(FORTUNE Magazine) – WALL STREET is sending a persistent message to its onetime favorites, the health biotech companies: You don't have the kind of future you thought you had. Some of you figured you would turn into the next $1 billion giants, but now the going will be lots tougher and you will have to get a lot smarter. Prudential-Bache reports that biotech stocks have underperformed the market by about 30% in the past three months. Genentech, the favorite of favorites, fresh from first-year sales of $180 million in its anti-heart attack drug, t- PA, has seen its stock sag from a lofty $51.75 before t-PA to around $17. The sudden lack of investor interest puzzles many biotech leaders. While conceding that t-PA sales have slowed -- indeed, the company has suspended production -- Genentech CEO Robert A. Swanson still insists: ''Biotechnology is one of the most exciting technologies in the world today. It is young and it is growing rapidly.'' One who isn't puzzled, however, is George B. Rathmann, chairman of Amgen Inc. He sees beyond the two hot drugs Amgen has in the making to a daunting challenge ahead -- finding a lasting niche in the business. The game is changing rapidly just as the major pharmaceutical houses, passive in the field until recently, are charging in and threatening their smaller competitors. Rathmann and other close observers of the industry think biotech companies must translate their exotic discoveries into medicines that can be mass marketed as pills rather than, as has heretofore been the case, administered only as injections. In doing so they must wed their technology with the old- line pharmaceutical industry's art of making synthetic chemicals. And they must do it without losing all their markets to those companies. The industry is a long way from meeting that challenge. Biotech companies have cloned some of the most obviously useful molecules -- insulin, growth hormone, t-PA, and Amgen's potential blockbuster drug for treating chronic anemia, erythropoietin (EPO), which awaits imminent FDA approval. Coming up with the next round of exclusive molecules will be tougher. Human biochemistry is proving more complex than some scientists thought, frustrating efforts to develop useful products. Patent battles threaten some biotech companies. Most important, the infant industry lacks the research breadth, financing, and experience of the major pharmaceutical producers needed to merge synthetic chemistry with genetic engineering. Genetic engineering sprang from scientists' discovery of the structure of DNA (deoxyribonucleic acid), the molecule that controls heredity. By inserting a gene responsible for producing a specific protein, such as insulin, in bacteria or animal cells, the companies have mass-produced these substances and sold them as medications. On an even more basic level, by studying the interaction of molecules in the body, biotechnology has shed new light on disease and how the body fights it. SYNTHETIC chemistry, on the other hand, uses a Tinkertoy approach to constructing molecules. Scientists try out the new substances in lab dishes or on animals to test their activity against diseases. Putting the two sciences together involves improving the production of synthetic material by using the insights that biotech provides about the properties of certain molecules. The size of the molecules is important. Molecules produced through genetic engineering are large, just as naturally occurring ones are large, and can't be administered to patients orally because they won't get through the stomach walls and other filtering organs. They must be injected directly into the bloodstream by doctors or nurses, vastly reducing the size of the potential market. Synthetic molecules, which are less complex, can be made much smaller. Big pharmaceutical producers already have plunged more deeply into linking biotech with the pill business than is generally recognized. Rathmann calls this the ''biggest black cloud'' on the small companies' horizon. For years the giants have been tapping into the skills of biotech outfits by concluding research and marketing agreements that usually favored the large corporations but allowed the small fry to survive. The big companies have been convinced that if they waited for biotech to mature, they would be able to avoid some research expense and still step in to reap the rewards. ''There's a phenomenal amount of R&D in the biotech field occurring at the big companies that you don't hear about on the outside,'' says Robert Kupor, who analyzes the industry for the Seattle investment firm Cable House & Ragen. ''Biotech companies can't hope to match that.'' One of the pioneers among the major drug producers is Eli Lilly. It has built a biotech staff of 500 in Indianapolis. In addition, it has expanded Hybritech, a company it acquired in 1986, into a 1,400-employee enterprise, putting it in a league with Genentech, which employs 1,800. Says Lilly research vice president Irving S. Johnson: ''We're about to enter a golden age of drug development. We come with a broader understanding of biology and medicine than the young biotech companies. We're more apt to be thinking in strategic terms.'' He believes that the survivors among the biotech companies will be those that go beyond just cloning to produce drugs and use that technology to develop medicines with broader uses. The biotech companies, in some respects to their credit, are more research oriented than market driven. Genentech, for instance, for many years pursued, without much success, an elusive substance called tumor necrosis factor (TNF) as a possible anticancer agent. But TNF appears to have deleterious effects in the body in some situations: It is, for instance, one of the substances released in rheumatoid arthritis that destroys tissue in the joints. The big companies are directing their TNF research toward blocking production of the substance during the disease. Success might lead to an antiarthritis pill with huge market potential. Only a few biotech companies have so far recognized the importance of the fusion of genetic engineering and synthetic chemistry and taken steps to < capitalize on it. In a joint venture with Kodak, Immunex of Seattle plans to use the findings of molecular biology to design synthetic molecules that either mimic a desirable activity in the body or block a damaging one. For example, Immunex is seeking ways to employ genetic engineering to mass-produce part of a synthesized molecule that prevents damage caused by arthritis. Chiron of Emeryville, California, has just started a five-year collaborative drug-design program with Warner-Lambert. The two companies will share their respective skills to develop a new generation of anticancer and central nervous system drugs. This marks Warner-Lambert's entry into biotech. Chiron President Edward E. Penhoet says: ''This combination of skills for a focused drug-discovery program represents a model for future partnerships between leading pharmaceutical companies and leading biotechnology companies. It signals a new stage in pharmaceutical development, even more promising than basic recombinant biotechnology.'' BIG MARKETS aside, the health biotech companies remain on the cutting edge of molecular biology as it applies to the human body. And industry leaders are still optimistic that their research into the basic causes of disease will produce products and profits. Genentech may yet realize as much as $250 million a year in sales of t-PA, despite competition from other products. That's not bad except in comparison with the $1 billion some security analysts were once predicting, with no discouragement from the company. The table on page 160, however, shows how far even the leaders have to go to gain real presence in the market. Of the top ten in revenues, only Genentech is selling products in volume. The rest still derive most of their revenue from R&D contracts with big companies and interest on money raised by going public and still in the bank. The chart on this page defines some of the most promising products and their uses in treating patients. As vital as they may be in curing or preventing disease, many of these products could prove to have more humanitarian than financial value -- at least in relation to the grandiose expectations some investors have had for them. PRODUCT announcements have slowed considerably in the past two years. The main problem is that science is taking longer than most people expected to work through the maddening complexities of the processes and molecular interaction within the human body. At first scientists thought, for instance, that there was just one interferon molecule that the body produces to battle infection. Now they have counted 19, with striking variations among them. To compound the mystery, each molecule can have a number of activities within the body, some good and some bad. David Botstein, Genentech's vice president for science, frets about such molecules: ''We can make them, but their use isn't obvious.'' At present, in addition to t-PA, Genentech is selling more than $100 million a year of human growth hormone and collects royalties from licensing the production and marketing of insulin and a type of interferon. Products under development include Relaxin, which eases childbirth; one of the many types of interferon; and a number of still secret possibilities. None of these appears to hold the volume potential of t-PA, and none is expected on the market for three or four years. Rathmann of Amgen believes his company may be the only one to introduce two big drugs in the next two or three years. One is the chronic anemia drug EPO, which stimulates red blood cell production and could produce sales of up to $100 million in its first year. The other, which is in an earlier development stage, stimulates production of white cells and has shown promise in allowing cancer patients to withstand higher than normal doses of conventional chemotherapy. Amgen's stock reflects these prospects. After falling from $36 to $16 in the market break last year, the price has rebounded to hold in the $30-to-$32 range. In terms of pure discovery, the small biotech companies continue to be formidable. Their size makes it easier to move faster. Cetus, the 17-year-old industry graybeard, still has no significant products on the market, though it hopes to have an anticancer agent by 1990. But Cetus scientists have come up with a more precise technique for locating foreign molecules such as the AIDS virus and traces of cancer. The technology will be sold in joint ventures with Kodak and Perkin-Elmer. Another area in which small companies have pioneered is monoclonal antibodies. These proteins are produced by the body to fight infection. What sets them apart is their specificity in seeking out targets. Improving on nature, companies such as Centocor and Xoma are rushing to market monoclonal antibodies designed to combat septic shock, a sometimes fatal infection acquired in hospitals. The antibodies inactivate toxic molecules released by the infectious bacteria. ! Even when biotech companies develop a marketable product, however, another hurdle often faces them: patent litigation. Amgen and Genetics Institute, another public company, are suing each other over EPO. Amgen has the patent on producing the molecule; Genetics Institute has the patent for first isolating it. Several companies are contesting the rights to Interleukin-2, a cancer fighter. Such uncertainty is sure to drive some companies into the arms of bigger, older competitors. Hubert J.P. Schoemaker, the ebullient chairman of Centocor, would like to turn the expected acquisition game around. ''People on Wall Street tell us that small fish can eat big fish,'' he says. Others bank on staying independent by finding an unusual niche in the crowded pharmaceutical industry. Richard Casey, president of California Biotechnology, has a strategy of delivering biotech proteins in novel ways, such as insulin through a nasal spray. Eventually, Casey thinks, this strategy will pay off. The big payoff will be for those companies that accept the new competitive reality and combine the exotic with a little of the mundane.

