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Funds: A knack for discovery
Samuel Isaly of Eaton Vance Worldwide Health Sciences has a nose for biotech winners.
November 6, 2003: 5:29 PM EST
By Erica Garcia, Money Magazine

NEW YORK (Money Magazine) - In an industry characterized by change, Samuel Isaly has been a rare constant.

Since becoming a drug analyst at age 23, after graduating from the London School of Economics, the manager of the $2 billion Eaton Vance Worldwide Health Sciences (ETHSX) fund has racked up 35 years of experience investing in the volatile sector.

During his 14 years at the helm of one of the oldest health-care funds around, he has posted an annualized return of more than 19 percent, more than 2 points better than the average health care fund and well ahead of the 11.8 percent return for the S&P 500.

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Isaly has a talent for identifying promising companies in the high-risk biotech sector. About 75 percent of his fund is in newly profitable or not-yet-profitable "discovery" companies and specialty pharmaceuticals, such as midcap pharmas and generics; the rest is in Big Pharma.

Isaly shared his views on profiting from the rapidly changing health-care landscape with MONEY's Erica Garcia.

Q. What are you enthusiastic about in the health-care sector right now?

A. There have been exciting advances in anticancer therapies -- Genentech's novel approach of shutting down the blood supply to tumors, for example. It differentiates between healthy cells and cancerous ones, unlike other treatments like chemotherapy.

Other areas -- what I call "new technologies," such as genomics, which is the study of genes and how they work; combinatorial chemistry, which involves creating molecules en masse; and bioinformatics, large-scale processing of biological data -- are beginning to result in new products in human trials.

Then there are somewhat grander thoughts in the area of personalized medicine -- individual treatments based on your DNA.

Q. What are the odds that such companies will become profitable?

A. The number of biotechs moving to profitability is getting bigger each year. The class of 2003 isn't big -- maybe eight companies have a shot at profitability.

But in 2004 we believe 14 will make money, and in 2005, about 34.

Promising names

Q. What are some of your favorite biotech picks right now?

A. Affymetrix (AFFX: Research, Estimates) is the leader in gene chips, which people are adopting at an accelerating rate. It recently rolled out a single chip with the entire [human] genome, an indication of big advances in nanotechnology. It recently became profitable.

We also like Human Genome Sciences (HGSI: Research, Estimates), which has half a dozen or so candidates for new drugs in the middle to advanced stages of testing.

There's also a smaller company, Ligand Pharmaceuticals (LGND: Research, Estimates), that we like, which has rolled out an interesting drug for severe pain, Avinza.

Q. With the Nasdaq biotech index up 50 percent, do you see a bubble?

A. The price increases this year are soundly based, on both profits and short-term technological advances. It's clear the average reported per-share earnings increase will be 25 percent or greater this year for the dozen or so high-profile, profitable biotech companies.

Q. Are you concerned about the economic downturn's impact on health-care spending?

A. If a company rolls out a "better" product that costs, say, 50 percent more, it can't get away with premium pricing in an era of poor economic development, such as now.

For example, Merck recently fell short on earnings when Vioxx, its painkiller, didn't do as well as expected. It was the replacement product for Naproxen and, in my opinion, Merck priced it too high.

We're also concerned with budgets for health insurance, particularly in private plans. Revenue into an insurance program depends on people's incomes. If the aggregate of all income is down, then the pool for the budget is lower.

Q. In the face of this, can Big Pharma reestablish itself as the double-digit profit growth machine it once was?

A. Not with the trend in the industry to do less research-and-development work in-house and to make more alliances with drug discovery companies.

Case in point: Merck is working on a vaccine for human papillomavirus. If this pans out, cervical cancer could almost disappear. It's a major advance for public health, but the technology was developed in part by an Australian company, CSL.

Q. So Merck has to share profits?

A. More and more, these smaller guys are getting a bigger share of profits -- that's in part why our portfolio is tilted toward discovery companies.

While Big Pharma used to have a 40 percent operating margin when they developed drugs in-house, now you're looking at lower margins, perhaps 20 to 35 percent.

Q. What pharma stocks do you own?

A. We currently hold seven of the 20 or so largest companies, including Lilly (LLY: Research, Estimates), Wyeth (WYE: Research, Estimates) and Schering-Plough (SGP: Research, Estimates). They have sensible valuations, and their product pipelines are growing rather than diminishing.

Q. Schering-Plough is a recent pick. What's the appeal?

A. It got so cheap. It has a joint venture with Merck, which includes the cholesterol-lowering drug Zetia, that we value at $15 billion.

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Even after Claritin's sales get wiped out, Schering has a continuing sales base of $7 billion or $8 billion (excluding Zetia) that's growing modestly.

We calculate a price-to-sales ratio of about 2. In the drug business it never gets lower than that. Schering isn't very profitable now -- it's overstaffed -- but CEO Fred Hassan will fix that.

Q. Many investors think parking money in Big Pharma is "safe." Do you agree?

A. I think investors will continue to see it as a safe sector. It's supported by the data. Drugs are a consumer staple. I don't think that's going to change.  Top of page




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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.