Smaller firms giving headaches to big pharmaceuticals

One company's pain is another's gain.

Big pharmaceutical companies are feeling pain in 2005. Major drugs are going off patent, generic drug companies are nipping at their heels, product cycles are much shorter and new drug pipelines aren't what they once were.

That's a gain for biotech firms, specialty drug companies and generic manufacturers, as well as investors owning their stock. These smaller firms can produce profitable products in their own right.

More importantly, however, big pharma may try to acquire them, as in Pfizer Inc.'s $1.9 billion purchase of Vicuron Pharmaceuticals Inc. and the $4.5 billion bid by Novartis AG for Chiron Corp. Or lucrative partnership deals may be offered for their products.

U.S. drug firms now have more cash on hand for such expensive moves because the American Jobs Creation Act significantly reduced the tax rate imposed on their substantial foreign earnings.

"A 'perfect storm' coming between now and the end of 2006 will work to the advantage of investors in development-stage biotech companies," said David Miller, president of Biotech Stock Research LLC in Seattle. "A conservative estimate is $17 billion in pharmaceutical revenues will be going off patent the next few years."

The book and film "The Perfect Storm" chronicled a dramatic confluence of weather conditions leading to a powerful 1991 storm that battered the Eastern Atlantic and sank the Andrea Gail fishing boat. Even if circumstances do come together to the advantage of biotech, however, its failure rate will remain high.

"Don't make the mistake of playing a favorite, because only one in 10 of these companies succeeds and even Phase III clinical trials (the final stage with tests conducted on large groups of people) often fail," warned Miller. "You must buy a basket of these stocks as the only defense against their failure rate."

Miller is interested in Dendreon Corp. (DNDN), whose drug for treating prostate cancer had a successful Phase III trial, since it will likely sign a partnership deal. Also worth tracking is NABI Biopharmaceuticals (NABI), which recently announced positive trial results in the hot area of anti-infectives.

There's a method to a personal biotech portfolio.

"Diversify risk by buying different size companies or those at different stages of development," advised John McCamant, editor of the Medical Technology Stock Letter (www.bioinvest.com) of Berkeley, Calif. "Selectively choose from larger biotech names and those with later-stage development drugs which might become high fliers or losers."