If you're looking for an indicator of the drug industry's future research and development efforts, keep an eye on contract research organizations (CROs), which conduct research for drug giants like Pfizer (NYSE: PFE) and Merck (NYSE: MRK), as well as smaller companies.
Unfortunately, new results from two top companies, Pharmaceutical Product Development (Nasdaq: PPDI) and ICON (Nasdaq: ICLR), suggest that a turnaround in pharmaceutical R&D isn't just around the corner.
Both just posted second-quarter earnings that beat Wall Street estimates. However, shares of both fell hard afterward due to unfavorable comparisons to the year-ago quarter, concerns about R&D contract cancellations, and/or warnings that the rest of 2009 looks troublesome.
Poor prognosis
Contract research organizations have made a pretty good living by catering to companies that are cutting costs via outsourcing some clinical and pre-clinical trials. Small companies use CROs because their budgets would be strained by expensive late-stage clinical tests.
Just look at stock charts for much of this decade. Many CROs produced healthy returns for investors. However, the fall of 2008 brought the fall of CROs.
The recession plus drug-company restructurings, mergers, and acquisitions have combined to knock the (market) cap out of CROs. Many are now trading at about half their 52-week highs, and some are even worse.
Weak numbers
Sales and profits at CROs say a lot about drug-industry R&D plans, and the latest news suggests continuing drug development doldrums.
Pharmaceutical Product Development unveiled second-quarter results after markets closed yesterday. Investors recoiled today to the tune of about 15%, even though earnings per share of $0.33, excluding special items, beat Wall Street estimates by $0.04.
Second-quarter revenue of $355.2 million was 12% lower than for the year-ago period. The $38.7 million income from continuing operations trailed the year-ago period by 20%.
The company added $465.9 million in new business for the quarter, but it also reported $212.9 million in cancellations -- a troubling sign of R&D retrenchment. The company didn't change its 2009 earnings and revenue forecast, which it had downgraded in April.
More unsettling news
The story from ICON wasn't much better. It reduced full-year earnings per share and revenue estimates, even though second-quarter earnings per share beat the Wall Street consensus forecast by $0.04. As a result, shares are down about 7%.
ICON produced a 1% gain in revenue, to $220 million, from the year-ago quarter. Earnings per share, excluding one-time events, was $0.38 versus the year-ago tally of $0.31.
The numbers from these two companies cast a shadow on the rest of the CRO industry, whose other major players, including Covance (NYSE: CVD) and Parexel International (Nasdaq: PRXL), will issue quarterly results up through early August.
The constant beating of CRO stocks have been taking will eventually convince investors that some are cheap enough -- and fundamentally strong enough -- to merit attention. Right now, it's a choice between (heaven forbid!) market timing and faith in a still-uncertain R&D recovery.
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