Rule Breaker Portfolio
Rule Breaker To Buy PE Celera Genomics Corp.
December 16, 1999

**This trade is being made under the regular portfolio policy, namely, once The Fool announces an intention to trade, that trade will be made within the next five trading days. For more detail, please read the New Trades section of the Rule Breaker Portfolio.**

At some point in the next five market days, the Rule Breaker Portfolio is BUYING approximately $50,000 (about 5.7% of the RB portfolio's current value) of:

PE Celera Genomics Corp. (NYSE: CRA)
761 Main Avenue
Norwalk, CT 06859
Phone: (203) 762-1000
Fax: (203) 762-6000

Closing Price (12/16/99): $76 3/16
Average daily volume: 276,000 shares
Daily dollar volume: $19.87 million

Market Cap: $1.86 billion
12 Month Sales: $10 million
Price-to-Sales ratio: 186

Transaction Stats: On December 17, 1999, the RB Port bought 1,260 shares of Celera at a split-adjusted $39.75 per share, plus an $8 trade commission.

Celera Quote | Celera Snapshot | Celera Chart | Celera Financials | Celera Estimates

One year ago, we added to the Rule Breaker Portfolio the first of what will be many different investments in companies that use biotechnology. We said at the time that we believed the two most significant Rule-Breaking industries over the foreseeable future are the Internet and biotechnology. And we called that investment, Amgen (Nasdaq: AMGN), a "biotech company," the top dog and first-mover in the "biotech industry."

But truth be told, we now regret that phrasing, because biotechnology is not an industry. It is a technology. There is no "biotechnology industry," per se -- just as there is no "Internet industry." There are many, many companies that use biotechnology or the Internet in order to profit, providing products or services that customers find attractive and valuable. But just try to identify a single "top dog" Internet or biotechnology company. It's not really possible. Again, these are technologies that different companies adopt in order to gain a lead in one industry or another.

We are Rule Breaker investors, and we love biotechnology. We are amazed by our species' increasing ability to understand, and in some critical and exciting ways, reengineer the world in which we live. It puts us in mind again of one of our ten favorite quotes from the Bard, holding as it does so much optimism -- and so much applicability in our own age, a Renaissance of a new sort, but every bit as exciting as what happened in Europe 400 years ago:

What a piece of work is a man! how noble in reason!
how infinite in faculty! in form and moving how
express and admirable! in action how like an angel!
in apprehension how like a god! the beauty of the
world! the paragon of animals!

This classic humanistic expression reminds us not only that we are a piece of work, but that as pieces of work we can actually be reworked. Ask the sufferers of cystic fibrosis who should, not before too long, have a treatment that replaces the single faulty gene responsible for the condition with a healthy gene. Bang-o. That's just one small example of what can be accomplished through genetic engineering. Anyway, before we set down to explaining what we have chosen to dub the next of our Rule Breakers, we must define a few terms.

What does "biotechnology" mean? Good question. Here's what it means to us: Biotechnology is the application of biology for human ends. This is a broad-brush, encompassing definition obtained from the excellent primer Improving Nature?: The Science and Ethics of Genetic Engineering by Michael Reiss and Roger Straughan. It speaks of the use of our understanding of genetics to rework the world in diverse ways that are deemed more satisfying to us, as stewards. The various examples of biotechnology run the gamut from the crossbreeding of plant and animal species by farmers to obtain living beings that otherwise would not have existed (blue roses and bulldogs, for example) to the stimulation of white-blood-cell growth in chemotherapy patients (Neupogen, Amgen's billion-dollar bioengineered protein).

Looked at in this simple, rational conception, biotechnology is not something cooked up in a test-tube by a mad scientist eager to create a man-eating frog the size of an elephant. (OK, we should watch our backs, because something like this may eventually be possible, of course.) No, biotechnology is just a very powerful technology that -- like any other -- must be used responsibly and constructively to beneficial ends.

All sorts of fascinating discussion and debate surrounds all of these ideas, phrases, and words, which it is not within the purview of this report to address. We do look forward in our daily Rule-Breaker scribblings to discussing many thoughts and considerations of the issues at stake here, however. For now, suffice it to say that we consider biotechnology (as we have defined it) "the application of biology for human ends," and, that together with the Internet and the emerging technology of wireless, biotech makes up one of the three most interesting, world-shaping, outrageous, Rule-Breaking technologies of our time. Period.

