never mind all the additional tests they need to get Leqembi. The market could evolve in different ways than we expect.
Holz: I would define the response from the investment community and clinicians to what Biogen and Lilly achieved as mixed. Most investors haven’t been overly enthusiastic about the efficacy profiles of the drugs. There is also concern about both safety and logistical constraints, including frequency of infusions and requirements for multiple brain scans during treatment. The reaction of some of the physician base that will be administering these therapies has been similar. Until delivery modalities become less burdensome for patients and caregivers, Wall Street is unlikely to be exuberant about the opportunity.
On the positive side, these treatments could be a jumping-off point for more drug development. That is why investors should be encouraged, although it will be fairly slow going in the next few years.
Netschert: When I think about a drug launch, I always think about the three Ps: patients, providers, and payers. You need to understand the incentives that drive each of those buckets, and they need to be aligned to achieve strong uptake of a drug. Finally, we have some drugs that can help Alzheimer’s patients. There is a lot more room to innovate here, to figure out how to develop drugs that allow these incentives to be aligned. Subcutaneous treatments might be one approach to getting more patients treated in a meaningful way. Understanding at what stage to treat patients also could help to change the trajectory of disease progression.
What are the next big treatment targets, beyond weight loss and Alzheimer’s?
Netschert: Pain is a big treatment target. I am excited about
Vertex Pharmaceuticals
’ [VRTX] pipeline of pain treatments. Innovation has been lacking in this category because of issues surrounding addictive painkillers and the opioid crisis. I applaud Vertex for pushing ahead. The company’s nonopiod painkiller VX-548 is in Phase 3 trials, with a readout expected either at the end of this year or the beginning of next year.
This is a $4 billion-plus category, despite being 90% generic by volume. It hasn’t been disrupted in a long time. Vertex is breaking new ground in a category that has been a graveyard for years. Investor expectations are tempered. Yet, if you calculate the opportunity for Vertex in both chronic and acute pain, it could be worth more than $100 a share to the stock.
Bakri: A pain market is something biotech and even pharma investors never really thought about, because patients with moderate to severe pain typically are treated with Tylenol or prescription-strength ibuprofen. There isn’t much else other than opioids. Yet, pain is one of the most prevalent conditions, and a massive [commercial] opportunity.
Holz: I try to take a simplistic approach. What are the largest markets that the greatest number of investors can easily appreciate? That’s why obesity has been a winner already, even though we’re not even close to a fully functional business model. Alzheimer’s has the potential to be one of these markets, but it is early, and logistically it isn’t in the right place. I agree that pain management could be one, too.
Depression is another promising market. Many people understand it personally, and many interesting companies are working in this space. Then, broadly, gene therapy could be big, if we can get it to patients in a way that builds markets and generates revenue, which has been difficult to do.
We’ve discussed some big themes in healthcare today. Let’s move on to your favorite stocks. Asad, you’re first.
Haider: We have a Neutral rating on Lilly, but are big fans of
Merck
[MRK]. The company’s growth is at the upper end of its peer group (with the exception of Lilly), at 7% to 9% on the top line and 10% to 12% in earnings per share, excluding one-time accounting charges. The valuation is undemanding at 12 times 2024 earnings estimates, below the group median of 13 times, and 11 times 2025 estimates, below a median multiple of 12 times for the group.
Merck has shown consistent execution. It has exceeded expectations for at least the past six quarters, based on the growth of some of its leading franchises in oncology and the Gardasil vaccine. It has been making the right decisions in terms of pipeline augmentation, and the right moves from a capital-allocation perspective in diversifying its portfolio away from oncology. We are big fans of the company’s recent deals, including its 2021 purchase of Acceleron Pharma, which brought it Sotatercept, a novel and first-in-class cardiovascular treatment. We also like the Prometheus Biosciences acquisition, completed in June.
Merck has designed its clinical-development strategy around Keytruda, its lead drug, for resilience and durability. It is working on a subcutaneous form of Keytruda, which is not likely to be selected for drug-pricing negotiation. The company has some interesting drugs in its oncology pipeline, including a personalized cancer vaccine with Keytruda that it is working on with
Moderna
[MRNA]. Those are the highlights. Our 12-month price target for Merck shares is $131, versus a recent price of $108.
What else do you like?
