By Randall Osborne

BioWorld Financial Watch Editor

In places other than Silicon Valley, autumn brings frost on the pumpkins and the urge to huddle by a crackling fire. But fourth-quarter 1999 was balmy on the West Coast, where much biotechnology is centered. The mood was bold and optimistic and the industry did plenty of crackling of its own, after a bleak start to the year.

As of October, many biotech stocks did anything but fall.

¿The first nine months of 1999 were still a pretty difficult time,¿ recalled Dennis Purcell, managing director of Chase H&Q. His firm¿s annual health care conference in January 1999, regarded as an industry bellwether, hardly compared with the same event in January 2000, in terms of atmosphere. While the first conference was characterized by a sort of resolute hopefulness, the second bordered on jubilant.

Wall Street¿s outlook was bright across the board, but especially in biotech. Numbers told the story. The Dow was up 25 percent at the end of 1999, and the S&P had risen 20 percent. The Nasdaq rose 85 percent overall, while Nasdaq biotech shares jumped 101 percent and major biotech stocks increased a whopping 193 percent.

Other figures chart the turnaround more dramatically. The aggregate market value of biotech on Jan. 1, 1999, was $149 billion. By Oct. 1, it was $191 billion. By Dec. 31, it had leaped to $270 billion.

The switch most evident is the lively field of genomics, and the rate of growth pre-October, as compared to post-October, was clear in the average daily volume of shares traded.

In the biotech universe as a whole, the average daily volume between Jan. 1 and Sept. 30 was 212,000 shares, as compared to 293,000 shares between Oct. 1 and Dec. 31, which represents a 38 percent increase. In the genomics sector, the numbers were 184,000 and 434,000 for the respective periods a rise of 136 percent.

¿We¿re seeing volatility in this sector that used to exist only in the Internet sector,¿ Purcell said. In late 1998 and early 1999, biotech firms stood on the sidelines as Internet stocks skyrocketed and ¿dot-com¿ enterprise made headlines in the general media.

Although autumn saw the strongest movement, the industry ¿set records all year,¿ Purcell said.

The value of mergers and acquisitions (73 deals) soared to $19 billion in 1999, as compared to $5.8 billion the year before (87 deals), and a scant $2.3 billion in 1997 (73 deals).

Genentech IPO Helped Draw New Interest

Purcell credited ¿new faces¿ of momentum investors with pumping money into biotech. The sector drew particular attention by way of headlines when Roche Holdings Inc., which completed its acquisition of Genentech Inc. in June, followed in July with the sale of 22 million Genentech shares (including overallotments) at $97 per share, in what was considered an IPO. In the fall, a secondary offering of 20 million more shares of Genentech stock was priced at $143.50 per share and raised $2.87 billion.

Roche, the controlling shareholder of F. Hoffmann-La Roche Ltd., said it would reduce its stake in Genentech from about 83 percent to about 65 percent, as part of the transaction. Genentech did not receive any of the net proceeds.

Steven Burrill, CEO of Burrill & Co., a San Francisco-based merchant bank focused on life sciences, said the Roche/Genentech activity drew attention to the biotech sector, but other factors contributed as much to the surge.

¿The Internet space was getting a little old and tired, and then voila, we had some fabulous developments in genomics, an information-based technology that was going to transform the practice of medicine,¿ Burrill said.

¿Do I think it¿s a flash in the pan? No,¿ he said. ¿But I don¿t think it¿s cyclical, and I don¿t think it will repeat itself. It was certainly a wave, You could argue it was a boom, or maybe a boomlet,¿¿ which also was partly fueled by renewed interest by investors in IPOs, he said.

¿Of course, biotech hadn¿t had any, but it began to come out with high-quality IPOs, and those were well-received,¿ Burrill said. Among them: Tularik Inc., which opened with an offer price of $14. Its price on Dec. 31 was $32.38, for a 131 percent increase. Caliper Technologies Corp.¿s offer price was $16, and it sold for $66.75 at year¿s end: a 317 percent jump. Maxygen Inc. also priced at $16, but rose to $71 by Dec. 31, a hike of 344 percent. All took place in December.

Biotech was not without setbacks in 1999, and these are likely to continue haunting the sector, Burrill said. A death in gene-therapy experiments at the University of Pennsylvania brought the scrutiny of regulators, and controversy over the use of genetically modified organisms (GMOs) in agricultural biotech which has raged in Europe for years erupted in the U.S.

The Recombinant DNA Advisory Committee said it would consider new guidelines under which gene therapy researchers would be required to report all serious adverse events in patients undergoing such therapy. On the GMO front, groups such as Greenpeace and the Union of Concerned Scientists made inroads. The Gerber and Heinz food companies said they would no longer use GMOs in products, although they believed GMOs to be safe. In early February 2000, Frito-Lay followed suit, conceding not to use gene-altered corn in its products.

