BIOTECH STOCKS ARE POISED TO PAY OFF IN THE 1990s
By ANDREW EVAN SERWER

(FORTUNE Magazine) – Forget about price/earnings ratios. Forget about book value, hidden assets, or other traditional measures of value. Instead, think about potential, about sky's-the-limit growth. If that kind of investing doesn't make you queasy, you're ready to look at biotechnology stocks, a group that many Wall Streeters believe holds more promise for the 1990s than any other. Biotechnology is still an infant industry. The entire market capitalization of biotech pharmaceutical companies amounts to only 5% of the drug industry's capitalization. But analysts say that the companies are about to release some blockbuster products that will generate explosive earnings growth and power a long run in the stocks. Rising sales and earnings won't be the only fuel. The proposed purchase of 60% of industry leader Genentech for $2.1 billion by Swiss pharmaceutical giant Roche Holding Ltd., parent of Hoffmann-La Roche, suggests takeovers may play a role as well. Valuing biotechnology stocks is a bit trickier than sizing up companies with a long track record. Because so few show any earnings to speak of, analysts determine value by measuring a company's market capitalization against its potential product stream. That may sound like dreamy-eyed investing, but analysts insist that it's the only way to play. Says Teena Lerner, a biotech analyst at Shearson Lehman Hutton: ''If you wait for earnings with these stocks, you will miss a major part of their move.'' A company that has analysts particularly excited is Chiron, which recently identified a new type of hepatitis and should receive clearance from the Food and Drug Administration this year to market a test that would detect the disease. Like many other biotech firms, Chiron will team up with a major pharmaceutical house, in this case Johnson & Johnson, to sell the product. Analysts say the test could generate revenues of $200 million a year by early 1992 and help push the company into the black. Amgen is already churning out profits, thanks to strong sales of erythropoietin, or EPO, a human hormone that stimulates the production of red blood cells and is used to treat anemia. Product sales have gone from $2.8 million in the fiscal year ended last March to an estimated $140 million this year. Amgen is also testing G-CSF, a drug that promotes the manufacture of white blood cells, which would greatly benefit chemotherapy patients. Most analysts see Amgen earning around $1.25 per share in fiscal 1990 and up to $2 next year. Despite that rosy forecast, the stock has stalled out in recent months. Investors are concerned about a suit Genetics Institute filed against the company, alleging patent infringement. But analysts note that a settlement appears imminent, and a worst-case scenario is already discounted in Amgen's stock price. Although Genetics Institute is still reporting losses, many money managers believe it is one of the least risky biotech stocks. ''GI has a diversified group of products, which protects it in case one doesn't work out,'' says Edward Owens, who runs $80 million for Wellington Management in Boston. One of the most promising products in its medicine chest is synthetic Factor VIII, a blood-clotting agent needed by hemophiliacs. The company also makes t-PA, a blood clot dissolving agent, and a product that promotes the production of white blood cells. None of these are on the market, though all should be approved within two years. Analysts think the company could show a profit in 1991. Jon Hickman, a money manager with Wells Fargo & Co. in San Francisco, has high hopes for XOMA, which has a promising drug nearing FDA approval. Xomen-E5 treats sepsis, a potentially fatal bacterial infection that causes 80,000 deaths a year. This drug should get the green light in 1990 and could be a $300-million-a-year seller within a few years. Biogen reported its first profit only last year. The company collects royalties from its partner Schering-Plough on sales of alpha interferon, used abroad for treating hepatitis. The treatment should soon receive approval for use in the U.S. Another partner, SmithKline Beecham, is about to market a new hepatitis vaccine that incorporates technology on which Biogen holds patents. In return, Biogen will receive royalties from the sales. Lerner of Shearson Lehman thinks Biogen earnings could grow from a penny a share in 1989 to more than a dollar a share by 1992. The granddaddy of biotech, Genentech, has grown even more powerful since it announced its tie-up with Roche Holding. Says Denise Gilbert, biotechnology analyst at Montgomery Securities: ''The Roche deal will provide Genentech with $600 million in cash, making it an even more formidable competitor.'' Though Genentech is more than twice as big as its nearest rival and has four products on the market, the stock has languished below $30 since mid-1988, after topping $60 in late 1986. It may now be time to buy. The agreement between Roche Holding and Genentech gives the Swiss company a five-year option to pick up the remaining 40% of Genentech it doesn't own. Most analysts believe Roche will buy, which, given the agreed-upon price, would generate an annualized return of more than 20%. That's the perfect antidote to an anemic portfolio.

CHART: NOT AVAILABLE CREDIT: SOURCE: PAINE WEBBER CAPTION: BIOTECH'S BUMPY ROAD Biotechnology investors have been bounced around during the past two years. But major breakthroughs, like Chiron's new hepatitis test, could inject new life into the stocks.