TWN Briefings for WSSD No.17
Investing in Biotech is Risky as Sector Becomes Economically Unviable
By Chee Yoke Heong
Biotechnology is being promoted as one of two key technologies of the future. The other is information technology. But just as the IT hype has now been derided as a Bubble that burst (how the Dot.Coms became Dot.Bombs), the economic viability of Biotechnology is now being seriously questioned.
In fact the biotech corporations are now feeling the financial heat as few biotech products have been successfully made or marketed and many biotech firms are making losses.
Investors’ confidence in biotech stocks have also sunk. Biotech companies raised US$20 billion in stock offerings worldwide in 2000 but only a fourth of that in 2001 and only $843 million so far in 2002. One in seventh public biotech firms has a year’s worth of cash or less, and 39 of 249 public biotech firms surveyed were trading in the US at $1 or less at end-July 2002 (Seattle Times, 19 August 2002).
These facts are important for developing countries to know as many of them are planning to invest a lot of money in biotech.
For these countries the question uppermost in the mind must be: what does it take to create a thriving and financially successful biotechnology centre?
The answer is far from comforting, according to a new study carried out by Brookings Institution, a policy research institute based in Washington DC.
The study looks at the growth and decline of biotech centres in the 51 major metropolitan areas in the US. It finds that the industry is highly volatile (half of the biotech companies formed in the 1970s have folded or merged with other companies). The process of setting up a successful company is protracted, requiring substantial funding. The uncertainties in product development and economics are so great that most small biotech companies have failed over the last two decades.
‘The apparent scale of research funding required for becoming a biotechnology center may be beyond the reach of most metropolitan areas,’ the study concludes, adding that most biotech firms operate at a loss, spending large amounts on research and development for several years in advance of earning any sales revenue. The typical biotech firm spent about $8.4 million on research and development and earned revenues of just $2.5 million in 1998.
Biotechnology activities are highly concentrated within those metropolitan areas that combine a strong research capacity with the ability to convert research into substantial commercial activity. These are places with a high concentration of capital flow, a critical ingredient in the development process, as well as leading universities and research institutes as sources of intellectual and human capital.
Only nine of the 51 metropolitan areas surveyed contained the necessary ingredients, with Boston and San Francisco emerging as the two established and dominant centres of the US biotech industry, which also has the largest density of biotech research firms in the world.
Government financing, a criteria that would be taxing especially to developing country governments, is also required to boost growth.
The study notes that the biotech centres in the US receive heavy support and subsidies from the government; for example, the National Institutes of Health provide substantial research funding, totaling US$229 million in 2000 to the biotech centres with three-fifths going to the nine key areas. The study concludes that it would be a mistake to believe biotech centres would take off like those of the computer technology centres. Unlike the boom created by the personal computer and internet, biotechnologies are often quite expensive and most biotech products are applicable to only a narrow fraction of the population.
Another shortcoming of the biotech centres is that even the successful ones do not contribute significantly to the economies in terms of job creation. Most biotechnology firms are quite small: nationally only 44 have more than 1,000 employees. Biotech firms typically contract with global pharmaceutical firms to produce, market, and distribute successful products rather than attempting to create their own capacity to do so. In the two largest concentrations of biotech activity, Boston and San Francisco, none of the largest biotech firms is among either region’s 25 largest private employers.
Aside from the risks associated with biotech center, the attractiveness of investment in biotech companies is presently in now at stake. According to BioCentury, an industry newsletter, shares in the top biotech firms have dropped 43 percent since January, as the scandal around ImClone hits sentiment on biotech counters and reverberates through the broader market, reports SF Gates.
These falling stock prices have brought the price-earnings (PE) ratios of biotech firms down to 32. Most other industries have traditionally enjoyed PE ratios of 15 to 20, leaving it an open question whether biotech firms will hold their value at this level or continue to plummet.
The sorry state of biotech stocks is also said to have a dampening effect on the many smaller firms in the industry. BioCentury listed 61 public firms in the US (out of 494 companies worldwide) that had a year or less worth of cash on their balance sheets at the end of the first quarter. (Two or more years’ worth of cash is vital to young biotech firms.)
Concerns over the future of biotech firms trigger a sense of deva ju for as far back as in 1999 Deutsche Bank has expressed cautioned over investing in biotech-related companies especially those involved in agricultural biotechnology, to the point of advising investors to sell their holdings in one seed company as well as the sector in general.
In its report entitled ‘GMOs (genetically modified organisms) are dead’ the Bank’s analysts noted that the very quick turnaround in investor confidence in the biotech industry, remarking while that ‘30 days ago, the investment community accorded only positive attributes...today, the term GMO has become a liability’.
It predicted that GMOs, ‘once perceived as the driver of the bull case for this sector, will now be perceived as a pariah.’
As the Imclone saga and the dented confidence in corporate America coupled with the strong anti-biotech consumer especially in Europe reverberates in the industry, biotech companies and the centers that are to emerge are likely to face increasing risks as investment prospects.
Cortright, J. and H. Mayer. 2002. Signs of Life: The Growth of Biotechnology Centers in the U.S. Washington D.C. The Brookings Institution. http://www.brook.edu/dybdocroot/es/urban/publications/biotech.pdf
Abate, T. ‘Question Mark Over Biotech’. SF Gate, July 8, 2002 in Norfolk Genetic Information Network. http://www.biospace.com/newsstory.cfm?StoryID=9291220
Ramey, T., M. Wimmer and R. Rocker. 1999. GMOs Are Dead. Deutsche Banc Alex. Brown.