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Biotech: Core and Explore – Pfizer Inc. (PFE), Merck & Co., Inc. (MRK)

The company’s focus is on cancer care, inflammation, and nephrology (kidney related diseases). Its big drugs are Neulasta, NEUPOGEN, Enbrel, Aranesp, and EPOGEN, which together account for more than 80% of the company’s revenues. It isn’t uncommon for such concentration in the drug space, however, and having five material products is actually quite an impressive feat in the biotech area.

One of the nice features of Amgen is its size and financial strength. Indeed, it is large enough to fairly easily buy small biotech outfits with interesting drug candidates. For example, the company recently agreed to acquire deCODE Genetics in a $415 million all-cash deal. The company’s technology should help Amgen find disease targets.

All of these factors make Amgen a great core holding to which one can add more speculative holdings that might turn into home runs.

An Explore “Don’t”

The “explore” section of a biotech core and explore portfolio is going to take a lot more work to track than Amgen. While a small biotech company with only one product can turn into a real winner if its drug candidate is a success, it can also lead to years of volatility until that happens or, worse, an outright washout if its drug fails.

Even a successful drug, however, doesn’t mean a biotech company is worth the risk. For example, Alexion Pharmaceuticals, Inc. (NASDAQ:ALXN)’ highly successful Soliris has accounted for virtually all of the company’s revenue since it was approved for use in 2007. The company has used the profits from that drug to support its research and development efforts, which is a clear positive. The company is currently focusing its efforts on asfotase alfa, TT30, cPMP replacement therapy, and ALXN1007.

On the surface, this sounds like an ideal situation, the new drugs are potentially several years away from market but Soliris sales should continue to support the research effort. Even more so if the company wins approval for Soliris to treat additional ailments. When, and if, any of the company’s research candidates are successful, Alexion would wind up an even bigger winner. The problem is that the market has bid the shares up aggressively over the last three years.

data by YCharts

With a recent P/E in the 80s, an over 300% price run up in just three years, and only one drug on the market, Alexion is probably overpriced. Investors would be better off avoiding this as one of their satellite holdings until its shares come down from the stratosphere or its earnings catch up with its share price. Until then, the downside risk heavily outweighs the possibility of a home run.

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