Is Gilead Sciences Inc. About to Crater Before Our Very Eyes?

By Markets Fool.com

Gilead Sciences' stock has been something of an enigma for biotech investors of late. Despite a 122% increase in revenue last year due primarily to the launch of its hepatitis C drugs Sovaldi and Harvoni, strong growth prospects going forward, and a markedly cheap valuation based on its forward price-to-earnings ratio, the biotech's share price has now fallen well-off of its 52-week high.

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Most conspicuously, Gilead has failed to participate in the broader rally among biotech stocks so far this year, notably trailing the performance of the iShares Nasdaq Biotechnology ETF:

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Although bears have pointed to the launch of AbbVie's competing hep C cocktail Viekira Pak, pricing pressures from insurers, and the disheartening news that nine patients taking a heart disease drug in conjunction with the company's hep C drugs reported serious adverse events, none of these issues are expected to derail Gilead's growth trajectory. In fact, the drugmaker's earnings are on track to grow by another 18% this year.

So what is the market telling us about Gilead's future that might not be evident from a cursory glance at its fundamentals? And is this closely-watched biotech headed for turbulent times?

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Source: Gilead Sciences.

Threats abound for hep C drugs
Hepatitis C drugs now compose roughly half of Gilead's total revenue, and this trend is expected to continue going forward, especially after the company's monoclonal antibody, simtuzumab, failed to show any clinical benefit across a host of cancers.

And while Gilead is far from a one trick pony, its recent dominance in the hep C space is the story that has captured the most attention. Unfortunately, there are several looming threats to Gilead's domination in this market. First, AbbVie, Achillion Pharmaceuticals , Merck , and even Gilead itself, are all working toward creating hep C drugs with shorter treatment times, perhaps as low as six weeks.

Given that less time on drug should translate into substantial cost savings for the U.S. government (through patients on Medicaid or other public programs) and insurers in general, the Food and Drug Administration might take a keen interest in pushing these drugs through the regulatory process -- assuming they show similar levels of efficacy and safety in their ongoing clinical trials. Put simply, we could be no more than two years away from yet another set of next-generation hep C drugs hitting the market, which, while a welcome improvement for patients, would undoubtedly erode profitability for the companies making the current treatments.

Complicating matters further, there is no guarantee that Gilead's experimental hep C therapies, such as GS-9669 or GS-9451, will prove clinically superior than the rival products being developed by other pharmas-- although it's important to keep in mind that Achillion's ACH-3102 is being tested as a combo therapy with Sovaldi.

Aside from the current competition and the potential for another set of hep C drugs coming to market, Gilead's intellectual property rights over Sovaldi and Harvoni are also being vigorously challenged by AbbVie and Merck. The Merck challenge arose from its buyout of Idenix Pharmaceuticals last year, but the Big Pharma appears intent on seeing the case through to completion, with a trial date set for March 7, 2016. Although these patent infringement cases will probably take years to play out, they do cast doubt on Gilead's long-term ability to maintain its dominance in the hep C space.

Are Gilead's shares in trouble?
The key issue to understand is that uncertainty rules the day when it comes to new hep C drugs right now, especially for Sovaldi and Harvoni. Newer drugs with shorter treatment times are expected to lead to another round of steep discounts, given the sheer number of drugs under development that should accelerate the ongoing pricing war. This might occur much quicker than many anticipated previously. As such, it's next to impossible to forecast these drugs' long-term contributions to Gilead's top and bottom lines.

Overall, if you believe the market operates efficiently, the message is clear: Gilead's hep C revenue will take a major hit, sooner rather than later. If we simply consider how Gilead is valued right now, for instance, the market appears convinced the company's hep C revenue will be slashed by at least 50% from current levels, meaning the stock could be setting up for a big trend reversal. Otherwise it's basically impossible to explain why Gilead is presently one of the cheapest biotech stocks based on multiple valuation metrics, and is garnering essentially nothing in the way of a premium for its clinical pipeline.

Then again, the market was horribly incorrect in its prior assessment of Sovaldi's commercial potential last year -- so you might want to take Mr. Market's rather dreary outlook with a grain of salt.

The article Is Gilead Sciences Inc. About to Crater Before Our Very Eyes? originally appeared on Fool.com.

George Budwell owns shares of AbbVie and Gilead Sciences. The Motley Fool recommends Gilead Sciences. The Motley Fool owns shares of Gilead Sciences. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.