Corporate Financing Analysis - US Pharma IPO Potential In Good Health - 25 SEPT 2017


With US IPO momentum expecting to continue accelerating and with the country's pharmaceuticals sector continuing to be forecasted as the most attractive globally, we expect the healthcare sector to continue competing for the leading share of first time domestic share sales (by deal value) going forward over the coming quarters. More broadly, with US markets sat near all-time highs and with volatility in the equity capital market (ecm) arena at a historic low, there is still plenty of upside potential for the current bull IPO run - especially with a stable macroeconomic backdrop in both the US and globally fuelling the market. In particular, we point to the fact that US floats have risen by an average of 15% in the y-t-d aftermarket and outpaced the performance of the benchmark S&P 500 Index (up by 12.01% in the y-t-d and by 19.60% y-o-y - according to Bloomberg data correct to September 18) in the process as a strong indicator of strengthening investor sentiment in first-time floats, and equities.

A Steady Flow Of Deals
US IPO Filings by Monthly Deal Volume
Source: www.renaissancecapital.com

Floats Continuing To Enjoy Success

There may have been a lull of activity across the summer months of July and August, which is not irregular during holiday season, but this has not significantly dented the overall y-o-y increase in US IPO activity. In fact, Renaissance Capital data shows that listing activity correct to September 18 is still way ahead of where it stood a year previously: deal volume is up 47.6% y-o-y with 93 deals having been completed, deal proceeds have more than doubled in the y-t-d period (+119.3%) to USD22.2bn, and filing activity is up 41.8% to 129 deals. Within this wave of interest in floats, we highlight that biotech IPOs have helped make healthcare the y-t-d period's most active industry sector - a position which we expect the sector to be in come the year end, with the only real challenge to this lofty status from the high technology industry, which has also contributed a high volume of deals in 2017 to-date ( See ' US IPO Momentum To Continue Accelerating In H217, July 12).

While there is plenty of cause for optimism in the near-term, it is important to remind ourselves that there may be trouble just across the horizon - a view that we have been highlighting for some time now - and that US boardrooms are likely to continue bringing the timeline of proposed deals forward as a result of this to increase their chances of success in doing so, elevating activity levels in the process ( see ' US IPO Bull Run Warning Shots Fired ' , June 7). Indeed, we caution that, from a medium-term perspective, extreme valuations and bullish sentiment leave US stocks open to extreme downside risks and that the market could lose its bullish momentum as a result.

Healthcare Top Spot In The Rankings

A look at the performance of the sector in the US IPO market in Q217 shows that the volume of healthcare deals numbered 14 (worth a combined USD1.0bn), the highest number of any sector equivalent to a 27% market share. Despite broad contribution by floats from a wide range of industries, the healthcare sector, when combined with the tech sector, contributed over half of all US floats during the second quarter by deal volume. The link between the two sectors is not just arbitrary, however: the biotech sub-sector has contributed a strong flow of deals over recent years, and we expect that momentum to continue strengthening going forward too. In fact, data from Renaissance Capital research shows that of the 14 floats (versus the tech sector's contribution of 12, worth USD1.6bn - a two-year high for the sector, and representing a 23% market share) completed by the firms from the healthcare sector in Q217, as many as 13 were biotechs, with deals which catalysed heavy insider buying. We highlight that another biotech firm is on the cusp of going public too. Indeed, Krystal Biotech, a preclinical gene therapy biotech focused on dermatological diseases, is hoping to tap ecm investors on the Nasdaq bourse for around USD30mn during the week ending September 22 by offering 3mn shares at a price range of USD9 to USD11. At the midpoint of the indicative price range, Krystal Biotech would command a market value of USD88mn. We highlight that there are plenty more companies waiting in line to go public in the US, and as was the case across the first eight months of the year, those deals are set to come from a broad range of industry sectors, not just healthcare and tech. As of August 31, Renaissance Capital data shows that there were 64 firms in the pipeline, 36 of which have submitted a new or updated filing since June 1.