Which brings us to that other term we wanted to define: "Celera."

What does "Celera" mean, Latin students? Well, our schooling did not include Latin, but our dictionaries retain their etymologies. Inquire about "celerity" of Mr. Webster and you will find the Latin root "celera." Two thousand years ago, that very word -- "celera" -- came off the tongues of Roman philosophers, centurions, and emperors and it meant SPEED. And that is exactly the idea of the word today, in reference to the company we'll be buying. Celera is all about SPEED, about using computers to SPEED up our human understanding of our own genetic code, to SPEED our way toward new genetic destinies, and for this company to SPEED its way past the competing Human Genome Project.

Those who are buying Celera, are buying SPEED.

Let's talk about that. Let's understand it. To do so, we adopt the framework that we use for all Rule Breaker reports. We examine Celera in light of the six Rule-Breaking attributes spelled out in our book, Rule Breakers, Rule Makers. To summarize:

Top dog and first-mover in an important, emerging industry.

Sustainable advantage, gained through business momentum, patents, visionary leadership, or incompetent competitors.

Smart management and good backing.

Excellent past price appreciation, measured by a relative strength of 90 or greater.

The greater the consumer brand, the better.

A recent constituent of the financial media has recently called the company "grossly overvalued."

Top dog and first-mover in an important, emerging industry.

The important, emerging industry in question is human genetic information.

We are presently living in the B.U.G. era, which is one way to view the calendar of human history. B.U.G. years are the years "Before Understanding Genetics" -- human genetics, that is -- which has been one consistent historical era since our planet was formed 4.5 billion years ago. The entire history of Planet Earth has been purely "buggy."

But two key developments have propelled us to the climax of the B.U.G. era. The first is Gregor Mendel's discovery of genetics, which began in the 1850s in Moravia as he crossed varieties of the garden pea in his small monastery garden. The eventual results of this first key development are evident today, where after many further advances and efforts, we are now able to manufacture human proteins and clone animals. The second development is the huge gains in computing power achieved over the past 30 years. It is symbolized perhaps by the laptops upon which this report was created. A little Pentium laptop holds many times the computing power of machines that just one generation ago looked like huge vacuum cleaners and occupied whole rooms. (And you ain't seen nothin' yet -- referring to advances in computing power, that is, not this report.)

Either of these developments on its own provides outstanding rewards in efficiency, productivity, understanding, and the profits netted by those who dreamed them up. But put both of them together -- genetic studies with computing power -- and you arrive at the inevitable result: a total understanding of the genetic map. The same four nitrogenous bases that run through human DNA -- adenine, cytosine, guanine, and thymine -- run through plants, animals, and all living things. We are working toward a total genetic map -- a total understanding of where every gene sits in every creature, and what each one means.

While we are still a long way away from a total genetic map of everything, we are getting increasingly close to a genetic map of one particular species that has always held our imagination and interest: our own. We presently appear to be less than two years away from having mapped human DNA, the human "genome." ("Genome" simply means the total genetic material of a species.)

The plan initially was that this would be a government-sponsored project, called the Human Genome Project, which is a fascinating and worthy effort on the part of many scientists and the government to map the genome. However, recently senior executives at scientific-instrument company, PE Corporation, realized that with enough computational power and the right people onboard, they could complete a full map of the human genome before the federally funded Human Genome Project's year 2005 goal. When PE Corp embarked on its new project, it had one man in mind to lead it. That man (more on him later) had developed a super-fast gene sequencing technique, called a "shotgun technique." PE Corp wanted the inventor of the shotgun technique to lead its new company. The inventor is Craig Venter. The new company is Celera.

So, to cut to the chase on this, the first attribute of the Rule Breaker: Celera is the top dog and first-mover of the important, emerging industry of bioinformatics.

(Required reading: Run your mouse -- don't walk it -- to this message board post, post #4885 from the Rule Breaker Strategies board.)

OK. Ready?