BOX: BIOTECH'S BIGGEST PRODUCTS Human growth hormone helps children whose pituitary gland is underactive.

Alpha interferon treats a form of leukemia.

Septic-shock antibodies inactivate poisons from infectious bacteria.

Blood-clotting factors aid hemophiliacs.

T-PA dissolves blood clots during a heart attack.

Genetically produced insulin replaces the natural substance that is made in the pancreas.

Tissue growth factors help heal wounds.

Interleukin-2 activates immune system cells against cancer.

Anticancer antibodies attack cancer cells.

EPO and other blood-stimulating factors increase blood cell levels.

Biotech companies have successfully exploited the human body as their source of inspiration. Employing the power of genetic engineering, they have been mass-producing molecules that occur in tiny amounts in the body and selling them as medications. Listed above are major products in use or nearing introduction. Now a new kind of drugmaking is emerging. It combines insights into the nature of disease with pharmaceutical company skills in synthetic chemistry.

CHART: NOT AVAILABLE CREDIT:NO CREDIT CAPTION:IT'S TOUGH TO SUCCEED WITHOUT PRODUCTS Many of these health biotech companies hope to emerge soon as full-fledged pharmaceutical firms. With the exception of Genentech, however, all of them derive revenues mainly from research contracts and bank interest, not sales.