Canada’s biotech sector has seen its ups and downs over recent years but there are still plenty of good companies to be bullish about, if you know where to find them.
Cantech Letter spoke to veteran biotech portfolio manager Eden Rahim from Next Edge Capital and got the lowdown on three stocks to watch this year.
After a great run in the early part of the 2010s, biotech stocks ran square into a bear market starting in 2015. That’s about the time when things began to go sour for Canadian pharma superstar Valeant Pharmaceuticals —which was no coincidence, says Rahim.
“There are two types of companies in the space: there’s the R&D-based companies and there’s the specialty pharma market from companies like Valeant who specialize in buying existing and successful drugs from other companies and selling that at a high margin,” says Rahim. “That model worked for Valeant and others when they could borrow cheaply in the marketplace, but when the music stopped and the cost of capital went up (along with some apparently murky accounting in Valeant’s case), there was no more growth. Now, Valeant has $26 billion in debt and it’s the same with others; they end up being like the walking dead because of that model.”
Instead, Rahim preaches the benefits of investing in solid R&D companies that are “spending real money on real products” and he tries to focus on the ones within that space that have products in the later stages of development.
“The odds are always against you [in biotech],” he says. “I like companies that are either in phase 3 of drug development or have already begun to commercialize their product. They’re substantially de-risked, and you’re there to benefit once the market realizes that they have a growing product.”
On that note, Rahim likes Toronto-based SQI Diagnostics Inc. (TSXV: SQI), a protein and antibody testing company who Rahim says spent most of 2017 being assessed by other larger biotech and biopharma companies and are now seeing more clients and revenue coming their way. Just yesterday, for instance, SQI announced an agreement with a globally operating, US-based company that develops drug treatments for patients with serious rare diseases.
Rahim says SQI will likely see a substantial revenue ramp in 2018 as their volumes go up. “They’re small but you can see that their technology is being validated, and so the risk/reward is pretty good,” he says.
Cipher Pharmaceuticals Inc. (TSE:CPH) had a great run in 2014-15, with its stock reaching the high teens before some questionable business moves kicked it down to the four dollar range, where it currently languishes. But a new CEO, a profitable core business in the dermatology field and the prospect of licensing new revenue have made Cipher ready for a rebound, says Rahim.
“Once the market regains confidence that the company’s turnaround is sustainable, I think you’ll see Cipher’s EBITDA multiple rise to about seven or eight times as opposed to the five where it’s at now,” he says, “which would put the stock up to around the seven, eight dollar range.”
Another company set to emerge from the biotech wilderness is Microbix Biosystems Inc. (TSX:MBX) Also a diagnostics and testing company, Microbix has three solid revenue streams, says Rahim, who notes that the company has recently expanded its antigen-creating capabilities from one to now six bioreactors. “It’s a meticulous protocol to create these antigens, but now they’re able to produce more of a higher quality at a lower cost at a higher margin, which we think will significantly add to their margin expansion in 2018-19,” says Rahim. “There’s also some optionality here in that they own a drug that will likely see some licensing deal in the future,” he says, “but the market’s giving that zero value right now.”
A notoriously difficult sector to invest in, Rahim says that it takes a lot of work to get to know the biotech field and to understand which companies have got valuable products in the works. “If you’re covering banks or mining companies or something like that, it’s pretty generic. You know one bank, you know ten banks. But when it comes to biotechnology, every company has something very unique,” Rahim says.
“So many things can go wrong. Tests fail or they don’t have the specificity or a patient dies in the trial. There are so many more variables to be cognizant of than you would with other companies that are more homogenous,” he says. “But the reward is there if you’re willing to put in the work.”
SQI Diagnostics, Cipher Pharmaceuticals and Microbix Biosystems will all be exhibiting at the 2018 Cantech Investment Conference, coming on January 31st at the Metro Convention Centre in Toronto.
Disclosure: Next Edge Capital owns shares of all three companies mentioned in this article.