Celera's business involves decoding genomes, patenting its discoveries, and selling access to its databases, mainly to pharmaceutical and biotechnology companies that want to create cures using genetic engineering. Specifically, the company sells subscriptions to its genome information, will increasingly offer genomic information management and analysis software, and collects royalties and licensing fees resulting from its work.

At its root, then, you can see that Celera is at least as much of an information technology company as it is a biotech company. The information that Celera is on track to discover could be the cornerstone for most future drug research and development. The opportunity to identify and replace one or more genes to cure a disease (not just for the afflicted but for all his or her future offspring) should in most cases be far more effective than hoping to discover a cure or balm from chemicals or organic substances drawn from nature. Realizing this, Celera's mission is to become the definitive source of genomic and related medical and agricultural information.

Will drug companies partner with Celera and pay money to use its information? Amgen, Novartis, Pharmacia & Upjohn, Rhone-Poulenc Rorer, RhoBio and Pfizer have already signed agreements with Celera, agreements totaling more than $100 million in value. And this makes sense, doesn't it? Think about it in the terms used by Tom Headrick, from our Fool community. Tom asks: "How much does it cost to bring a drug to market using today's current methods? How much of that cost will be eroded by having this genetic/biological material available in the database as a springboard launching a new drug or therapy for drug companies?" He closes by pointing out, "That's why they are [working with Celera]."

In the "informatic" part of "bioinformatics," Celera has used the help of its parent company, formerly Perkin-Elmer, now called PE Corporation, to obtain a leadership position. PE Corp supplied Celera with the vital technology and the initial funding needed to generate results. Now, success is already arriving. In record time, Celera completed the sequencing phase of the fruit fly this year, thereby showing its sequencing technology to be the quickest in history. Check this out and see if it makes your spine tingle. From Celera, on September 9, 1999:

"Celera Genomics announced today that it has finished the sequencing phase in deciphering the genome of Drosophila melanogaster, the fruit fly. Over 1.8 billion base pairs -- letters of genetic code -- were sequenced in completing the sequencing phase. Celera began to sequence the genome of Drosophila and deliver data to its subscribers in May 1999. By comparison, the first genome of a free living organism, Haemophilus influenzae, consisting of 2 million letters of genetic code took one year to complete, and other early genomes not using Celera's whole genome shotgun strategy took over a decade to complete.

"Celera now turns all its sequencing resources towards the sequencing phase of the human genome."

Like a battleship swinging its giant guns around to point squarely at you, Celera kicked the fruit fly's sequencing information out with mind-blowing speed and then immediately turned all of its sequencing resources (and you're going to see that's a HECK of a lot of resources) to the human genome.

The following sections of this report will demonstrate, piece by piece, that Celera is the top dog in this important, emerging industry. We'll see how Celera has three times more computational power than its nearest competitor, and how it has 15 times the data management capacity. Celera also employs world-leading scientists and technologists who are capable of handling the SPEED of its computers, and the output. (We want to point out that even if the company fails in business, it will have accelerated the work of others and presumably helped our species a great deal. So, whatever happens, we'll get that satisfaction from this investment.) Celera is so speedy that, although it took over 10 years for other companies to map less than 10% of the human genome, this year Celera has reportedly mapped nearly one-third of it already. It is top dog.

Is the company the "first-mover"?

Celera wasn't the first to consider mapping parts of the human genetic makeup. Incyte Pharmaceuticals (Nasdaq: INCY), Human Genome Sciences, and Gene Logic (Nasdaq: GLGC) moved in this direction before Celera existed, much like dozens of book sellers existed online before (Nasdaq: AMZN). However, Celera is the first mover in attempting to create a highly detailed map of the human genome (all of it), and it is the first to use Venter's shotgun approach and 300 gene sequencers (more on that later) to do the job. It appears that the shotgun approach is working, and working quickly, so being the first mover to use this approach may be what matters most. Using this approach, Celera already leads the human genome "race."

And this race is not crowded. Celera's "competitors," except one, focus on mapping parts of the human genome, not the entire enchilada. The government's Human Genome Project is the only big competitor aiming to complete a map of the human genome, but because it has been using a traditional physical mapping technique (more on that later) it has moved slowly compared to Celera. Also, its ambitions were lower until Celera announced its intentions. As soon as Celera was born, HGSI increased its intentions regarding its mapping of the genome.

