Biotech Bargains for Your Portfolio

Everyone is looking for bargains this time of year. That includes pharmaceutical giants looking to pick up some biotechs on the discount rack, and investors trying to get there first.

The easiest way to value a drug company is by looking at its enterprise value. That's simply the market capitalization, minus the company's cash and equivalents, plus its debt. Essentially, that's what it would cost for a pharmaceutical giant to buy the company at the current stock price since the acquirer would get the company's cash and assume its debt.

Companies with low enterprise values are usually that way for a reason and separating the loss-leader black-Friday bargains from the crowd isn't easy, but let's give it shot.

I ran a screen using the following criteria to get us started:

• Market cap above $125 million to avoid the penny stocks.
• Enterprise value of less than $600 million.
• Four or five stars in Motley Fool CAPS -- using community intelligence to get an idea of what other investors think are bargains.

Here's a few that look interesting:

Source: Capital IQ, a division of Standard & Poor's, and Motley Fool CAPS.

Free money!?!
That's not a typo. Myraid Pharmaceuticals is trading for less than the cash and short term investments on its books. When the company was spun off from Myriad Genetics earlier this year, the company was seeded with a drug pipeline and enough cash to tide it over for a while.

It's not that investors think its pipeline is completely worthless. Instead, they're valuing the company now based on what Myraid will look like in the future. Without a source of revenue, the company's bound to have a lot less cash in coming years than it has today.

Sure, some larger drug company could come along and offer to purchase the company -- it happened to Facet Biotech with Biogen Idec (NASDAQ:BIIB) -- but until investors are certain of that happening, Myraid will stay valued based on its projected future cash levels.

But ... but we have drugs on the market
Spectrum, 3SBio, and ViroPharma all have drugs on the market, but they're being valued like their drugless brethren.

In Spectrum's case, the low valuation is understandable; the company is still losing money, and the two drugs it does have are fairly low sellers -- just $23 million combined so far this year. Spectrum's Zevalin was recently approved as a first-line therapy for lymphoma, so there's potential to increase sales, which would naturally increase its enterprise value.

3SBio sells generic drugs in China. Sure, investing in China can be scary, but ascribing a $185 million value to drugs that sold for $44 million over the last year seems a little low. Sure the drugs are copycats of ones sold in the U.S., but 3SBio still manages gross margins near 92%, and it's been profitable for many years.

ViroPharma has two drugs on the market headed in the opposite direction. Vancocin hasn't been covered by a patent for years, but it's continued to enjoy a monopoly in the U.S., where the Food and Drug Administration has been reluctant to approve generic versions of the antibiotic. Unfortunately, it looks like that's going to change, after an advisory committee recommended approving generic versions of Vancocin.

With a $450 million enterprise value, the lost Vancocin sales are already priced in. Recently approved Cinryze, which treats hereditary angioedema, a rare swelling disease, has a current run rate of about $110 million a year, but management says it has many patients who are working on getting reimbursement completed, so that they can get on the medication.

A well-stocked pipeline
Exelixis is the most expensive of the bunch, and it doesn't have any drugs on the market, but it does have an outstanding pipeline. It's outlicensed five drugs to companies including GlaxoSmithKline (NYSE:GSK) and Bristol-Myers Squibb (NYSE:BMY), and it has another eight oncology drugs that are fully or partially owned by the company. If any one of the compounds makes it through the marathon of clinical trials, Exelixis should fetch an enterprise value of a couple of billion dollars.

Before you go shopping
Enterprise values are a good way to determine what a pharmaceutical company would have to pay to purchase a company, but that doesn't mean that they'll come along and buy them. If you're going to invest in these companies, you should plan on holding them long enough for them to increase in value of their own volition.

Think you've found a biotech bargain that's being undervalued by the market? Share it in the comments section below.