Performing Well In The Aftermarket

On average, healthcare sector floats have returned an average of 10% in the post-IPO aftermarket so far this year. While below the 2017 to-date average, we note that this performance is exactly in line with the long-term average of US floats across sectors. The industry has not been without its fair share of stand-out performers, however. Indeed, the sector did contribute four of the ten best performing floats In Q217: clinical-stage biopharma firm Biohaven Pharmaceuticals enjoyed a 47.1% return in the aftermarket as of the end of the second quarter, having recorded a modest 2.9% first-day pop following its USD168mn May 3 listing; innovative cancer therapy developer Athenex's USD66mn float on June 13 saw it debut with a 14.2% increase before seeing its stock price climb by 45.5% by the quarter-end; clinical-stage biopharma firm UroGen Pharma finished the second quarter with its stock up by 38.9%, an improvement on its 7.5% debut which came with its USD58mn May 3 IPO; and biotech company Avenue Therapeutics enjoyed the market's second-largest first day return (37.5%) following its USD33mn June 26 listing, before seeing it share price stabilise over the final few days of June to finished the period up by 32.5%. With sectoral returns positive in the aftermarket, and IPOs in general posting returns, it is unsurprising that further firms form the sector want to join the wave of deals.

US Healthcare: Coming Out Of Uncertainty

BMI highlighted that, despite all the positivity, there has been plenty of reason to be cautious about the future of healthcare sector floats. After all, 2017 has certainly not been without complication for the US healthcare sector. Indeed, efforts by the Trump administration to 'repeal and replace' the Affordable Care Act (ACA) created a growing sense of uncertainty in the US healthcare market towards potential changes to its operating environment.

Back in March 2017, the US House Republicans released the much-anticipated replacement for the Affordable Care Act (ACA; 'Obamacare'), the American Healthcare Act of 2017 (AHCA). In fundamental terms, the AHCA sought to reduce the federal government's involvement in the provision of medical services, while encouraging greater personal responsibility. It was designed to change how healthcare is funded and potentially eliminate the mandate requiring most people to have health insurance, which was a key pillar of Obamacare. Newly proposed policies on topics such as biosimilars, pay-to-delay generic drugs, and universal healthcare will have had a major effect on the future of the US drug industry. But it was not meant to be, with President Trump's proposed healthcare reform collapsing in the Senate in July and the ACA no longer being repealed. While this will likely give more certainty over healthcare legislations in the near-term, we highlight that it is still a possibility that President Trump could withhold cost-sharing subsidies with states that are used to help keep healthcare costs down. This could be a strategy in the upcoming debt ceiling negotiations (the debt ceiling will need to be raised this month, or in October). Once this cloud has passed, we expect the slight backlog of healthcare deals which have been taking the 'watch and see' approach on the sidelines to put their deals into motion once more and add to a strengthening wave of floats from the sector.

US Pharma Market In Strong Health

Subtracting the political manoeuvring around healthcare policy from the equation, we highlight that the very size and steady growth of the US healthcare industry is always likely to provide ecm issuers looking for the funds to support growth and attract investors looking for a strong return. Indeed, BMI's Pharmaceuticals team argues that the US pharmaceutical market presents strong commercial opportunities across multiple sub-sectors, therapy areas, and product categories. Total pharmaceutical sales in 2016 reached USD371bn, which was more than three times the size of the next largest market (Japan: USD95bn). Furthermore, the US boasts the largest individual markets across the three core sub-sectors: patented, generic, and over-the-counter medicines. More broadly, Healthcare spending in the US reached USD3,278bn in 2016 and will likely to continue to account for a disproportionately large percentage of its GDP over the coming years, and spending growth is expected to slightly outpace economic expansion over the medium term. Efforts from payers in both the public and private sectors to constrain expenditure will be offset by the fundamentals of a rising burden of disease, near unrestricted healthcare access, unparalleled spending power, limited market barriers, and adaptive providers of medical goods and services. We note that, with a score of 87.6 out of 100, the US pharmaceutical market ranks first both regionally and globally within BMI's Innovative Pharmaceutical Risk/Reward Index, a reflection of its unquestionable attractiveness and limited risks relative to other markets.

Biotechs In The Engineroom

The biotech sub-sector has proven itself to be a 'red hot' favourite among investors over recent years; this preference helped the broader healthcare industry top the US IPO sectoral rankings for both the 2015 and 2016 full-year rankings, and has done the same in the 2017 y-t-d period too. Going forward over the coming quarters, we expect the high-growth sector to remain in the engineroom for floats too. This view is not only supported by the success of recent deals from the sub-sector and their outperformance in the US aftermarket, but also by biotech stocks more broadly. We highlight that the NASDAQ Biotech Index, which tends to be closely aligned with S&P 500 Healthcare Index, has been performing strongly of late and, as of the time of writing, is up by 25.24% since the turn of the year and by 14.35% since a year previously. In comparison, the S&P 500 Healthcare Index is up by a more modest 14.7% in the y-t-d period.