The biotech industry has staged a heavy rebound in the past month, with the iShares Biotechnology ETF (NASDAQ:IBB) rising 17%. One of the biggest drivers of value in the biotech industry is slowly coming back to life…

The biotech way of life

Mergers and acquisitions (M&A) are a big part of the biotech/pharmaceutical industry.

1/ In a lengthy and costly process, small drug makers go through the drug development and FDA approval process — often in partnership with large pharma companies.

2/ Large pharma acquires strong candidates who use their resources and expertise to sell the drugs.

Drug makers have 20-year patents on newly approved drugs. Upon expiry, competitors come in with a flood of generic products.

This makes it important for pharma companies to replenish their drug pipeline — driving value to biotech stocks — where you’ll see large stock price spikes upon FDA approval or from being acquired.

But 2021 was one of the slowest M&A periods in the past decade. Funding dried up, and many drugmakers made significant layoffs to conserve cash. In the past year, biotech stocks fell so far that in May, the market cap of 200 biotech stocks was worth less than the amount of cash they held.

M&A activity is finally picking up

With companies at bargain levels, large pharma may be putting their money to use. In the second quarter, there were 14 acquisitions — 2-3x more than each of the same quarter in the past four years.

Vaccine sales greatly benefited many drugmakers who are now sitting on heaps of cash waiting to be deployed. It’s now a question of when they’ll be depoloyed…

• Last week, WSJ reported that Merck is in advanced talks to buy cancer drug developer Seagen for $40B.
• Merck’s cancer drug Keytruda patent is coming due at the end of the decade, and it’s time to find their next cash cow.

Investors: Rebound hinges on more biotech deals

Per PwC partners, “All of the stars are aligned for there to be a flurry of deals activity across all areas of the sector” (BioPharma Dive). But interest rates play a big factor with biotech stocks — who mostly aren’t generating any cash.

• Healthcare Portfolio Manager Les Funtleyder of E Squared Capital Management doesn’t think the sector can recover until the Fed is done with interest rates (WSJ).
• While valuations are looking cheap, Funtleyder says valuations aren’t a big focus for pharma companies. Instead, they’re looking at the science and strategic fit.

See our Joe’s Spotlight section below for some biotech plays.