(WYE) Biotech Industry – Industry Outlook

March 13th, 2009

OVERVIEW

The financial market and the economic landscape in the U.S. have not changed much since the beginning of the year. And we believe the status quo will last for a while at least in 2009.

Large biotech companies are doing OK since they have strong balance sheets to weather the current market turmoil and can generate revenue from product sales. Investors in large biotechnology companies worth more than $1 billion have preserved much of their wealth. Smaller biotech companies, particularly those still in development stage, meanwhile, are under severe strain as the global economic slump cuts into sales and their ability to raise fresh cash to fund research.

As we expected, the M&A spree has continued in the first three months of this year. Following the acquisition of Wyeth (WYE) by Pfizer (PFE) announced in January, Merck & Co. (MRK) announced the acquisition of Schering-Plough Corp. (SGP) on March 9.

The latest megadeal is the announcement of Roche (RHHBY) to buy Genentech (DNA) at $95 per share on March 12, 2009. Also on March 12, Gilead Sciences (GILD) announced it will buy CV Therapeutics (CVTX) for $1.4 billion, exceeding Astellas’ proposed offering price of $1 billion.

We believe current market environment in the Pharma/biotech industry is favorable for the M&A activity. Big pharma and biotech companies still face three major challenges: patent expiration, low research and development productivity, and generic competition.

While we continue to expect increased M&A activity in the rest of 2009, we also will see licensing deals between big pharma/biotech companies and small biotech firms.

OPPORTUNITIES

We continue to have BUY ratings on Celgene Corp. (CELG), Onyx Pharmaceuticals Inc. (ONXX) and AMAG Pharmaceuticals Inc. (AMAG). Each of these three companies have strong balance sheets, which eliminate immediate financing needs.

CELG is a fully integrated biotechnology company focused on oncology and hematology. The acquisition of Pharmion brings three medically meaningful products — Thalomid, Revlimid and Vidaza — into market, which will drive growth in 2009 and beyond. The MDS market will be dominated by Celgene with Vidaza and Revlimid, although Revlimid and Thalomid face tough competition in the MM market.

Also, a strong balance sheet and deep pipeline will provide long-term growth for the company. The company reported strong financials for the 4Q08. The company has a strong balance sheet. As of September 31, 2008, Celgene held $2.2 billion in cash and marketable securities and no long-term debt. Our price target is $72.

ONXX is an oncology company which is developing and marketing Nexavar for various cancer indications. Nexavar has been approved for kidney cancer and liver cancer. Sales of the drug have remained strong in 4Q08 and will continue to do so in the coming quarters.

With profits at its back, ONXX recently in-licensed two cancer drug programs — BGC945 from BTG International Limited, and JAK2 inhibitors SB1518 and SB1578 from Singapore’s S*Bio — while it continues to expand Nexavar labels.

With a cash balance of $458 million and no debt as of December 31, 2008, ONXX is well positioned for long-term growth. The company is also cooperating with Bayer for Nexavar, which makes it a potential and meaningful buyout target by Bayer. Our six to twelve month price target is $45.

AMAG develops superparamagnetic iron oxide nanoparticles for use in pharmaceutical products. The company’s focus is on developing IV iron replacement therapy for anemia in chronic kidney disease, and an imaging agent to aid in the diagnosis. The company filed the NDA for its lead drug Ferumoxytol in December 2007, and we expect the FDA approval to come by mid-2009. AMAG is not profitable yet, but with the Ferumoxytol approval at its fingertips, the company should enjoy strong growth in the coming years.

Its balance sheet is strong. As of December 31, 2008, the company had $215 million in cash, cash equivalents and investments and no long-term debt. Our price target is $55.

WEAKNESSES

We continue to be bearish on tiny biotech companies with weak balance sheets. We are particularly concerned about the fate of some smaller biotech companies with drugs in just early or middle-development stages. Some of those companies have been forced into “survival mode” due to cash shortage since capital raising is still very difficult if not impossible for these companies.

These names include Genta Inc. (GNTA), Cell Therapeutics Inc. (CTIC), Decode Genetics (DCGN) and Cyclacel (CYCC). All these tiny biotech firms have great pressure for further financing in the next 6 to 12 months, and they have entered into a survival mode in order to save cash.

After the fourth quarter earnings report, we noticed that current economic downturn has finally taken a toll on some companies’ top lines. These companies include SurModics Inc. (SRDX), Alkermes (ALKS) and Celera Group (CRA). We have downgraded these three companies to Sell.

Our Sell call on SRDX is based on the lackluster financial performance of fiscal 1Q09 (ended December 31, 2008) and a bleak outlook for 2009 due to current financial and economic conditions. The current financial and economic environment, coupled with the termination of a Merck agreement and expiration of an Abbott agreement, makes us expect a decline in both revenue and earnings per share for the rest of fiscal 2009. Total revenue for fiscal 2009 will be down 3% compared with fiscal 2008. EPS for 2009 will be $0.71 per share compared to $$1.13 per share for 2008.

In the case of CRA, we also see a worse-than-expected calendar fourth quarter 2008 financial performance. We are deeply concerned about the company’s outlook for 2009. In its fourth quarter news release, management of Celera provided guidance for 2009, which was well below our expectations. The company expects revenue in 2009 to be in the range of $192 to 202 million versus our estimate of $227.5 million. The company expects non-GAAP EPS in the middle single digits versus our double-digit EPS for 2009.

For ALKS, the termination of two recent deals with Eli Lilly (LLY) and Cephalon (CEPH) for the inhaled insulin program and Vivitrol respectively have major negative impact on the company’s top-line growth. Sales growth of Risperdal Consta, from which Alkermes generates manufacturing and royalty revenue and which is the biggest revenue contributor, has been diminishing in the last three fiscal quarters of 2009, and will continue to decline due to heavy competition in the schizophrenia market. Exenatide LAR approval may be delayed by the FDA due to the pancreatitis found in patients on Byetta therapy. Exenatide LAR is the company’s only late development program after the termination of AIR Insulin program.

We think the company has entered into an uncharted territory. The risk/reward balance has shifted to the risk side. Therefore, we downgrade the shares to Sell.

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