Serono: a new big cap in biotechnology.
August 25, 2000
WELCOME to America, Serono (SRA).
A Swiss Drug Import Called Serono
By Russell Pearlman
Most U.S. investors have probably never heard of this company, but they soon may. The largest biotech corporation in Europe, and the third largest in the world based on sales, Switzerland-based Serono recently issued $1.9 billion in American Depository Shares for over-the-counter trading in the U.S. Known primarily for its infertility treatments, Serono has seen its sales and profits skyrocket over the past five years. But enthusiastic biotech investors be forewarned: Serono shares don't come cheap.
"The easy money has been made [on this company]," says John Tribolet, portfolio manager of the Loomis Sayles International Equity fund (LSIEX), which holds a stake of between $5 million and $10 million in Serono.
Indeed,with Thursday's close of $30 the depository shares are up nearly 29% since their July 27 debut, from an offering price of $23.49. With a 2000 price-to-estimated-earnings ratio of about 66, Serono trades at a slightly lower valuation than other leading biotech firms, including Genentech (DNA), Immunex (IMNX), IDEC (IDPH), MedImmune (MEDI) and Amgen (AMGN), and a higher one than Genzyme (GENZ) and Biogen (BGEN). On the SWX Swiss Exchange, Serono's shares have more than tripled since the first quarter of 1998, to $1,192.41 from $323.77 Thursday.
Though Serono's multiple is high, it's well-earned, according to Eli Neusner, a senior analyst who follows biotech issues at MetaMarkets.com, a Web-based operator of mutual fund OpenFund (OPENX). Sales are up 54% and profits up a whopping 532% since 1995.
The company can credit its infertility-drug business for its recent success. In 1995, Serono introduced Gonal-F, the first recombinant drug developed for infertility. The drug, which works by stimulating production of ova, accounted for $348.7 million, or more than 33% of total company sales in 1999. In 1999, the Food & Drug Administration approved Gonal-F for treating infertile men by boosting their hormone levels.
With Gonal-F and its other infertility treatments, Serono controls more than 60% of the $850 million global market for infertility drugs. And, unfortunately, there are lots of couples having trouble producing offspring. The World Health Organization estimates that 8% to 12% of all couples world-wide experience some form of infertility.
Serono is trying to further strengthen its position in the infertility market with Luveris. When combined with Gonal-F, the drug can provide hormone boosts to women with particular infertility problems. The drug recently cleared an important regulatory step in Europe and could be available there within a year.
Serono also produces a successful multiple-sclerosis treatment, called Rebif. Rebif controls 26% of the market outside the U.S., up from 23% in 1999 and 14% in 1998, estimates Eric Hecht, a biotech analyst at Merrill Lynch. With $143 million in sales last year, Rebif is the fastest growing MS therapy in Europe and Latin America.
But the company can't sell Rebif in the United States at the moment. That's because, at the molecular level, Rebif is identical to another MS drug, Biogen's Avonex. Since Avonex went to market first, the Food and Drug Administration granted it so-called orphan drug status, freeing it from competition until 2003. But Serono might be able to get its drug to U.S. consumers before 2003 if it can prove to the FDA that Rebif treats MS better than Avonex. The FDA is currently conducting a head-to-head study of the two remedies.
Serono is also betting Rebif will do more than just treat MS. The company is currently testing the drug to treat chronic hepatitis C, rheumatoid arthritis, Crohn's disease, ulcerative colitis and Guillain-Barré syndrome. Merrill Lynch estimates the market potential for all Rebif's uses could be more than $1.5 billion. But these alternative uses for Rebif must be tested first. Rebif variations are currently in Phase II clinical trials, but even if they pass regulatory muster, the therapies won't be available until at least 2005, according to Merrill Lynch estimates.
While it's beefing up its own pipeline, the company is making money off licenses and patents on three of the world's most successful biotech products: the aforementioned Biogen MS-fighter, Avonex, Organon's fertility drug, Puregon and Immunex's rheumatoid arthritis drug, Enbrel. Gross royalty income amounted to $55 million 1999, according to Hecht, and Merrill Lynch estimates royalties could grow to $100 million by 2004.
Serono might be new to American investors, but it is by no means a new company. Serono dates back to 1906, when the Instituto Farmalogico Serono was established in Rome to extract and purify natural compounds. The company grew steadily, eventually moving its headquarters to Geneva in 1977.
Controlled by the Bertarelli family, which holds 60% of Serono's voting shares, the company reported net income of $183.3 million in 1999 on sales of more than $1.05 billion. By comparison, Amgen, the largest U.S. biotech company, reported sales of nearly $3.34 billion in 1999 while Genentech, the No. 2 U.S. biotech company, posted sales of $1.5 billion last year.
Serono's recent track record and growth prospects make the company a great story to analysts who cover the biotech industry — just not a cheap one. And now that it's traded in American markets, Serono will likely face the risks and volatility that challenge other American biotech companies. The Nasdaq Biotechnology index, which encompasses biotech companies big and small, currently stands at 1228.01, a 36.3% gain on the year. Over the last six months, however, the index has been as high as 1596.53 and as low as 845.34.
In addition to dealing with market fluctuations in the U.S., the company also has to contend with third-party drug resellers in the European Union. Since prices vary by nation, a third party can buy Serono's (or any other drug maker's) products in one country and resell them at a profit in another while undercutting Serono's own local prices. This puts Serono in competition with third-party sellers selling its drugs. This is of particular concern, since 43% of Serono's 1999 sales came from Europe.
Despite the risks, Serono's dominant position in infertility markets, growing power in MS drugs, and diverse product pipeline make it a strong biotech play, according to MetaMarkets.com's Neusner.
Adds Loomis' Tribolet, "the general picture is pretty exciting. You've got a company with strong franchises and good growth prospects. There's always a pipeline risk, but [there is] nothing that I see on the horizon that I see as product risks."
As they say in Italian, benvenuto a America, Serono.
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