Outsourcing and innovation are among the key elements likely to be key drivers of share price performance of healthcare & life sciences stocks, N+1 Singer reckons.
In an in-depth review of the sector, the broker acknowledges that healthcare budgets are under pressure across the developed world.
Nevertheless, it sees signs of cautious optimism for the sector as a whole, though stock picking remains the key to success.
“In Life Sciences, we favour companies with a strong innovation base and scientific discipline, a presence in niche or Orphan therapeutic areas and a potential for significant value creation in the near to medium term.
“In Healthcare, we focus on looking for secular growth opportunities, high and defensible margins, recurring revenues and scalable opportunities in international markets,” the team at N+1 Singer reveals.
Having given 29 stocks in the sector the once-over, and excluding those stocks for which it is the broker, N+1 Singer identifies the following ‘buys’: Allocate Software (LON:ALL), Caretech (LON:CTH), Consort Medical (LON:CSRT), Craneware (LON:VRW), EKF Diagnostics (LON:EKF), Immunodiagnostics (LON:IDH), Sinclair IS PHARMA (LON:SPH), Summit (LON:SUMM), Synergy Health (LON:SYR) and United Drug (LON:UDG).
In N+1 Singer’s view, historic growth rates of public spending on healthcare are unsustainable.
“There are a number of implications, both positive and negative, for the sector. Negatives include pricing pressure on tariffs and reimbursement, additional restrictions placed on access to treatment and stronger and more joined up procurement to leverage off significant collective bargaining potential.
“Potential opportunities are coming from an increase in private provision…an opening up of the supply side through exiting or outsourcing provision (e.g. clinical support services such as lab, imaging and sterilisation or healthcare provision itself), shifting care outside of hospitals to lower cost care environments and the emergence of new healthcare delivery models,” the broker believes.
In the Life Science sector, the so-called “patent cliff” that saw blockbuster drugs with aggregate global sales of US$67bn go off-patent in 2012 alone continues to hang over “Big Pharma”.
“We expect that the challenging patent situation will continue to favour in particular (i) generic drug makers; (ii) developers of drugs for niche and ‘Orphan’ indications that offer extended market exclusivity; (iii) companies with proprietary line extension technologies that allow the creation of differentiated drugs from off-patent active pharmaceutical ingredients; (iv) novel technology platforms that are harder and more expensive to replicate, such as gene therapy or siRNA; and (v) therapeutic agents that require significant expertise to produce to consistent standards, such as novel biologics and respiratory medicines,” the Singer N+1 report states.
The patent cliff holds no fears for Alliance Pharma; quite the opposite, as the company specialises in rejuvenating branded drugs that have been around for decades and which have little, if any, generic competition.
The company has the free cash flow and the balance sheet firepower to continue complementing organic progress with measured acquisitions, in the broker’s view.
Oxford Pharmascience, meanwhile, is one of those companies that is expanding into the generic drugs market.
Best known for its “OXP chew” and “OXP zero” offerings that make the taste of drugs more palatable, N+1 Singer thinks the company’s “OXP target” drug delivery technology could prove the real star, as it addresses the US$30bn statin (cholesterol lowering) market.
The OXP target proposition is simple: reduce harmful side effects by offering the same level of efficiency at half the dosage level.
Xenetic Biosciences (LON:XEN) is one of those companies that falls into the niche or “orphan” drug development category alluded to above; an “orphan” drug is one that is given a faster route to market by the regulatory authorities because it addresses an unmet market need.
“Clinical development is progressing or due to commence this year in four programmes, the main ones being ErepoXen and OncoHist. Development costs are kept relatively low due to the majority of trials being partnership funded. This allows the group to channel its cash into further development of its products and target the larger Western markets,” N+1 Singer said.
Silence Therapeutics is identified by the broker as a developer with a particularly novel technology platform.
“The company’s lead programme (Atu027) has generated good safety data in Phase I trials and recently entered Phase Ib/lla trials in pancreatic cancer, with a second indication (most likely head & neck cancer) expected to follow in Q1 2014,” N+1 Singer notes.
The recent raising of funds leaves the company well placed to make progress with its promising clinical trials programme, and could lead to a crystallisation of its siRNA technology through partnering deals, the broker suggested.
Summit is another company on the clinical trials trail.
Summit changed its strategy in 2012 to focus on two key development programmes: Duchenne Muscular Dystrophy (DMD) and C.diff.
The group expects to enter patient clinical trials with DMD treatment SMT C1100 during the second half of this year while top line results from Phase I trials of SMT 19969, the C.diff candidate, are expected in this quarter.
“Following positive results the group will seek partnerships to progress the development through further trials and into the market,” N+1 Singer predicts.
On the Healthcare side of things, N+1 Singer identifies five key themes underpinning the medium term growth expectations for the sector: an ageing population and the concomitant cost of care; the trend towards prevention, rather than cure; outsourcing of care provision; market fragmentation, with many smaller players under pressure; and the growth potential available in emerging markets.
With governments under pressure to make cost savings, the broker notes the part information technology (IT) can play in this regard.
In the UK, “new opportunities are beginning to emerge in extended community care, with both Advanced Computer Software (LON:ASW) and EMIS (LON:EMIS) gaining a place on a new framework worth up to £300m to supply clinical information systems to 30 community and mental health trusts in London and the South in preparation for the end of their National Programme for IT contracts in October 2015,” the broker notes.
N+1 Singer expects further similar deals around the country to begin to emerge in due course, opening up new growth opportunities.
On the subject of Advanced Computer, the broker says the “recent £110m acquisition of CSH provides greater critical mass in the Business Solutions area and the enlarged customer base (20,000 customers) should provide significant opportunities for cross selling – an area in which the group has shown particularly good execution.”
Fellow software company Allocate Software is entering a contract renewal cycle this year and, to date, has a 100% renewal rate.
“Recurring revenues are picking up and exceeded 50% for the first time on (depressed) H1 revenues. Cash generation is robust and the company maintains a strong balance sheet. With six healthcare acquisitions made at a cost of c.£30m in the last four years and a positive cash position, we expect M&A to remain a key strategic focus,” the broker said.
The recent share price of Allocate has moved the stock into buying range, the broker reckons. It has an 80p target price for the stock.