In conversation with Maher Yaghi

As Desjardins Securities’ healthcare and biotech analyst for the past five years, Maher Yaghi has gained a wide following with a blunt, tell-it-like-it-is approach to covering a sector that has struggled to win the hearts and minds of investors in recent years.  His early research and “buy” recommendations on Theratechnologies and Paladin Labs established his credibility for analytic research.  He also stayed clear of backing a number of the biotech companies that “blew up” in recent years, keeping his reputation largely intact.  In this exclusive interview with biotuesdays.com, Mr. Yaghi shares his views about the trends playing out in the sector, especially the lack of capital, and his best picks going forward.

What are some important issues facing the industry?

For many years, the idea was to take a new drug candidate as far as possible in the clinic before signing with a commercial partner so you could get the best deal terms.  Those days are over.  Now, partnerships have to be done at an earlier stage.  Companies that achieve positive Phase 1 results and want to move to Phase 2 without a partner will have a tough time raising capital.  By partnering early on, companies stand to benefit from the due diligence performed by a partner to evaluate their technology, which adds credibility on the science side.

The bottom line is that investors are shying away from companies that are only full of ideas.  There are two facts to consider: the difficulty raising capital is not going to change for the next year or two.  And the amount of capital available for the biotech industry is not enough to support the number of companies we have in Canada.

Does the industry need to rationalize?

Forcing a merger is not an easy task because we do not have a history of activist shareholders forcing the issue at the board.  Management teams have always believed the market would turn and capital would become available. Well, it’s not happening.  So, I think we’re reaching a point where some make-or-break decisions will have to be made. And some companies will not survive.

On the other hand, there is also an opportunity for established companies in the sector to invest in a restructuring of a company that needs capital, if they see a fit.  A great example of this was Paladin Labs’ partnership with Isotechnika earlier this year, which included a capital injection by Paladin in exchange for equity and certain drug marketing rights.

Is the situation as bleak as that?

No.  There is still an appetite to finance biotech companies that have an understandable business model that can achieve a return for shareholders.  The reason I see the financing window closed for many early-stage companies is that too many portfolio managers were burned in the past by negative clinical results and poor clinical trial protocols. That needs to turn around.

What is the state of cash?

Five years ago, the average cash for a biotech company was 1.5-to-3 years, but it is now down to ½-to-1 year.  That’s as low as I’ve seen it.

Is there a mergers and acquisition market in Canada?

Right now, no.  Big Pharma is looking to buy biotechs with a product on the market or a product in Phase 3 that could be ready when the peak in drug patent expiries arrives in 2011 and 2012.  There are only a few Canadian companies that fit.  One of them is Theratechnologies.  It is already partnered with Serona, so only Serona is in a position to buy Theratechnologies, if its product gets approved by the FDA.  The bulk of the Canadian industry consists of Phase 1 and Phase 2 companies and their products won’t be ready in time to meet Big Pharma’s pipeline needs.

Can valuations go much lower?

A lot of biotech stocks have done well this year coming off a very low base.  In general, the declines we’ve seen in the stock market in the past three years are behind us because many companies are now trading close to their cash value.  At this point, the only thing I can see that would move the market higher is some positive clinical trial results.  And I don’t mean one or two trials.  We need to see a positive trend going forward before the market will listen.

What are your best picks these days?

I don’t have a lot of buys in my coverage universe right now but my two best picks are Theratechnologies (TSX:TH) and Tekmira Pharma (TSX:TKM), both for their valuations and the potential for company-changing events.  With Theratechnologies, there is an FDA decision coming up on its HIV drug next spring.  Tekmira has leading edge technology in the area of RNA-interference, which is a hot topic in the U.S. right now.  Positive Phase 1 results in January could change the perception of this company and its potential.

One company I don’t follow so I can’t make a recommendation on its stock is Transition Therapeutics (TSX:TTH; NASDAQ:TTHI).  But it seems to be advancing its pipeline to the point where, if we see further positive clinical trial results, Big Pharma could look closely at it.

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In a research report last month, Mr. Yaghi explained that Tekmira’s lead drug, ApoB SNALP, aims to silence the gene involved in cholesterol metabolism and is being developed to treat elevated cholesterol levels.  Tekmira is also advancing a cancer RNA-interference drug and expects to announce a third RNA-interference candidate by the end of this year.  He figures it wouldn’t be unreasonable for Tekmira’s valuation to approach U.S. non-partnered Phase 2 biotech on an enterprise or technology value basis when the cholesterol drug advances towards Phase 2 studies. The average technology value of U.S. competitors in this sector is more than $200-million (U.S.), he points out.

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Maher Yaghi Title: Vice-President, Intellectual Property Analyst at Desjardins Securities Born: March, 1977 Education: B.Sc. degree in biochemistry, McGill University; M.Sc. degree in finance, Hautes Etudes Commerciales, Montreal. Career Highlights: 2000-2003: analyst and portfolio manager at Standard Life Investments, Montreal; 2003-2005: healthcare research at BMO Capital markets, Toronto; 2005-today: vice president and intellectual property analyst at Desjardins Securities, Montreal; 2007-today: assistant professor at Hautes Etudes Commerciales for Bcom and MBA finance classes, Montreal.

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