Small pharma, big opportunity
Picking small-cap drug stocks can be tough. InVentiv Health offers room for growth without having to become a drug expert.
Small drug companies can generate envious returns for investors, but picking the right ones can be tricky. While "Small Pharma" is the fastest-growing segment of the drug market, many firms are entirely dependent on a single drug winning FDA approval and an unfavorable decision can ruin a stock.
But there's a way to ride the Small Pharma wave without becoming a drug expert: inVentiv Health.
InVentiv is a $550 million outsourcing firm that helps small (and some large) pharmaceutical companies build sales teams, promote new drugs, and manage clinical research staff. The stock is up 300% since 2004, and in this fast-paced sector, there's room for even more growth.
InVentiv started in 1999 with a few Big Pharma clients, doing only sales-team building. Today, it serves 175 clients in the U.S., Europe, and Asia - and more than half of the company's sales come from small drug and biotech clients below the top 20 in revenues.
To accommodate so many customers and diversify away from handling just sales support, inVentiv has been an aggressive acquirer. In fact, it's bought eight companies since 2004, including three so far in 2006.
That's been great for the balance sheet - since 2002, revenue growth has averaged 37% annually, beating expectations for 16 straight quarters, and operating income has about doubled each year. But the acquisitions have depressed the stock price this year, and analysts worry that they won't improve organic growth enough to justify the debt expense.
That sounds like bad news, but in fact, it's an opportunity for investors. InVentiv's PE ratio is lower than most of its industry competitors. And after inVentiv reported record earnings and revenues for the first quarter of 2006, the share price actually dropped.
With the stock now trading at about $30, and heading toward analyst targets of about $35 to $37, it seems like the perfect time to jump on the inVentiv bandwagon.
"It's rare in small caps to find something to put under your pillow," says David Windley, an analyst at Jefferies & Company. "But inVentiv is one of them."
Because inVentiv continues to target the Small Pharma market as its main engine of growth, its fast-acquisition strategy seems like the right one. Purchases are what enabled inVentiv to grow from doing just sales-team building to promoting drugs, staffing clinical research teams, and managing software and data.
That kind of diversity of services is key to capturing business from small pharma companies, which need the flexibility and cost savings that outsourcing provides. Consider: When a small company launches a new drug, it needs a big sales and marketing team to get the word out and to compete with Big Pharma products. After the initial launch, it no longer needs the big marketing team, but might want help researching a new drug, or creating a new promotional campaign to restore the reputation of an old drug.
Early indications are that the strategy is working. About 60% of inVentiv's existing clients use more than just one segment of the company's business. By offering diverse services, inVentiv can stand out from competitors like Professional Detailing and Quintiles, both of which serve just a few - almost exclusively Big Pharma - customers in very specific areas.
"With all of our offerings, we create more stickiness, more dependence among our Small Pharma clients," says CEO Eran Broshy, a former drug-industry consultant. "That's a fairly significant barrier for competitors."
Robert Willoughby, an analyst who recently initiated coverage of inVentiv for Bank of America, is optimistic about inVentiv's ability to put it all together. "[InVentiv] has demonstrated substantial success in leveraging its core sales team with ancillary services," writes Willoughby in an early May report. He also points out that inVentiv hasn't included the revenue potential of such synergy in recent guidance, so the company might grow even faster than the market expects.
So as Small Pharma continues to grow, play the trend with inVentiv. The stock probably won't zoom quite as fast as it has in the past, but it should get the bounce it deserves from record results. If results over the next few quarters allay Wall Street's fears over its speedy acquisition strategy, expect up to a 20% return. That's just what the doctor ordered.
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