The search for the next CSL and excessive valuations in local tech stocks have seen investors pouring into biotech, but elevated prices may be putting capital at risk.
Last week Regal Funds Management co-founder Phil King called the biotech sector ‘‘the biggest bubble in the Australian stockmarket’’ at the Sohn Hearts and Minds investor conference in Sydney, driven partly by a lack of expertise with biotech. ‘‘We don’t have the big pharmaceutical companies that North America and Europe have, and as a result Australians aren’t that good at valuing drug companies,’’ he said.
Tribeca Investment Partners portfolio manager Jun Bei Liu has also cautioned investors about valuations in the sector. Ms Liu said another difference between Australia and Wall Street was that the local sector had seen valuations start rising out of step with those in North America and Europe, which is atypical. They tend to be correlated.
‘‘This time has actually been unusual. If we look at the performance of the entire biotech sector, ours has performed far better than its offshore peers,’’ she said. The increasing interest in the sector has been driven by growth-hungry investors, she argued.
‘‘Earlier in the year we had this big rally across the tech sector and as tech rallied away the investors moved down into the med-tech space,’’ she explained. ‘‘And so for some of the smaller names, they all come into the light and investors were very keen because of their growth profile.’’
Secondly, Ms Liu argued, is the high- profile success of CSL. The plasma products and biotech stock has risen 77 per cent on average over the last 10 years as its growth around the world saw operating revenue rise from $4.6 billion to $12.1 billion.
‘‘The company has had very strong momentum and hence why it’s a great performer. But you know, as investors go down the spectrum, you certainly find a lot of companies that really don’t have that earnings profile to justify some of that growth.’’
And while CSL and a number of other companies are indeed mature, there are also a large number that have not derisked potential products.
The international regulatory environment is among the most complex, meaning significant capital is often required to first trial and develop the evidence that can be used to prove a product safe and then pursue approval from the regulators in any market.
After that, a company then has to prove demand for its product, navigating often cumbersome sales processes, such as hospitals and other public health organisations.
‘‘There’s some great success stories but I just feel some of the valuations out there, they’ve priced in a lot of success across the board,’’ said Sebastian Evans, who is the chief investment officer NAOS Asset Management as well as director of its emerging market small cap funds.
He warned the path to commercialisation often takes a number of years, and does not necessarily mean a company has de-risked a new product.
‘‘Even though you may have a proven device or a proven product, someone may not pay for it. And even if they do pay for it, you’ve got to convince hospitals to actually buy the product.’’
Mr Evans said NAOS stopped investing in biotech after it saw the share price of some companies that had seemed to show great promise collapse upon failing to pass necessary hurdles. One such company he recalled was Acrux, which he said had a strong founding team and what the market believed was a valuable product. ‘‘That was the bees knees for years,’’ he said. ‘‘But subsequently post [the founder] leaving, they ran into regulatory issues with all their male-testosterone replacement products. And you’ve seen the share price go from $4 to 18¢.’’
There are some huge valuations for companies with products not yet approved, or approved but yet to prove sales traction.
Mr King’s Sohn presentation coined the terms ‘‘PPANCs’’: Polynovo (which he is short), Pro Medicus, Avita Medical, Nanosonics and Clinuvel. Regal is long Avita, but the acronym lacked a vowel.
‘‘You’ve really got to do your homework,’’ Ms Liu said.
This article was originally posted on The Australian Financial Review here.
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