NEW YORK, Nov. 5 - Biotech tool companies whose technologies are used in early-stage drug discovery are in for a long, cold winter, according to a recent market analysis.
R&D spending among some of the biggest biotech and pharma consumers will grow at a much slower clip as Wall Street applies pressure to curb losses and bolster earnings, according to the report by the investment bank Stephens. Plus, what little cash that is allotted for new drug-discovery technology will likely go to later-stage tools.
"What is disturbing regarding the tools companies, is that not only are you having an absolute slowing in the growth rate of R&D spending, you're also having within that spending more emphasis on molecules already in clinical trials," study author John Sullivan told GenomeWeb in a recent interview. "If something's in clinical trials, there's not more tool spending."
To be sure, R&D spending among some big pharma shops covered by Sullivan--Bristol-Myers Squibb, Merck, Pfizer, Pharmacia, Schering-Plough, and Wyeth--has increased in the third quarter 2002 from the same period one year ago. What's more, that relatively weak growth followed two consecutive quarters of strong R&D growth, according to the report, which was released on Halloween.
However, these companies spent an average of 6.8 percent more on R&D spending in the third quarter of this year than during the same period last year, which was less than the 7.4-percent increase reported during the same quarter in 2001 and 2000. In addition, the trend has already started to encroach into the fourth quarter and beyond.
"You'd like to see the rate of growth to continue to accelerate," Sullivan said. "And that rate of growth is decelerating. It's better than shrinking, for sure, but it's not as attractive as if it were growing more quickly." (Traditionally, investors like to see 10-percent year-on-year increases in R&D spending. This pace has become "unreasonable" in recent months, and Wall Street has begun to expect 8-percent growth, Sullivan said.)
Though many market stimuli typically conspire to fashion this dynamic, Sullivan pointed to one big one: Faced with anemic revenue growth and cagey capital markets, most drug companies have been told by investors to cut losses and bolster pipelines--two goals that for the most part are not mutually exclusive. "We worry that R&D spending growth could suffer as near-term EPS demands take precedence," he writes in the report.
One trend Sullivan found that may be particularly unnerving to genomic-tool companies showed that a greater portion of a drug company's R&D budget is being earmarked for tools that aide clinical development rather than discovery. While he didn't have hard figures to back the argument--drug companies are loathe to disclose how they apportion their R&D budgets--he said he's noticed "some pragmatism" among drug companies "with more funding going to later-stage programs and candidates where the payoff is more imminent." In other words, the clinic.
"The companies that are having the most success right now selling tools to drug companies have something that is used at relatively late stages of drug discovery," Sullivan explained. Technologies like Affymetrix's gene chips "are so additive that drug-company researchers can't afford not to spend on it."
Additionally, mass spectrometers, which exploit relatively old technology, have become very popular among drug discoverers after proteomic-tool companies began bundling them with liquid chromatography, said Sullivan. Thus, companies like Waters "have been able to continue to convince lab managers to buy the product."
Conversely, "there are technologies in which the gains have not been as dramatic, and therefore researchers can drag their heels in adopting the latest version." Developers of new gene-sequencing technologies fall into this category, said Sullivan. "The marginal benefit of new gene-sequence information is relatively low, so researchers are not acting as quickly to buy the products," Sullivan said, declining to name companies.
As it stands now, the R&D trend looks long term. Spending on new technologies will track revenue growth, said Sullivan. "And until revenue accelerates again, you're not going to see R&D spending accelerate again."