By Nancy Volkers
Special to BioWorld Financial Watch
There are a multitude of ways for a biotech company to raise money, and possibly even more ways for that same biotech to highlight certain areas of its programs. Among those ways is a tracking stock, an option popular with high-technology and Internet-oriented companies, but one in limited use among biotechs.
Ideally, tracking stocks highlight (and track) the performance of a particular division. The stock is intended to be influenced by that specific division's results, announcements and events, and the stock trades independently of other classes of equity.
The first tracking stock was established in 1984, when General Motors Corp. acquired Electronic Data Systems. Since then, the concept has been used in several industries Circuit City and its tracking stock CarMax Group; Sprint and its tracking stock Sprint PCS but rarely has biotech put a toe in the tracking stock waters.
"One of the reasons you'd [establish a tracking stock] is that it allows investors a little more transparency as to what's going on in a big diversified company," said Jon Alsenas, managing director at ING Baring Furman Selz LLC in New York. "With biotechs, none of them is so big [that part of the business gets lost]."
Genzyme Corp., of Cambridge, Mass., began establishing tracking stocks in 1994. The company now has four: Genzyme Tissue Repair (NASDAQ:GZTR), Genzyme Molecular Oncology (NASDAQ:GZMO), Genzyme Surgical Products (NASDAQ:GZSP) and Genzyme General (NASDAQ: GENZ). The company also has a subsidiary, Genzyme Transgenics Corporation (NASDAQ:GZTC). Genzyme Corp., through Genzyme General, owns about 39 percent of the subsidiary.
Tracking stock, said Genzyme's former executive vice president and chief financial officer David McLachlan, "allows investors to focus on the differences of the businesses. It allows us to tell the story in a much more focused way, which people have an easier job of understanding, as opposed to telling a story about a diverse, apparently unfocused company."
There are other benefits as well, Genzyme spokeswoman Elizabeth Heller said. "It helps accelerate the growth of our development-stage businesses, broadens the investor base and provides financial flexibility. It also creates an entrepreneurial environment it inspires people to get behind the company."
In addition, Heller said, the tracking stock setup provides tax and accounting benefits, and allows the company to maximize its resources. "Everybody has access to all the different expertise in all the divisions," she said.
"In the case of Genzyme, I think they've been able to have their cake and eat it too," Alsenas said. "It looks like the things that are money-making or are likely to be shortly, are retained in Genzyme General."
That would be products like Ceredase and Cerezyme for Gaucher's disease, and relatively new products such as Renagel (sevelamer hydrochloride) for end-stage renal disease and Thyrogen (thyrotropin alfa), a recombinant form of human thyroid stimulating hormone, for thyroid cancer. Also in development are treatments for Pompe disease, Fabry disease and MPS-1, an enzyme deficiency encompassing three related disorders, including Hurler's syndrome.
Then, Alsenas said, "As different programs have experienced disappointments, delays or other issues, they've spun them out as divisions."
Overall, Genzyme seems to be taking the concept to market. In 18 years, the company has grown to become one of the world's five largest biotechnology companies; its market capitalization exceeds $5 billion, and 1998 revenue exceeded $620 million.
Genzyme General stock has steadily climbed in price over the past decade and now trades near $60, with analysts citing the stock as undervalued compared with its peers. The other stocks, however, have been less successful. Genzyme Surgical Products, the newest tracking stock, was first offered in late June at about $8, and trades now around $7. Genzyme Tissue Repair, a five-year-old tracking stock, peaked above $25 in 1996, but now trades below $5. And Genzyme Molecular Oncology, first offered this past November at about $15, now trades around $8.
The stock prices aren't low because they are tracking stock, said McLachlan, now semi-retired and an adviser to the company.
"[Molecular Oncology] and [Tissue Repair] if you do any kind of sector analysis, their market caps aren't too dissimilar from a lot of biotech companies. They have small market caps and poor liquidity. They're not profitable," he said. "I think they're performing like the small-cap stocks. People say they're no good because they're tracking stocks, but I would argue they're not worth more because they're losing money."
Sums Of Parts Expected To Exceed The Whole
Still, McLachlan said, Genzyme's corporate structure, though unique in the industry, is an asset. "If you ask whether or not it was a good idea [to establish tracking stocks] I think it was. I think the aggregate market value of those four businesses is greater than it would be if it were one company."
That concept was part of the reason that Agouron Inc., of La Jolla, Calif., announced plans last year to establish a tracking stock centered on its oncology research. The stock was never established; instead, Agouron was acquired by Warner Lambert Co., of Morris Plains, N.J.
"Imagine a company with a bottom line of $100 million, but that bottom line is really two entities," Agouron CFO Steve Cowell said. "Virology made $130 million but oncology lost $30 million." If the oncology entity becomes a tracking stock, the virology stock will still do well, because that entity is making a profit. And even if the oncology entity loses money, Cowell said, "the oncology stock value would still be something more than zero. A lot of biotech companies are losing money, yet they have a positive stock price."
The idea, Cowell said, is that "when you compare the pieces created to the original single entity, the sum of the pieces is greater than the whole. We felt there was sufficient sizzle in the oncology group and sufficient presence in the virology group such that our two stock prices, when added, would have been greater than the starting point."
Besides increasing market value, the company's decision to establish an oncology-based tracking stock was also motivated by investors' perceptions of Agouron as a virology-centered company.
"We were getting a lot of credit for our virals program and Viracept, but we also had all this [research] going on in oncology," said Diane Nichols, Agouron vice president, head of corporate communications. We really felt that the oncology division was not getting any credit from the investment community."
Thus the concept of tracking stock sounds good for a company increase market share, allow investors to pick and choose which research aspects they want to invest in, and isolate high-expenditure R&D divisions from the rest of the company. So why isn't this vehicle more popular? It's possible that part of the problem is investor bewilderment: The concept of a tracking stock can be confusing.
"One of the main issues we have is that people often think Genzyme Corp. has a stock, and it doesn't," Heller said. "We have four tracking-stock divisions that make up Genzyme Corp. There is no Genzyme Corp. stock."
McLachlan agreed. "Genzyme has four tracking stocks, not three. A lot of people think Genzyme General is the parent company, and don't refer to it as a tracking stock. I've often asked myself, `Why is that?' One reason might be historical; [Genzyme General] is where the original Genzyme came from. The other reason is that [Genzyme General] is big and profitable, and people think that in biotech, tracking stocks are little and not profitable."
According to Alsenas, "I think people do discount Genzyme stock, vis-à-vis its peers, because it's complicated. It does give the appearance of trying to find a pea under a bunch of shells. I think if you asked an average shareholder where a lot of these things belong within the Genzyme overall corporate structure, they would not know."
For tracking stock to be successful, McLachlan said, "the investor has to believe it's a real business. [Tracking stock] should never be used as an off-sheet financing vehicle. I would argue that tracking stock is much simpler than people think it is, and that's what's confusing they don't believe it's simple."
It's not just the confusion, however, McLachlan said.
"There is some psychology here," he said. "I think biotech investors have looked at our tracking stocks the way they used to look at other off-balance sheet financings. A lot of people do not believe that Genzyme General will allow the others to be successful on their own that the company will buy them back before they're successful. But if the market sets the value and if they are fairly valued, there's no reason to buy them back." *