Seeking strong revenues in biotech rather than frothy valuations

Investing in biotechnology is a notoriously risky business. The majority of drugs being researched and developed never make it to market, although when they do the returns can be substantial. And because of the complexity of the products involved, this is a highly specialised field best left to professional investors. 

Around eight UK-listed funds focus on healthcare and two specifically focus on biotechnology equities. International Biotechnology Trust (IBT), the older and more defensive of the two, has made a share price total return of 92 per cent over the past five years, ahead of a 68 per cent rise for the Nasdaq Biotechnology index. Last month the trust announced that Carl Harald Janson, who had managed it since 2013, was stepping down as lead manager. He is now in the process of handing over the trust's management to Ailsa Craig and Marek Poszepczynski, who have become joint lead managers. 

Craig has been an investment manager at SV Health Investors for 15 years, having previously worked as a healthcare research analyst. Poszepczynski joined SV Health Investors in 2014 as an investment manager, having previously worked for a decade in business development within the biotech industry.

They were both already working alongside Janson and Craig has no plans to make dramatic changes to the way the trust is run.

“We are very wedded to the idea of risk mitigation around binary events, and will continue to look for companies with strong management teams that address unmet medical needs and have pricing power."

Companies that produce treatments for rare diseases accounted for a third of the trust's assets at the end of February – its largest allocation by therapeutic area. “The characteristics of rare disease companies are appealing because rare diseases are where there is a patient population that is relatively small and, as a result of that, their clinical trials are quite small, which makes them much cheaper to run,” says Craig.

This also incentivises companies to to create treatments for rare diseases and gives them more pricing power.

There are rare disease companies of all market cap sizes. The trust's holdings in this area include Vertex Pharmaceuticals (US:VRTX), which has a market cap of around $57bn (£40.77bn) and made up 4.1 per cent of the trust's assets at the end of February. Vertex secured approval for a triple combination therapy, known as Kraftio in the UK, to treat cystic fibrosis in October 2019. This led to strong share price growth although performance over the past year has been weaker. 

Oncology is another of the trust's key investment areas, a field in which Craig says there have been amazing developments in recent years. Where patients have historically been treated by chemotherapy, which kills dividing cells, new approaches to treating cancer are quite different. 

“Now you have cell therapy where patients' T cells [a type of white blood cell], for example, are taken out of their body and manipulated so they can recognise or destroy their own cancer cells," says Craig. "They are then injected back into the patient [and this] has been very effective."

There are also targeted therapies such as tyrosine kinase inhibitors which are taken orally as a pill and specifically target a cancer cell.

Pandemic effect

International Biotechnology Trust's managers have not specifically been chasing companies’ working on Covid-19 treatments, although a number of its largest holdings have been at the forefront of the global effort to quell the virus. 

Gilead Sciences (US:GILD), a California-based manufacturer of antivirals best known for HIV treatments, was the first company to have a treatment – Remdesivir – approved for treating coronavirus. However, questions have since been raised about its efficacy in treating Covid-19 patients. 

New York-based Regeneron Pharmaceuticals (US:REGN), meanwhile, has had an antibody drug approved as a preventative treatment. A phase three clinical trial found that the drug reduced the risk of symptomatic infections in individuals by 81 per cent. While the world’s attention has shifted to focus on vaccines, experts say the development of treatments are still an important part of the battle against the virus.

The problem with these treatments, however, is access. “Remdesivir has to be administered in hospital, it's quite cumbersome and once patients are in hospital they tend to be quite sick already,” explains Craig.  "What we really want to see is a more convenient and cheap drug – like oral tablets or nasal sprays –  something that can be manufactured quickly and spread around the world.”

Craig adds that the involvement of Gilead Sciences and Regeneron Pharmaceuticals in the fight against Covid-19 is “not to the extent that it’s really going to move the needle and change our view on the investment case, it’s very much on the margin”. 

Gilead is moving into oncology for future growth having recently acquired Immunomedics, an oncology company for triple negative breast cancer, which was also previously held in the trust. Craig adds that Gilead has patent expiries coming up and needs to make further acquisitions for revenue growth. 

Regeneron’s legacy is in ophthalmology – eye treatments – but it is also moving into oncology and has an extensive pipeline across many diseases. 

Recent activity

Craig has recently been adding to Horizon Therapeutics (US:HZNP), which used to be a specialty pharmaceuticals company but acquired some drugs to treat rare diseases. She say this is a “really smart decision” as these assets have great growth prospects.   

“One of those drugs – Tepezza – has launched and the sales have just been smashing the lights out every quarter,” she explains. Tepezza is a treatment for thyroid eye disease

She has also been adding to out-of-favour names such as companies involved with research on the central nervous system. Companies in this therapeutic area made up 12 per cent of the trust at the end of February. 

Ms Craig and her colleagues try to sell holdings if they are approaching a binary event such as an approval date. “You can see from our factsheets we have been reducing our position in Acadia Pharmaceuticals (US:ACAD) as it was going into its 'PDUFA date'," she says. "This turned out to be a negative outcome so we were fortunate in that situation." 

The Prescription Drug User Fee Act (PDUFA) dates are deadlines by which the US Food & Drug Administration reviews new drugs.   

International Biotechnology Trust's managers’ decision to trade in and out of binary events is a reason why it has a high turnover. The other reason is the many acquisitions in the biotechnology sector with, for example, four of the trust's holdings taken over in the first half of its current financial year.

Ms Craig adds that mergers and acquisitions are “part of the business model” for biotechnology investors. Small nimble companies are born out of universities with venture capital funding, and as they grow bigger pharmaceuticals companies with a lot of cash that need to source growth buy them.

“We are seeing a lot of frothy valuations around so-called thematic, early exciting stories," says Craig. "Crispr technology is one area where lots and lots of exchange traded fund (ETF) money has flown in and we are seeing huge valuations." 

But “revenue growth” names – generally the larger companies in the field – have been relatively neglected, leading to a “real disconnect” in valuations. And these are the companies the trust is adding to.          

Fund composition

The majority of the trust’s unquoted assets are held in SV Fund VI, which made up 7 per cent of its assets at the end of February. This is managed by Kate Bingham, who until recently headed up the UK’s vaccine task force but has since returned to manage the fund. 

SV Fund VI had 23 holdings at the end of February, and Craig says it is a “high risk, high return” portfolio which has tended to outperform the broader fund over time.  

The trust has an attractive dividend yield of 3.7 per cent because since 2016 it has had a policy of paying a dividend equivalent to 4 per cent of its net asset value at the end of the preceding financial year. This is paid in two equal instalments at the end of January and August. But because biotechnology companies very rarely pay dividends, the trust's dividends are paid almost entirely out of capital. 

International Biotechnology Trust had 98 per cent of its assets in the US and Canada at the end of February. While it doesn’t have any China-listed companies, it does have some Chinese companies that have listed in the US, which Craig says is attractive because they are subject to vigorous US listing rules.

However, the trust's managers do look at companies listed in Asia and are ready to invest in them – when they think the time is right.

Ailsa Craig CV

Co-lead manager of International Biotechnology Trust: March 2021

Investment manager, International Biotechnology Trust: 2008 

SV Health Investors: 2006 to present

Baring Asset Management, analyst: 2004 to 2006

Insight Investment/Rothschild Asset Management, analyst: 2000 to 2004

 BSc (Hons) in Biology, University of Manchester: 2000