Haider: Pivoting away from therapeutics,
HCA Healthcare
[HCA] is a hospital operator. It is trading for about nine times EV [enterprise value] to Ebitda [earnings before interest, taxes, depreciation, and amortization], slightly above its 10-year average. We think the stock is well positioned long term. As we know, healthcare was disrupted during the pandemic. A significant volume of elective procedures was deferred. We expect pent-up demand for procedures to work its way through the system slowly, due to capacity, labor, and product constraints. But, ultimately, this is going to be a multiyear tailwind for HCA.
Also, reimbursement in healthcare occurs with a lag, so last year’s inflationary pressure was absorbed largely by hospitals. But in the next couple of years, we expect reimbursement to grow faster than costs, driving a better trajectory for HCA’s profit margins. The combination of volume and reimbursement growth, plus moderating costs, will drive mid- to high-single digit growth in Ebitda in 2024 and ’25, which will drive the stock higher in the next one to two years. We have a 12-month price target of $329; the stock recently traded for $263.
My third pick is
Humana
[HUM], a managed-care provider. This company also has executed well. It is trading for 15 times the next 12 months’ expected earnings, below its five-year average of about 19 times, and it is leveraged to one of managed care’s most attractive markets, Medicare Advantage, which is growing in the high-single digits annually.
Humana has an underappreciated vertical-integration and primary-care strategy that will increase margins and profits in the intermediate term. The company is also positioned to gain share against competitors. Management expects earnings per share to grow by 11% to 15% in 2024, and at a 14% compound annual growth rate through 2025, driven by Medicare Advantage growth and stabilizing healthcare utilization. Humana owns a chain of primary-care clinics under the CenterWell brand, and we see a lot of upside from that business, as well. Our 12-month price target for the stock is $602, versus a recent $470.
Ziad, what are your picks?
Bakri: I have two large-caps recommendations,
Regeneron Pharmaceuticals
[REGN] and Vertex, and two small-caps,
Immunocore Holding
[IMCR] and
Prothena
[PRTA]. Regeneron and Vertex are similar from a thematic point of view, and I suspect Debra will recommend one of these, too. Both companies have a market capitalization of about $90 billion, and $10 billion-ish in annual revenue. And both have great scientists working on breakthroughs and turning them into drugs. Looking back through history, there haven’t been many companies like this—companies with high-quality science that are capable of serial R&D and producing transformational drugs in multiple therapeutic areas, without relying on acquisitions. Genentech was one. These are the Genentechs of today.
Regeneron and Vertex are both at the stage of building on their flagship products. And both have reasonable valuations on a price/earnings basis. Regeneron trades for 19 times 2023 consensus earnings estimates, and Vertex for 24 times.
There are three points to my Regeneron thesis. The company’s flagship product, Eylea, for wet macular degeneration, is an amazing business that generates a lot of cash flow. Now, the company has out-innovated itself, so to speak, and developed a next-generation version that delivers a higher dose in the same volume, allowing the patient to receive benefit for longer, meaning the patient can receive less frequent injections in the eye. Eylea will produce cash flow for a long time.
The second part of my thesis is dupilumab, a breakthrough treatment for atopic diseases, or those caused by sensitivity to allergens. This could be a $20 billion to $25 billion product.
The third part is other bets. The company has an emerging cancer pipeline, and is working on treatments for obesity, central nervous system disorders, and Alzheimer’s. Regeneron has a reasonable valuation, as noted, and $15 billion of net cash.
What do you like about Vertex?
Bakri: I won’t rehash what Debra has said, but will highlight that the company’s cystic fibrosis franchise, spearheaded by Trikafta, is generating approximately $10 billion in annual revenue. It is an amazing breakthrough that has normalized the lives of many people who otherwise would have died in their 30s—and there are more acts to follow.
It has been hard to find drug stocks that you could lock in a box and own for a long time. You can do that with Regeneron and Vertex, even though they go up and down a bit.
Moving on to my small-cap ideas, both Immunocore and Prothena have about $3 billion market caps. Immunocore specializes in T-cell receptors, which target cancer in a nontraditional way. Its first drug, Kimmtrak, is used to treat uveal melanoma, a rare eye cancer. It is generating close to $250 million per year in annual sales. The company’s market cap reflects the potential of that drug alone, although Immunocore is also going after other targets. The most important is Prame, a melanoma-associated antigen. There will be multiple clinical trial readouts in several different cancer types next year, and the odds of success are decent.
What does Prothena do?
Bakri: Prothena is creating an antibody targeting Alzheimer’s. Its scientists know amyloid beta, the therapeutic target, better than almost anyone in the world. If the company has what it thinks it has—a treatment to reduce amyloid in the brain that is the same as or better than existing products—it could become the belle of the biotech ball. Other Prothena products are in Phase 3 testing, but the pitch here is all about Alzheimer’s.
