AMGN: Deserves more respect

Amgen (AMGN) is the second largest biotechnology company behind Genentech (DNA) in terms of the market cap. While DNA stock price has soared by greater than 200% last five years, AMGN stock has practically gotten nowhere. In my opinion, this trend is about to change. I believe there are several pipeline catalysts for the stock in the second half of this year and the stock is poised to outperform the market.

A little bit about the history

AMGN was the first biotech company to successfully develop product pipeline in the research level into a full commercialization stage. The company hit a homerun with Epogen which stimulates the red blood cells for anemia in kidney dialysis and other general anemic conditions. Epogen was soon followed by more advanced drug called Aranesp to treat anemia in the renal and oncology settings. The company continued to push ahead with Neupogen/Neulasta to treat neutropenia (condition lacking white blood cell counts especially after the radiation treatment for the cancer treatment (chemotherapy)). Finally, Enbrel address rheumatoid arthritis, psoriasis, and other inflammatory conditions. Each of these drugs represented multi-billion dollar opportunity and helped the company to achieve current annual revenue run rate of 14.2 Billion. In 1990's, AMGN was a darling of the wall street. Impressed by the strong revenue growth quarter after quarter, the stock soared by 1000% (ten beggar) from 1990 to 2000. However, since 2000, the stock has essentially gotten nowhere. While its large cap biotech peers such as DNA, GENZ, CELG soared last two years, AMGN has essentially done nothing, frustrating the investors.

What is wrong with AMGN?

The answer lies in the product pipeline. In biotechnology, the stock valuation methodology that many analysts use are very different from other sectors such as financials and industrials. With the biotech stocks, people typically look at the possible earning that is two to three years out based on the products in the pipeline. If the pipeline addresses very large untapped market such as cancer, MS, ect, the company PE expands rapidly based on the expected earning 2 to 3 years out. I have seen PE of some biotech companies that focus on the cancer area to approach near 50 when the biotech sector is in favor (CELG and DNA). If the pipeline addresses specialty select area (GENZ), the PE typically ranges low 20 to mid 20. In this sense, for biotech stocks to do well, you need to have very exciting late to mid stage pipeline that will show exciting growth potential two to three years from now.

As AMGN entered year 2000, its pipeline hit the brick wall. There was a big void the in the mid-stage pipeline which portended lack of future blockbuster drug. While the existing drugs continued to generate decent revenue growth and steady earning (EPS) growth, the investors took down the stock multiple from mid 30 to low 20. Recently based on 2007 EPS estimate, AMGN is trading with PE just above 15. This PE is lower than S&P average and more inline with large pharma companies. So AMGN, one of the premier biotechnology companies, is trading like a pharma company. In my opinion, the sentiment on AMGN has gotten too negative and the stock is poised to rally from here on.

Catalysts for the future rally

Heavy R&D expense during last 5 years is finally paying off for AMGN. AMGN now is armed with one of the most potent late to mid-stage pipeline in the company's history. Pmab (which will be market as Vecibix) is likely to hear from FDA on the approval status by end of the September. Pmab will be initially targeted for mid to late stage colorectal cancer treatment. However, it is expected that Pmab will be also used with DNA Avastin to target the early stage colorectal cancer. In addition, AMGN may also explore Pmab's potential in other areas of cancer treatment. Pmab is expected to be another multi-billion dollar drug for AMGN. FDA approval news as well as other clinical trial data on Pmab is likely to please investors in the second half of this year, adding more enthusiasm in viewing AMGN shares.

For the next year, AMGN is likely to release more oncology related drug data with other products in the pipeline. I expect more visibility in the pipeline as the year progresses. In particular, AMGN is targeting AMG 706 for thyroid cancer and Gleevev-refractory, AMG 162 (Denosumab) for post-menopausal osteoporosis, bone cancer, RA, as well as prostate and breast cancer, and AMG 531 for immune thrombocytopenic purpura (ITP). Unlike the previous times which lacked pipeline products in the oncology settings (cancer), AMGN now is armed with very powerful lineup of cancer drugs and may directly challenge DNA in the cancer market. While DNA sees more competitions, AMGN has everything to gain as the company currently does not have strong exposure in the oncology area.

Other catalyst includes the resolution of the pending litigation with Roche. Roche is trying to enter into US anemia market owned by AMGN. The news of Roche entering into the anemia franchise has knocked off good 6 to 7 points off the share price late last year. According to Smith Barney, the firm believes that AMGN has a good chance of defending its patent on EPO franchise. AMGN owns an extensive patent on anemia drugs and it has to show Roche infringes on a single item of multitude of patents that AMGN possesses. The firm noted that the pre-trial processes are going smoothly and there could be a resolution of the patent litigation by the year end. Timely resolution of this patent lawsuit can help share to start a nice rally.

Compelling valuation

AMGN is a lowest PE biotech company that I know. The company is executing well on all operational metrics. Earning continues to grow and I expect the company to do in excess of $4.5 in 2007. The company has recently started very aggressive stock buyback program, adding 5 billion to existing 2 billion (total 7 billion). The share counts could shrink while the earning rises. The company is also outsourcing manufacturing operation abroad (latest expansion in Scotland and Costa Rica) to take advantage of the lower tax rate and to reduce the cost. In the meanwhile, the pipeline has strengthened and as FDA approves AMGN oncology drugs, PE may also expand to lower 20 levels, more consistent with undervalued large cap biotech companies. I am betting AMGN will go from extremely undervalued stock to undervalued stock. As the valuation unfolds, the stock should be trading somewhere between $90 to $100, which is a healthy upside from current price of $68 and a change.