Still, success with fund-raising for most biotech companies continued even stronger early in 2000.

¿An enormous number of things in ag biotech have nothing to do with GMOs, just as many things in genomics have nothing to do with gene therapy,¿ Burrill said. ¿The market is still treating biotech very well, and a lot of companies are going to try and get through the window.¿

Many of the favored firms, he added, ¿aren¿t intrinsically different than they were three to six months ago, but they are valued very differently. They were probably undervalued before, and maybe they are fairly valued today. What was amazing about this run-up is that even the low-cap sector did very well, up 67 percent for the year. That¿s awesome.¿

Small-caps had been ¿virtually abandoned by Wall Street until the fourth quarter,¿ Burrill said, and may have a hard road ahead, despite 1999¿s good fortune.

¿It¿s brighter for them, but there¿s no doubt that the high-end companies are the major players,¿ he said. ¿[Small-caps] have better stock prices and more cash, but not necessarily sustainable businesses.¿

Curtis Hogue, vice president and senior biotechnology analyst with Prudential Vector Securities in Deerfield, Ill., was not convinced the Roche/Genentech deal was a significant spur for the biotech revival.

¿I don¿t see it that way,¿ he said. ¿I think it was really just a question of the sector as a whole doing so well. The fundamentals were extremely good,¿ he added, with products introduced in 1997 and 1998 gaining maturity in the marketplace.

Alex Zisson, an analyst with Chase H&Q, said the new world of extreme volatility in biotech shares has caused him to advise clients not make ¿any long-term decisions based on stock prices being high or low. The valuations are so high, relative to where they were a year go, that unless we see a market-wide correction, we expect to see volatility across the board. Really, the small-cap Internet [stock] phenomenon just caught up to biotech,¿ in which most stocks are still classified as small-cap.

¿The pendulum never stops swinging,¿ Zisson said, but savvy investors are ¿much less focused on valuation, and much more focused on owning transformational companies. The pie is so big, they can afford to be a little less sensitive to valuation.¿

Looking ahead, Burrill said biotech is ¿in a very different space today. I think [the 1999 rally has] fundamentally changed the industry for the better. Is this going to be a tough year? I think so.¿

Fallout continues from the wide reportage of the gene-therapy death, and the GMO argument marches on.

¿A lot of companies aren¿t going to meet the clinical expectations Wall Street has of them,¿ Burrill said. ¿We certainly haven¿t avoided clinical failures. Things don¿t always work in man the way we think they do, and we call those surprises.¿¿

But investors have wised up substantially over the early days of biotech, and not many will lose easily their faith in the sector. ¿The market will look at stories and companies it can understand,¿ he said.

Those who came to biotech after growing bored with Internet stocks may be another story. Zisson said no one ¿really knows the affect of day trading in this area, but they don¿t call [momentum investors] fast money¿ for nothing.¿

Doug Braunstein, head of global healthcare for Chase H&Q, said it¿s too early to tell exactly what the biotech upsurge - which continued into the first part of 2000 - means, but he said the industry could be changing in a bigger-than-usual way.

¿There¿s clearly, given what¿s happening in terms of the technology, a change in the discovery part of life sciences,¿ he said, pointing to the genomics boom. ¿There¿s no question we may be on the verge of a fundamental paradigm shift.¿

Braunstein, like many others, compared biotech¿s success with that of Internet companies.

¿At the outset, people scratched their heads and said, Is this intriguing?¿¿ he said. Then, big money jumped aboard the bandwagon, and Internet stocks turned hot.

¿Who the winners and losers are in all that, you can hear some debate, and the same will be true in biotech,¿ Braunstein said.

Hogue said the industry¿s prosperity in the year ahead ¿will depend on how many IPOs are done, and how much money is raised in the form of secondary offerings, and whether we keep [introducing] products at the same rate.¿

The latter factor may introduce a mild slump. ¿We could see a good number in 2000 and 2001,¿ Hogue said, noting Genentech Inc.¿s Nutropin Depot, approved late in 1999.

Amgen Inc. has three late-stage products about to emerge from its pipeline.

¿Besides that, there¿s not a whole lot else,¿ Hogue said, adding the ¿next wave¿ of treatments will target autoimmune diseases. Meanwhile, a big question is whether the momentum investors who jumped aboard the biotech bandwagon in late 1999 let go.

¿Eventually, yes,¿ Hogue said. ¿The [better] questions are, How long will they stay with the sector?¿ and Will the new products carry us through?¿¿