To recap, I’ve given you four picks in ascending order of speculativeness. Regeneron and Vertex you can lock in a box. With Immunocore, you won’t lose much money, and you could make a lot. Prothena could go up a lot; it could go down a lot, too. But I feel good about the risk.
Debra, what are your best bets?
Netschert: Ziad knows me well. Vertex is indeed one of my picks. The way I think about it, the company’s base business in cystic fibrosis treatments is one of the only true monopolies in healthcare. The CF population treated with Vertex drugs continues to grow as the company expands patients’ life spans. This business underpins most of the company’s current valuation.
Thanks to decades of work in CF, Vertex has become one of the best small-molecule drug designers in biotech. It has generated a pipeline of products that could dramatically change the value of the company from now to the end of 2024. In CF, its next-generation triplet [three-drug treatment] study will read out in early 2024. If the results are good, this would extend the life cycle of the cystic fibrosis franchise, decrease the royalty burden by several percentage points, and allow Vertex to treat the roughly 6,000 patients who tried and discontinued earlier treatments. In short, the CF business could have another growth leg.
Vertex is also working with Moderna on a therapy to target an additional 5,000 CF patients. The first data will come out at the beginning of next year. If successful, this therapy has the potential to be worth $30 a share.
We’ve already discussed the pain-management product, which could unlock a multibillion-dollar market. Vertex will also get incremental data by the end of this year on a treatment for a rare kidney disease, AMKD. Next year, it will get data on a treatment for AATD, another rare disease that affects the lungs and liver. Together, these products could be worth around $60 a share. Considering the base business, which generates strong cash flow, and the exciting pipeline products, there is a clear path to valuing the company at more than $500 a share in less than a year, up from a recent $352.
How about another name?
Netschert:
Apellis Pharmaceuticals
[APLS] is a controversial biotech company. Earlier this year, it launched a drug that helps to slow the progressive loss of vision in patients with geographic atrophy, or GA. Out of the gate, demand for the drug was high and the launch beat expectations. Then, in July, it was reported that six patients receiving the drug had a bad side effect, and the stock fell from the mid-$80s to the low-$20s. Investors assumed it was game over for Apellis.
We have owned the stock since the company’s initial public offering in 2017, and we know the drug and the clinical data really well. Importantly, Apellis didn’t see any of these adverse events in the clinical trials, and the real-world occurrence was one in 10,000, which is very low. My team at Jennison worked this summer to try to figure out what was causing these adverse events. After a lot of due diligence, we grew comfortable that the likelihood that these adverse events were drug-related was very low, and that the launch would eventually get back on track. We bought more stock in the $20s.
While we don’t believe the launch will be as robust in the next couple of months, we feel confident that it will get back on track, and that the stock will be back in the $80 to $100 range in the next 12 months or so. The Street has looked at this drug in the wrong way, comparing it to Eylea, which Ziad discussed, which improves vision and treats a different disease. The goal of Apellis’ drug, Syfovre, for the treatment of geographic atrophy, is to stop or slow vision loss. Improving vision with Syfovre isn’t off the table, but in a disease like GA, that will take a few years to prove. Syfovre could be a multibillion-dollar drug long term, and this is a good entry point.
That’s a dramatic story.
Holz: Every day in biotech is dramatic.
Netschert: Biotech investing isn’t for the faint of heart. You have to look for dislocations in the market and rely on deep fundamental research.
Next,
AstraZeneca
[AZN] has one of the best growth profiles in global pharma after Lilly and Novo Nordisk, but it trades at less than half their price/earnings multiple. The company has several key pipeline assets that will read out in the next 18 to 24 months. AstraZeneca suffers from a complexity discount, given the diversity of its business and pipeline. Yet it has industry-leading success rates on the industry’s biggest pipeline, which will drive durable growth for the next decade.
AstraZeneca has numerous derisked growth drivers. This will become clearer as key pipeline assets read out in the next 18 to 24 months. This is the only company in global oncology with a road map to dominate the treatment of two of the largest cancers, breast and lung, and is working to build a similar pipeline of drugs targeting gastric and colorectal cancer. The company should be able to sustain high-single digit revenue growth to the end of the decade, while analysts’ consensus earnings estimates are based on revenue growth in the low- to mid-single digit range for the same time period.
Circling back to Lilly, is this a good time to buy the stock?