So, in the ways that count most, Celera is first mover. As Fool Kevin DeWalt pointed out in his post (CRA board #76), Dr. Venter and Celera have:

  1. Sequenced the first entire genome of a living organism (in 1995).
  2. Most aggressively pursued building the technological platform to sequence DNA.
  3. Committed to becoming the first private [meaning non-government, because it's obviously public] organization to sequence the human genome.
Celera was the first company outside the government to announce that it would try to map the human genome, and it is the first company to attempt to do so at such great length.

The whole of this report will show how Celera is leading, but where is it going? Once the company owns scads of genome information, what will it do with it?

Celera wants to be the leading provider of genome information and offer multiple services related to the information. Can Celera profitably be a genome information provider? The company's growing list of clients and partners has some people predicting that Celera could be profitable in 2002 or 2003. This prediction is a Crap shoot, but it is not nearly as random as Craps, nor is it beyond logic's reach.

Let's move to #2.

Sustainable advantage, gained through business momentum, patents, visionary leadership, or incompetent competitors.

The best Rule Breakers possess key advantages: Amazon's giant customer base, AOL's worldwide brand name, Starbucks' omnipresence.

Celera has a monstrous technological advantage over all competitors; it also is one of the most respected bodies of management in the scientific world; and it has shown the greatest speed in mapping a genome. The company's only head-on competition is the Human Genome Project, but at the rate Celera is moving, it could reach its goal by 2001, well before the competition. By computational power, Celera is three times larger than any other gene-sequencing lab in the world, and Celera is on course to house the second-most powerful computational facility on the planet. Celera should be able to sequence 30 billion base pairs of DNA annually, and it will have 10 to 20 times more capacity for sequence information than its largest competitor.

Several companies have undertaken genomic research and isolated gene sequences from the human genome. These companies, including Millennium Pharmaceuticals (Nasdaq: MLNM), Myriad Genetics (Nasdaq: MYGN), Genset (Nasdaq: GENXY), and others, are commercializing their findings, meaning they're selling them to biopharmaceutical and healthcare concerns. However impressive these companies are, though (and they are), they are not sequencing the human genome. Because they're not, the output of these competitors may actually prove to be complementary to Celera's ambitions, rather than combative. Focused genetic information created by these companies could serve to complement Celera's genome information.

Whether or not this proves accurate, we still see any genetic-based companies as potential competitors. But there is only one large competitor in the minds of many. If the government's Human Genome Project provides a free map of the human genome to the public, as it plans to, then Celera, in trying to sell its information, will compete directly with the federal government and its free data. Many people see this possibility as a significant strike against Celera. Perhaps it will be.

Then again, consider Linux software. Linux is freeware (like genome data might be), but there is tremendous value being created by Rule Breakers, such as Red Hat Software (Nasdaq: RHAT), that offer Linux-related services and value-added Linux products. In similar fashion, Celera will likely offer the most detailed genome information, and it will offer it with an unmatched level of expertise. Celera will be paid to help clients actually make use of complex genome data. Creating a business this way, Celera can, and will, give genome data away for free, too, thereby lessening our fear that the Human Genome Project can harm it. (Celera charges for the right to preview the fruit fly genome, but soon the company will distribute the information freely and charge for services related to it.)

So, Celera has the best technology and management (as we'll see in a moment) and this gives it numerous advantages over competition, but is the competition inept? Not by any means. Although we can't say that Celera has inept competition, given Celera's gene-sequencing lab (the most advanced in the world), and provided its jump on the competition (already!), we can say that Celera and its technology is making the competition look much less imposing.

However, Celera can't succeed on rooms filled with cool technology alone. The company spends over $65,000 a month on its electric bill. It needs cash. Luckily, it has cash. While the competition is typically strapped for greenbacks, Celera recently had over $200 million in cash and it will be paid over $75 million by its sister company, PE Biosystems (NYSE: PEB), over the next three years. This should be enough money to fund Celera's operations beyond 2001, and by the end of that year Celera plans to have the human genome mapped and several more paying business partners feeding the company coffers.

