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Investing in Genomics: Why This VC Went for Diagnostics

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There is no question that tough times are ahead for major pharmaceutical companies. In addition to general economic woes, big pharma is facing some unprecedented challenges all its own. Industry analysts estimate that branded drugs with nearly $30 billion of annual sales will lose patent protection over the next three years. Pharmaceutical pipelines are at historic lows and the industry has not seen a drug with sales in excess of $1 billion since Vioxx in 1999. Several high-profile drugs have recently been pulled from the shelves and the chief position at FDA has been vacant since George W. Bush’s inauguration.

One avenue of opportunity to resuscitate the drug market should be an increase in drug discovery activity — an area that would likely be fueled by the mapping of the human genome. This bet on genomics comes with a near-term spike in R&D spending for pharmaceutical companies, however, and most agree that the payoff in terms of actual new drugs remains well down the road.

VCs have put significant dollars into companies that promise some role in the genomics wave, but as a later stage investor, ABS is charged with finding companies that have revenues, established customers, and seasoned management teams — not many companies working in the genomics sector fit our investment profile. The diagnostic lab testing business is an exception. It has evolved from a solid, slower growth, outsourced service business into, surprisingly, the first application of the human genome.

The US clinical laboratory business is approximately a $34 billion market. The industry has undergone a critical transformation as laboratory tests play an increasing role in not just the diagnosis of disease, but also in recommending and monitoring treatment. In recent years, managed care providers have also altered their stance on diagnostic testing, embracing the view that a more expensive and sophisticated test today will save on additional ineffective tests and treatments tomorrow. Medicare has acted in concert and, although it is not the largest portion of laboratory revenue, it is frequently used as a pricing benchmark by other payors.

Oncology testing is one of the areas where we are seeing the impact of genomics now. Cancer testing is believed to be approximately a $6 billion market and as scientists evolve their comprehension of the characterization of malignancies and the genetic makeup of tumors, there will be increasingly more sophisticated, genetic-based tests to identify and treat patients. In addition to testing current cases of cancer, a heightened knowledge of the genetic blueprint should allow for early detection and better forecasting of how specific tumors will react to treatment.

Eventually, drugs and diagnostic testing will be cultivated in parallel, as genetic-based testing will produce the necessary information to develop targeted treatments.

One year ago, ABS Capital invested in US Pathology Labs, which is an anatomic pathology reference laboratory specializing in oncology. US Labs utilizes state-of-the-art methods and technologies to analyze tissue and determine patients’ prognosis and potential response to therapies. It provides genetic tests including the HER-2/neu test. US Pathology Labs and companies like it have the infrastructure to leverage the latest genomic research, to understand and treat specific strains of diseases, and to make these advances meaningful to doctors and their patients.

While the pharmaceutical sector struggles, there are still bright spots for doctors, patients, and investors. Genomics has not proven to be an industry cure-all, but it is improving the success rate of R&D efforts, and genetic-based testing is supporting significant progress toward personalized medicine. Informed pharmaceutical executives will stay keenly focused on the role more sophisticated testing will play in helping to identify appropriate candidates for their therapies and ensure the efficacy of the treatments for these patients. Continued efforts in the area of genetic-based testing will help pharmaceutical companies spend their R&D dollars effectively, while gaining a better understanding of how best to develop targeted, appropriate therapies for a broader range of patients.

 

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