By Randall Osborne

Editor

Once upon a time, positive news from any biotechnology company meant a sure boost in the stock of most of the others. It seemed that investors ¿ charmed by the newfangled science when, for example, strong Phase III data came in ¿ couldn't get enough.

But when the news for a single research project was bad, shareholders hated the whole industry. That gosh-darned fiddling with DNA, they said, just didn't work.

Times have changed. Sort of.

As the sector matures, money is aimed with ever-increasing care. Biotechnology investors grow more sophisticated by the week, and the only thing close to the situation of those earlier days came with the recent genomics hysteria, when deep pockets from outside the space began throwing cash at companies with reckless abandon.

They figured they had found a new dot-com field to farm (or a new mountain to strip-mine). The love affair with genomics was on.

Analysts called for caution, patience and careful evaluation but the nature of the newcomers was not such that they understood these concepts.

As Scott Greenstone, analyst with Thomas Weisel Partners LLC, put it: "This is [still] a sector driven by the emotions of fear and greed."

Industry observers, noting the proliferation of "toolbox" and genomics database outfits, warned of a necessary winnowing, not far down the road. The best would survive, they said; the rest would consolidate, or disappear.

In this context arrived the news from genomics player Affymetrix Inc. earlier this month, that its revenues for the second quarter would fall below expectations. The firm blamed "lower than anticipated orders for the company's GeneChip product line and a further decline in the spotted array instrumentation marketplace."

Revenues will be about $44 million to $50 million, Affymetrix said, including $3 million to $4 million from Perlegen Sciences Inc., with a net loss between $4 million and $7 million.

The company's stock toppled 36.5 percent, closing at $26.01, not far from its 52-week low of $22.10. Even for Affymetrix, whose stock has known severe ups and downs (its 52-week high is $103.75), the blow was significant.

Doing little to take the edge off the news was talk in the firm's press release of "multiple market factors stemming from the current economic climate" ¿ especially when those words were followed by language like "increasingly difficult to predict financial performance" and "could be sporadic for at least the next two to three quarters."

The day had been bad enough for biotechnology. Praecis Pharmaceuticals Inc. said the FDA had found that the new drug application for Plenaxis, the prostate-cancer drug Praecis is developing with Amgen Inc., lacked sufficient data for approval. Praecis lost 27 percent as a result, closing at $16.55. Amgen seemed to take the news in stride (marketwise at least), finishing 22 cents higher, at $66.97.

Things weren't going well to begin with, for genomics or anyone else. The Nasdaq Biotechnology Index dropped 1.7 percent for the day, and the Amex Biotechnology Index fell 3.2 percent, but they had been showing declines daily for about a week.

On the day Affymetrix's stock was reacting poorly to the earnings forecast, even the mighty Millennium Pharmaceuticals Inc. (whose pipeline is so broad it could hardly be restricted solely to the genomics realm anymore) lost 4 percent.

Everybody suffered.

But eyes were focused particularly on genomics, and analysts speculated on what the Affymetrix news might mean for firms such as Applied Biosystems Inc., which lost 4.2 percent the first day of trading after Affymetrix's news. Would the likes of ABI ¿ developing and marketing instrument-based systems, reagents and software, mostly to larger-cap pharmaceutical makers and researchers working with grants from the National Institutes of Health ¿ escape the fallout from Affymetrix's woes?

Bruce Cranna, an analyst with ABN Amro Inc., said ABI would likely escape what he called the "Affy effect," since ABI's smaller biotechnology customers represent only about 15 percent of total sales, and no slacking of demand for the firm's sequencers and reagents.

"I just think, honestly, that the market has taken its pound of flesh [from ABI] this year, and the risk is priced in," Cranna said.

Analysts covering Luminex Corp., an instrument maker whose primary sales route is not the same as Affymetrix's, mulled the meaning (good or bad) of Affymetrix's news, too.

