Published:
December 4, 2007
Genentech (NYSE: DNA, $72.78) is a biotechnology company that focuses on treatments for serious
and debilitating diseases such as cancer, rheumatoid arthritis and diseases
of the immune system.
The company's major drugs include Rituxan, originally a treatment for
lymphoma. Rituxan was also recently granted approval by the FDA for
treatment of rheumatoid arthritis. Another key drug is Avastin, a treatment
for some forms of lung and colon cancer. Genentech is also seeking to expand
the list of diseases Avastin is approved for.
Competitive Advantages
The biotechnology industry has major barriers to entry. Genentech holds
patents on the drug compounds it develops, and these patents legally shelter
the firm from generic competition for many years. As the company is
essentially a monopolist on these certain drugs, it can charge higher
prices. And since many of its treatments are relatively new, Genentech has
years of patent protection remaining on many drugs before it has to worry
about competing generics.
Of course, it is possible for another company to develop a drug targeting
the same diseases that Genentech does. However, that's less of a risk for
DNA as it focuses on developing drugs for serious diseases where there are
few existing treatments. As such, in many of its key markets Genentech has
the only approved treatment.
In addition, markets like cancer drugs are considered critical by the FDA.
The process to gain approval as a treatment for such serious diseases is far
lower than for other conditions. While gaining FDA approval is never easy,
DNA has fewer hurdles to cross than many other drug and biotech companies.
Growth Drivers
Genentech has two key growth drivers: the introduction of new drugs and
expanded uses for existing drugs. To the first point, DNA has a sizeable
pipeline of new drugs in development, including new treatments for
rheumatoid arthritis, various forms of cancer and multiple sclerosis.
These drugs are in various phases of clinical trials. Many of them won't
ever be approved by the FDA and research will be abandoned. But it would
only take one treatment with the market potential of Avastin or Rituxan to
generate growth for Genentech. The firm has a total of six compounds in the
latter stages of clinical trials; these promising drugs could be approved
for use over the next two to three years.
On a near-term basis, DNA has more potential to grow by expanding the use
(or labeling) for existing treatments. Basically, the FDA approves
new drugs for treatment of specific diseases in specific dosages. But some
drugs work as a treatment for multiple conditions.
For example, the company's Avastin drug has already been approved for the
treatment of certain types of colon and lung cancers. But now DNA is also
applying for approval to use the same drug as a treatment against breast
cancer, prostate cancer, lymphoma and other conditions. As drugs are
approved to treat new diseases, the size of the company's addressable market
grows. The company is seeking expanded labels for Herceptin, Rituxan and
Tarceva, among other existing drugs.
Valuation and Outlook
DNA shares trade at around 21 times 2008 earnings. But with the company's
long-term earnings growth rate standing at +23%, DNA has a PEG ratio of just
0.9.
Other large biotech companies like Amgen (Nasdaq: AMGN) trade at closer to
1.2 times their long-term growth rate. Given Genentech's better-than-average
growth rate, my staff and I believe the stock should trade at a premium
valuation to the rest of the group. Based on a PEG ratio of 1.2, shares of
DNA could easily trade near $100 per share over the coming year.
Paul Tracy
Editor
StreetAuthority
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Virginia, has appeared as a guest expert on several prominent financial radio
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Paul graduated with a B.S. in Finance and Management from the McIntire School
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