5 Biotech Picks With Solid Financials

Cancer drugs are notoriously expensive to produce, and many companies further inflate their costs with huge selling, general, and administrative (SG&A) spending. In this clip from Industry Focus: Healthcare, host Kristine Harjes and Motley Fool contributor Todd Campbell talk about five companies that have high operating margins and very low SG&A costs -- companies that investors might want to take a look at if they want exposure to operationally strong biotechs.

A full transcript follows the video.

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This video was recorded on Sept. 13, 2017.

Kristine Harjes: One last note that I want to touch on before we sign off for the day, research and development is not the only expense that these big pharma companies or the little biotechs have. There's also, as you alluded to earlier, pretty high SG&A, your general administrative costs. The percentage of SG&A to sales is a pretty good way of looking at whether or not these companies are efficient and effective.

Todd Campbell: I'm really glad you brought this up, Kristine. This is another area that, I know the insurance industry, for one, has been banging the drum and saying, "Come on, people, it's not the research and development costs that are increasing the costs of drugs, it's the spending of these companies on selling general administration, which can range from 20-40% depending on the company." If you're spending that much of your revenue on sales and marketing, maybe there's a problem, because those costs are showing up somewhere in the price.

Harjes: Yeah, absolutely. And we've talked about this before on the program. Having direct-to-consumer ads is something that's completely unique to the United States, and it has its benefits but it also has its drawbacks. In any case, it's definitely a line item, and a huge one.

Campbell: Yeah, and that doesn't even include all the money that's spent by the feet on the street, the sales team that's actually out pounding the pavement knocking on doctors' doors, educating them about the drug and trying to convince them to prescribe their medicine over someone else's medicine. I think, from an investing standpoint, because we are an investing show and I think it's important to have a takeaway in talking about these huge numbers and what this may mean, obviously, we have to be aware that there could be some changes in the future. And we don't know how those changes will end up playing out in terms of profit. These pricing by indication schemes, for example, we don't know exactly what that will do to profit yet. I think, from an investing standpoint, there's two different things you can do to try and make sure that you're investing in companies that are operationally very strong companies that can withstand hiccups as we go through this period of change. And the two metrics that I think people should focus on are high operating margin companies and companies that spend very little on SG&A.

Harjes: OK. So, when you look at those two together, what companies stand out to you?

Campbell: There were five companies -- and I looked at larger companies, I didn't look at development stage companies. I wanted to look at mid and large-cap companies. And there were five companies that I thought had very high operating margins, the highest operating margins across the industry. There was United Therapeutics, there was Gilead, Amgen, and Celgene was among them as well. But then, if you look at who spends the least on SG&A, of those five, only Gilead and Biogen make that list, too. So, perhaps those are two of the operationally best investments out there in biotech, to withstand change.

Kristine Harjes owns shares of Gilead Sciences. Todd Campbell owns shares of Celgene and Gilead Sciences. The Motley Fool owns shares of and recommends Biogen, Celgene, and Gilead Sciences. The Motley Fool has a disclosure policy.