After mapping the human gene sequence, Celera will begin to map the genomes of the next species up the ladder, the rat. (OK, bad joke there, but it's true that the rat is next.) The rat is to be followed by the mouse and agricultural species, including rice and maize. Interest in information on these species will span several industries all around the globe. (How to make stronger corn will interest Iowa. How to make rats shrink will interest the city of New York.) All told, Celera will strive to build itself as the predominant genome information portal in the world, offering details and analysis on genome data for anything from salmon, to beets, to perhaps Grizzly Bear.

You can only imagine the revenue potentials of offering such a massive amount of varied and powerful (almost frighteningly so) information. (Industry estimates are all in the billions.) Clearly, the human genome promises to be the most helpful to humans for its ability to help scientists cure disease, but at the same time, we will be able to make food much more tasty in years ahead, and that ain't a bad benefit either. Food companies will pay for this advantage. This is all a roundabout way of saying that there isn't obvious competition on the horizon that stands to get in Celera's way as it begins to "map" the entire living world. Nobody has the computational power, the management, and the speed that Celera is showing.

Then there are patents. Some Fools have been concerned that Celera may not be at the forefront in obtaining patents. Competitors have literally filed for tens of thousands of patents while Celera, at recent count, had filed for about 7,000 gene patents. Other Fools wonder if Celera will be able to patent the human genome, or other gene sequences, at all. After all, who really owns this information? A God somewhere on high? Maybe. So, who will be allowed to own the information down here on Earth? That question could be decided by the courts, and some people believe the court will not allow anyone to own the information. We think differently. In healthcare so far, we've seen that discovering companies are given the right to patent scientific information that they unravel. Genes don't appear to be any different.

While we do believe that the discovering company will own the patent to the human genome, we don't believe that a patent on the information will be vitally important anyway. Celera will be selling smart information, not mere strands of letters the likes of which anyone could theoretically copy. The company will sell its expertise -- an expertise aided by its having the most precise genome information organized in the most useful form, and from employing many of the smartest scientists in the world. Patents or not, Celera stands to possess more genetic information than any other company, and, presumably having discovered it, it will have inherent rights in how to organize, manage, analyze, utilize, and distribute it. Celera plans to patent 300 specific genes of the human genome as well as the process of using them, and we don't see anybody stopping this. (For excellent thoughts regarding patent issues further, see this post by Fool ElricSeven.)

Next is momentum.

When it comes to business momentum, Celera -- Mr. SPEED -- has it. Recently up and running, the company already completed the sequencing phase of the fruit fly genome by sequencing more than 1.8 billion base pairs by September. Celera did more sequencing in nine months than other companies have completed in a decade. Assembly of the genome should be done before 2000. Celera's sequencing of the fruit fly in under a year serves as "proof in the pudding," so to speak, that the company is able to quickly construct genomic DNA in its new lab.

The fruit fly genome is much larger than any other genome sequenced in all of history, so to complete it so quickly is revolutionary. (Right now Celera is gunning through the human genome.) Thus, Celera has more "momentum" -- more SPEED -- than any other company that we've ever bought. Human Genome Sciences and Incyte required several years to sequence less than 10% of the human genome. Celera is hoping to do the whole shebang in under 27 months, and is already well on its way.

So, other than visionary management, which we address next, criteria number two is now complete. Celera has a sustainable advantage due to technology and its brain trust. It has seemingly unsurpassable business momentum due to the same and its speed. It does have competition, namely from the government, and large questions remain regarding how much money Celera can earn from its information if the government provides similar information for free. We're betting on Celera's proprietary expertise and detailed knowledge to sell, though, and we believe that we're already seeing this happen via the partnerships Celera is signing with firms like Pfizer. We're also betting that Celera's genome data quality will top that of its competition, largely due to the same two advantages already mentioned, technology and management. As for patents: intellectual property abounds at Celera, and with it patents will, too. The company has been filing for patents steadily, and it will continue at a regular and likely increased pace. This baby has several moats built around its business, and the sustainable advantages of a true Rule Breaker.

Continue to Part 2 »