Netschert: We think Lilly has more upside. Our earnings-per-share estimates are higher than the Street’s, and our 12-month price target is in the high $600s. Lilly is going to generate a huge amount of cash, so the company we’re talking about today will be dramatically different in 2030. Obesity treatments will be a big part of the story. It is important to emphasize the institutional knowledge that Lilly has in this space. Yes, there will be competition, but it will be hard for competitors to develop, launch, and scale a drug the way Lilly or Novo can. Maybe Lilly’s stock won’t deliver the dramatic returns we saw this year, but this will be a great stock to own in the next five years.
[Subsequent to the Roundtable, Lilly announced a $1.4 billion deal forPoint Biopharma Global
(PNT), which is developing cancer drugs. Barron’s checked in with Netschert, who said via email: This is a very good deal for Lilly and demonstrates its continued commitment to building out its pipeline for long-term revenue and earnings-per-share growth. This $1.4 billion deal makes Lilly the second large-cap pharma to invest in the radiopharmaceutical space, after Novartis (NVS), whose two drugs are doing a combined $1.6 billion or so in annual sales. The most exciting thing about the Point acquisition is its pipeline, which includes products using a different type of payload (actinium versus lutetium). Actinium could have three main advantages: 1) safer to administer, 2) potentially more lethal to cancer cells, and 3) it won’t have the liability of requiring social distancing post-administration and special radioactive waste disposal….This deal (offers) a reasonable dollar value for a potential long-term winner in the fast-growing radiopharmaceutical space.]
Jared, what intrigues you in the healthcare market?
Holz:
Boston Scientific
[BSX], my first recommendation, has an easy thesis. It is one of the fastest-growing medtech companies, selling a broad range of medical devices. It has a reasonable P/E multiple of approximately 22.5 times Wall Street’s fiscal-2024 earnings estimates, and could grow revenue at a low-teens rate over the next few years, which is more than a lot of mid- to large-cap stocks in the group that trade at a sizable premium and have less-diversified business models and new-product introductions than Boston. We think we could see 25% to 30% upside for the stock, and investors in Boston don’t have to worry about the negative fallout from the growth of weight-loss drugs as much as other companies in the medical-device complex do.
McKesson
[MCK] is a large-cap, low-volatility drug distributor that will benefit from three main things in the next few years. One is higher healthcare utilization, which we are seeing now. If utilization is at a slightly higher level from this year to 2025, that should help McKesson. Second, a wave of drug-patent expirations is coming from now through the end of the decade. As more generic drugs come to market, McKesson is well-positioned to benefit.
Third, this could be an interesting back-pocket way to play the obesity trade. McKesson is the biggest distributor not only to Walmart but many other grocery chains with big pharmaceutical departments. Medium to long term, that should be the biggest market for Mounjaro, Wegovy, and other drugs of this class, as obesity treatments move from a kind of coastal vanity play to a medical therapy. McKesson has a reasonable valuation. It trades for 15 times consensus earnings estimates, still a discount to the S&P 500 index, and offers an interesting way to play one of the biggest, most intriguing cycles in healthcare, namely obesity treatments.
Any other recommendations?
The upside/downside trade-off for
Sarepta Therapeutics
[SRPT] is attractive going into the end of the year. We are coming up on results of what could be a confirmatory study of its gene-therapy drug for Duchenne muscular dystrophy. This could be a seminal moment for what has been a controversial stock, and provide a boost, albeit moderate, for the biotech space as a whole, especially as the index is trending toward multiyear lows.
There appears to be two ways to win with Sarepta. One way is that the Phase 3 study shows an improvement for patients, even if very modest, but enough to illustrate a trend. This represents the base case or perhaps the most likely outcome, given the patient population, but would also ensure that the gene therapy, which has already been conditionally approved by the Food and Drug Administration (pending this trial), remains on the market. Best case, the trial demonstrates a statistically significant difference in the drug’s favor versus the placebo, and Sarepta might address a larger market, including many patients who would otherwise not have access to the therapy. I believe that a positive trial would move the stock, now around $120, to or above $200 a share. If the drug fails to show even a modest benefit and investors remove gene therapy from models, a worst-case outcome could result in a stock price of around $60, depending on other assumptions. In the biotech sector, we are used to volatility.
For sure. Thanks, Jared, and everyone.
Corrections & Amplifications
The comments regarding pharma stocks’ discount due to policy uncertainty were made by Asad Haider. An earlier version of this article incorrectly attributed them to Ziad Bakri.
Write to Lauren R. Rublin at [email protected]
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