Encouraging signs in M&A and IPO-activity could make 2024 the comeback year for Biotech and Life Science stocks
Regular readers of the Bio Snack are familiar with our repeated focus on the various sector fundamentals when we discuss the prospects of Biotech and Life Science stocks. Of course, interest rate development and changes in overall risk appetite in financial markets play an important role. It should be remembered, however; predicting interest rate development is very difficult, and even if predictions are correct, they typically only have a short-term effect. As liquidity in Biotech and Life Science stocks can be low – especially in mid- and small-cap stocks – it is important to view investment opportunities in the sector from a long-term perspective as you can’t be sure to unwind your investment easily. This requires support from fundamental factors. Among other things, fundamental factors to consider are medical development advancement, valuations, ability to refund, venture capital levels, thematic or structural investment opportunities, M&A activity, and IPO activity. Some of these factors are unchanged from either a positive or negative perspective.
The medical development advancement and valuation factors are unchanged positives. Companies are moving their scientific development plans forward more or less as planned. Due to re-funding challenges some companies have re-prioritized or postponed projects in their pipelines, but generally the Biotech and Life Science sector continues to offer patients, society, and investors potentially new and valuable treatments. In terms of valuations, as the medical advancement is moving forward more or less as planned, the huge underperformance of approximately 40 percent on average for Biotech and Life Science stocks in the last three years suggests that valuations are very attractive from both an absolute and relative perspective.
On the negative side, the ability to refund and the willingness of venture capital funds to put their money to work, continue to affect the sector negatively. The ability to refund through the stock market is still very difficult and/or very expensive and risks a huge diluting effect. Companies trying to mitigate these challenges by engaging in various bridge financing schemes, until the ability to fund through the stock market improves, often get access to capital faster, with lower transaction cost and without or low dilution, but typically still end up with very high interest rates putting pressure on the already constrained liquidity situation. The venture capital Biotech and Life Science speciality funds have plenty of cash but are still sitting on this. This sends both a positive and negative signal. It is positive that there is plenty of cash available for a Biotech and Life Science sector that desperately needs it, but negative that these ‘expert type’ of investors still don’t see it attractive to put their money to work.
Looking at the fundamental factors that are developing positively, thematic and structural opportunities could create a huge tailwind for many Biotech and Life Science companies and the sector. Thematic opportunities could arise from the introduction of AI into drug development in different ways. Some Biotech and Life Science companies are beginning to integrate the usage of AI into their development processes, and some companies are beginning to get products based on AI approved by the FDA. Whether the introduction of AI will have a disruptive or evolutionary effect on product development is still too early to say, but it will undoubtedly have a value-accretive effect from an optimization and efficiency perspective in terms of product development. Examples of structural opportunities are the increase in Covid-19 related product development a couple of years ago and obesity-related product development currently. The positive difference is that the market for obesity will continue to grow permanently, whereas Covid-19 was a temporary opportunity.
Lastly, we have the positive development in M&A and IPO-related activity that both bodes well for the prospect of Biotech and Life Science stocks. Big Pharma, awash with cash, has clearly upped its game in acquiring Biotech and Life Science companies or partnering with them to fill their pipelines as patent cliffs loom in the coming years for some of the major Big Pharmas like GSK, Roche, and Pfizer. In the last months of 2023 and in the beginning of 2024, we have seen a huge increase in M&A activity. As an example, according to Fierce Pharma the top 10 M&A deals in the Biotech and Life Science sector were USD 115.8 billion in 2023, almost a doubling of the USD 65 billion amount in 2022. If this continues, it will clearly support the sentiment towards Biotech and Life Science stocks on a broader and fundamental level. While Big Pharma has become more active, it should, however, be noted that the increased level of activity is primarily due to medical and scientific considerations relating to their pipelines, which makes it uncertain to assess when and where the next deal is going to come from. In terms of the IPO window, the increased activity reflects a more direct indication of a more positive sentiment towards the Biotech and Life Science sector from an investment perspective. Interestingly, according to Fierce Pharma, not only has the IPO window opened again with upsized price ranges and number of shares, but 75 percent of IPOs within the Biotech and Life Science sector that have taken place in 2024 have seen their prices increase on the first day of trading.
To summarize, Biotech and Life Science companies continue to be challenged to refund their activities, and companies are still not seeing specialty venture funds increase their interest for their stocks, but with valuation remaining very attractive and the medical advancement still moving forward more or less according to plan. AI and obesity are examples that will generally accelerate development efficiency and widen the markets for Biotech and Life Science companies. And in terms of M&A- and IPO activity, both Big Pharma and investors in the stock markets are showing increased interest. Put together, the current pause in Biotech and Life Science stocks performance could potentially be replaced by a positive development if the IPO window continues to be opened and Big Pharma continue to make deals.