Franklin Finds A Doctor A Day Keeps Risk Away
By Tiffany Kary
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--Sixteen thousand doctors are not enough for Evan
McCulloch.
The manager of the Franklin Biotechnology Discovery Fund reaches out to
every doctor he can, be it a relative, friend in med school, or member of the
Chinese Bioscience Association whose meetings he frequents in San Francisco.
McCulloch pumps them for information about the prospects for drugs in late
stages of clinical trials to get the edge over other biotech funds, many of
whom rely solely on a network of 16,000 physicians provided by the Gerson
Lehrman Group, an industry research firm.
"It's very important to balance the information companies put out about
clinical trials. We need to find out if doctors will look at results and just
yawn, or go 'wow,'" says McCulloch, noting the huge difference between
statistical significance, which corporations often focus on, and clinical
significance, which is what doctors want to see.
A clinical trial usually reports on how a drug performs statistically,
relative to a placebo, but that information could be irrelevant if another
drug on the market has done better. For example, drug X may lower cholesterol
40% more than a placebo, but drug Y, already on the market, could decrease
cholesterol by 60% more than a placebo, making drug X clinically
insignificant. McCulloch says doctors are invaluable sources of information
about the existing market, and can also provide insight on things like
possible side-effects.
Investment research firm Morningstar Inc. characterizes Franklin
Biotechnology as a fund that "walks on the edge" and is for risk-takers only,
because it avoids big pharmaceutical names like Johnson & Johnson (JNJ) and
Merck & Co. (MRK).
But McCulloch disagrees, citing his wide-ranging research and cautious
investment style. "In the spectrum of biotech funds, I would consider us one
of the most conservative," he says.
Investments are limited to companies that either have a product in Phase III
or Phase IIb clinical trial. Of all the fund's assets, 58% are in profitable
companies and 17% are in revenue-generating companies that are on the way to
profitability.
Conservative or not, the Franklin Biotechnology fund has been outperforming
most of its peers lately. In the past month, it has had returns of 6.02%,
outperforming 174 other funds out of the 193 classified as health and biotech
funds by Lipper Analytics. That's a dramatic turnaround over past months.
Year-to-date, returns are only 2.28%, ranking the fund 69th out of 192 funds.
Its three-year performance shows negative returns of 52%, ranking it 73rd out
of 76 funds.
Amgen, Idec, MedImmune Fund's Top Holdings
A big reason for its recent performance has been the dramatic rise of Amgen
Inc. (AMGN), its top holding at 15% of assets. The stock has had returns of
24% year-to-date, and McCulloch recently increased holdings on expectations
that Enbrel, the company's drug for rheumatoid arthritis, will also be
marketed for psoriasis. There's no FDA application yet, but McCulloch thinks
it will be labeled for that use by 2004, and is also likely to receive
Medicaid reimbursement.
"I believe Embrel will be No. 1 for psoriasis, which is a billion-dollar
opportunity in itself," McCulloch says.
McCulloch has also added to the fund's position in Idec Pharmaceuticals
Corp. (IDPH) after a recent dip in the stock, moving it up from third-largest
to second-largest holding, at 6.7% of net assets.
"There was a hiccup in the first quarter, related to inventory stocking, but
inventory levels are fine now," says McCulloch. He notes that Rituxan, a drug
for the treatment of non-Hodgkin's lymphomas, is expected to do well, and
while he's "not expecting much" from the company's other drug, Zevalin,
"Street estimates have come down to reasonable levels," to account for that.
MedImmune Inc. (MEDI), Franklin's third-largest holding, is also doing well,
but McCulloch recently reduced the fund's position.
"Its drug is cruising towards approval, but the stock had moved from the
high teens into the 30's. The good news is priced in," McCulloch says.
The philosophy that keeps McCulloch away from the pharmaceutical stalwarts
also keeps him away from companies that are fairly valued. To find undervalued
companies, McCulloch says he does deep research on individual products, forms
long-term outlooks and then figures out if the Street is undervaluing a
particular compound.
That philosophy has also led him into a quandary over the fund's
fourth-largest holding, Gilead Sciences Inc. (GILD).
"It's the company we like best for the long term, but we're struggling with
the valuation now. It's trading at 30 times estimates for 2005 earnings,"
McCulloch says.
Nevertheless, the company's anti-HIV drug Viread is expected to go well. "It
competes directly with GlaxosmithKline Pharmaceutical's (P.GLX) Combivir, a
billion-dollar drug. That locks up growth to 2006," he says.
The company's other top holdings, in declining order according to percentage
of assets, are Genzyme Corp. (GENZ), Biogen Inc. (BGEN), Millennium
Pharmaceuticals Inc. (MLNM), Serono S.A. (SRA), InterMune Inc. (ITMN) and OSI
Pharmaceuticals Inc. (OSIP), all of which have marketable products.
Has High Hopes For Struggling Trimeris
Of the few companies inspiring enough to lure McCulloch, despite lacking
products or revenue, he has highest hopes for Trimeris Inc. (TMRS), an early
stage company that recently got FDA approval for Fuzeon, an HIV drug. Analysts
have been skeptical about its ability to manufacture large amounts of the
drug, but McCulloch says Fuzeon is bound to be important given the fact that
it's injectible, and works on patients who show resistance to oral HIV drugs.
While investing in early stage companies with scant revenue was the kind of
pie-in-the-sky optimism that got technology investors into trouble, McCulloch
says biotech companies are different.
"If you pass the finish line and you become a profitable company, you can
have gross margins of 80% to 90%. And mature companies have net margins in
excess of 90%. It's a good return on investment capital," says McCulloch,
adding that he steers clear of companies that market drugs or make technology
platforms for pharmaceuticals, because they don't have such lucrative
prospects. High barriers to entry, and immunity to business cycles are another
positive factor, especially compared with technology, which has weak
intellectual property, low barriers to entry, sensitivity to business cycles
and profitability that declines year over year.
"Johnson & Johnson and Merck have proven this business over the past 100
years," he says.
Unfortunately, the task of finding the future Johnson & Johnson is arduous
work.
Hence McCulloch's quest to talk to at least a doctor a day. The effort has
helped him gather a proprietary network of around 40 physicians for the fund
over the year and a half since he's been lead manager. That network, along
with the fund's four-person management team, which includes someone with a
pre-med degree, has been key to getting an edge on competitors, and has helped
the fund anticipate some of this year's biotech imbroglios.
"We have daily dialogues with our physicians network. Having a large team
frees us up to do that kind of proprietary research. And keep us ahead of
competitors," he says.
(This daily column offers a one-on-one interview with a fund manager,
showcasing the manager's top picks, the outlook for those picks and how the
fund has performed.)
-By Tiffany Kary, Dow Jones Newswires; 201-938-5285; |
