Trading Up With the $95 From Genentech

Well, that was fast. Genentech finally agreed to be purchased by its majority shareholder, Roche, for $95 a share two weeks ago, and the deal has already closed.

Thursday was the last trading day for the stock. Let's pause for a moment of silence -- DNA was perhaps the best health-care stock ticker ever, running just ahead of newborn hearing-test supplier Natus Medical and its BABY ticker.

... And we're done. It is just a ticker, after all. Today, investors need to figure out where to put their cash now that the largest biotech is out of the running -- unless Roche spins it out ... again.

Replacing the mid-sized drugmaker
Behind Genentech's $100 billion market cap, you've got:

Company

Market cap (in billions)

Amgen (Nasdaq: AMGN  )

$53.2

Gilead Sciences (Nasdaq: GILD  )

$40.0

Celgene (Nasdaq: CELG  )

$21.3

Amgen is the most "biotech" of the bunch, since the other two sell mainly small-molecule drugs, but I'm not sure that matters very much. Biotech drugs -- protein-based biologics -- are likely to face generic competition in the U.S. soon enough, and the line between pharmaceutical and biotech companies is continuing to get more blurry.

You really can't go wrong with any of the three, but I would use $45 of that $95 in cash on Gilead simply because the company has dominated the HIV space the way Genentech has dominated the cancer arena. By becoming the dominant player in front-line treatment, Gilead has developed a moat that will be hard for competitors to break into.

If you can't beat 'em, join 'em
I think it's safe to call Momenta Pharmaceuticals (Nasdaq: MNTA  ) the Genentech of the generic-drug world. Rather than going after the easy-to-clone drugs, Momenta is targeting the hard-to-make molecules like sanofi-aventis' (NYSE: SNY  ) Lovenox and Teva Pharmaceutical's Copaxone, which requires smart scientists more than it does patent-fighting lawyers. For about $11, you can have a share in a company taking the road less traveled in the hopes of having much higher margins.

Picking up an orphan
For $14 a share, orphan drug specialist BioMarin Pharmaceuticals (Nasdaq: BMRN  ) is a pretty good deal. The stock has been knocked down considerably because year-over-year revenue growth is expected to fall from 144% last year to just 3.5% to 13% this year, but it still looks like a good long-term play.

What I like about BioMarin is that it has been able to bring drugs to the market quickly. For instance, it took BioMarin about three years to take Kuvan, a treatment for phenylketonuria, from the laboratory through clinical trials to approval. That's insanely fast and helps the company reduce costs, which is important when you're developing drugs for a small treatment population.

Looking for the next Genentech
The way to make serious money off of drugmakers is to invest in them before they've launched their blockbusters, because the potential for multibagger returns is highest before FDA approval. The risk is also higher, so using a basket of stocks is the best way to reduce the threat of a blowup.

Company

Recent price per share

Exelixis

$4.89

Seattle Genetics

$10.22

Arena Pharmaceuticals (Nasdaq: ARNA  )

$4.14

VIVUS

$3.87

Orexigen Therapeutics

$3.14

Exelixis and Seattle Genetics both have partnerships with Genentech and well-stocked pipelines -- 20 drug candidates between the two of them, mainly treating a variety of cancers. Most are still in the early stage and some will inevitably fail, but that's still a lot of shots on goal.

The last three all have phase 3 drugs for treating obesity. Many of these drugs have been shot down because of side effects or because they came up short on effectiveness. It's not clear which, if any, will get past the Food and Drug Administration and become marketing successes. But the risk-reward looks pretty well-balanced, because any drug that makes it on the market should do extremely well in a market that's severely lacking choices. Just be sure to keep it a small portion of your portfolio.

Add them all up and you've got right around $95 worth of other companies to purchase. If you end up with some change left over, go buy some antacid. You're going to need it; this is drug development, after all.

BioMarin Pharmaceutical, Exelixis, and Momenta Pharmaceuticals are Rule Breakers recommendations. The newsletter is always on the hunt for hot drug stocks and other cutting-edge picks. See all of our latest discoveries with a free 30-day trial.

Fool contributor Brian Orelli, Ph.D., shed a single tear at 4:00 yesterday. He doesn't own shares of any company mentioned in this article. Natus Medical is a Motley Fool Hidden Gems pick. The Fool owns shares of Exelixis and has a disclosure policy.


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