Load the Shotgun for Biotech

 | Jun 25, 2012 | 9:30 AM EDT
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The biotech sector has been one of the standout performers in 2012. The sector has been buoyed by some key approvals at the FDA and by solid M&A activity.  The sector has also benefited as it is not impacted by the ongoing crisis in Europe.

The M&A pace will continue to be strong as major pharma needs to replace and rebuild product pipelines they have not been able to fill organically, especially as the industry faces myriad blockbusters that will be coming off patent over the next several years.

But the sector is notoriously hard to invest in due to the complexity in an area that is highly volatile and at the mercy of new compounds that may or may not even get through patient trials, let alone make through the approval process.  These early-stage companies usually are not producing any earnings or cash flow providing yet providing another interesting nuance to biotech investing. But finding that small company that develops an important new drug or gets bought out by a larger player can have substantial upside. For these reasons I tend to take more of a shotgun approach to biotech investing by taking smaller positions in more companies than I do in any other sector.

What I look for is a company that has interesting drugs in the pipeline, has enough cash on the balance sheet to fund several years of operations as well as rapidly increasing revenues. It is also good to have the stocks trading substantially lower than analysts' price targets. Here are two small biotechs that meet those criteria.

Corcept Therapeutics (CORT) develops and commercializes drugs for the treatment of severe metabolic and psychiatric disorders.

Three reasons CORT is a solid speculative play at $4 a share:

  • The stock was just initiated as an Outperform at Credit Suisse and the median analysts' price target is $8 a share on the stock. The low price target of the six analysts that cover the stock is $6 a share, still substantially above current price levels.
  • CORT's lead product, Korlym, was approved earlier in the year by the FDA for control of hyperglycemia in endogstoenous Cushing's Syndrome. Revenue expectations for the company are impressive.  Analysts expect over $15 million in sales for fiscal 2012 and more than $65 million in revenue during fiscal 2013.
  • The company has more than $40 million net cash on its balance sheet, which should be more than enough to get Corcept to fiscal 2014 when it should start to generate significant earnings and cash flow.

YM BioSciences (YMI) currently has three clinical-stage hematology and cancer-related products in development

Four reasons YMI is worth a flyer at $2 a share:

  • YMI has a huge amount of cash (more than $130 million) on its balance sheet, which represents approximately 40% of its market capitalization and can fund the company for more than five years at current burn rates.
  • Although small, revenues at the company are expected to go from $1.5 million in fiscal 2012 to more than $6 million in FY2013. Two of the three drugs in the company's stable are in Phase II trials and the other is in Phase III.
  • The company has beat earnings estimates for the last three quarters and estimates for its predicted loss in fiscal 2012 have narrowed over the past three months.
  • The five analysts that cover the stock have a median price target of $4 a share on YMI and Canaccord Genuity initiated the shares as a Buy in late March.

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