Luminex's LabMAP is directed broadly at existing clinical diagnostics rather than specifically at gene expression, like GeneChip, which buyers can use in developing tests. LabMAP can do up to 100 assays simultaneously on a drop of fluid, using microsphere-based assays with small lasers, advanced digital signal processors and software. If Affymetrix's harder times push Luminex stock down because genomics-mad investors can't tell the difference, then Luminex would become ripe for smarter gamblers to buy low.

Affymetrix offered its perspective on the earnings news. The trouble has to do with "business uncertainties" facing pharmaceutical customers, it said, as well as irregular orders from bigger ones and an overall slump in the spotted-array market. It's all "consistent with a continued shift in user preferences away from do-it-yourself arrays to presynthesized arrays," the company said.

Such factors "do not appear to be affecting growth of the company's GeneChip product line in the academic and biotech market segments," Affymetrix added.

Another development: Just before Affymetrix let out its earnings prediction, GlaxoSmithKline plc revealed in an SEC filing that it had reduced its holdings in the company by 600,000 shares in late April and early May, dropping Glaxo's stake from 14.5 percent to 13.4 percent, or about 7.73 million shares.

But a separate pharmaceutical giant made known its vote of confidence in Affymetrix. Roche Diagnostics GmbH, a division of F. Hoffmann-La Roche Ltd., said it plans to commercialize within two years a cytochrome P450 diagnostic product based on GeneChip. The P450s are enzymes involved in liver metabolism and the synthesis of signaling molecules, and they are implicated in varying ways drugs are used (or not) in the bodies of patients ¿ which suggests value across a range of applications.

What does it all mean?

Greenstone, who downgraded Affymetrix's stock from "strong buy" to "buy," said Affymetrix's problems "are pretty unique to Affymetrix."

Although the Darwinian sorting that happens in every industry sector is inevitable in genomics, he told BioWorld Financial Watch, "I don't think it will be that dramatic. Those that have developed good reputations and have good distributions will survive, and those that are just technologies instead of companies will be bought."

Affymetrix, Greenstone said, "has established itself as a credible company with serious technology. It could still be bought, because it's a single-technology company, but it's way past the critical-mass stage."

The company's management said the revenue shortfall is linked to "industry consolidation, inventory build-ups and a carryover from the mouse chip problems the company had in the first quarter," Greenstone said in a research note. "Also, the do-it-yourself business continues to be soft."

In March, Affymetrix said it had found errors in the data it was encoding on its mouse chip products, and began recalling and replacing them. Greenstone said this will probably be a "short-term issue."

As for the do-it-yourselfers, served by the spotter systems aspect of the business, "We believe that this is ultimately a net positive for the company as do-it-yourselfers are finding that the quality of the chips they produce are too low to be reliable for reproducible results," Greenstone wrote.

Cranna, though, said sellers of "big-ticket equipment," such as Affymetrix, are facing hard times.

"Consolidation is a fact of life, and it will have an effect," he told BioWorld Financial Watch. "I'm prepared to accept that some of the slowdown is product life cycle related, but I've been in this business long enough to know that where there's smoke, there's fire."

That fire is a change in spending patterns by genomics customers, and overall investor uncertainty, he said.

"The spending is farther downstream, less in drug discovery and production, and more in the clinical trial, pre-approval part of the time line, which concerns me," Cranna said, allowing that to determine the companies potentially in jeopardy as a result "gets confusing, because you have mass spectrometry being used, in theory, early on in the discovery process, and then you have it used in pharmacogenomics, farther down the line."

But, in general, he said, "drug companies are spending less, or spending it farther down the line. In R&D, spending is focused more in the 'D' than the 'R.'"

The conclusion to be drawn, Cranna said, "is that the investment community is getting skeptical, or certainly split, as to whether or not this is a temporary slowing. And one thing never changes: The graver the uncertainty, the more people want to be rewarded. Multiples come down, stocks get cheaper. Whether it's a two-quarter or three-quarter hiccup, or a more sustained slowing, I can't tell you, and no one else can, either."

Meanwhile, he said, the "Affy effect" prevails.

"Not that the heyday's over," Cranna said, "but there's been a tick down."

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