OrbiMed is the world’s largest healthcare-dedicated investment firm, with over $5 billion in assets under management.

OrbiMed’s investment business, founded in 1989, invests across the spectrum of healthcare companies – from private start-ups to large multinational companies.

The company manages a family of healthcare-focused investment funds including the Caduceus Capital hedge fund, two investment trusts listed on the London Stock Exchange (the Finsbury Worldwide Pharmaceutical Trust and the Biotechnology Growth Trust) and a family of global venture capital funds.

OrbiMed’s investment team includes over 30 experienced professionals with backgrounds in science, medicine, industry, finance and law.

The company’s diverse team of professionals has a unique understanding of industry dynamics through active participation in public and private companies.

These professionals work together in a collaborative approach which integrates the analytical insights derived from both the public and private equity markets. OrbiMed seeks to be the capital provider of choice for life sciences companies pursuing growth and new opportunities.

Where appropriate, particularly within its venture capital funds, OrbiMed actively supports its portfolio companies in achieving strategic, financial and operational objectives via participation on the board of directors. OrbiMed professionals currently serve on the board of directors of dozens of different life sciences companies.

The healthcare sector has a powerful set of three secular growth drivers, believes Carter Neild, general partner at OrbiMed Advisers.

First is demographics. Western populations are on average ageing rapidly, with the proportion of the population aged 65 and over expected to increase by 50% or more in most western countries over the coming decades.

This ageing trend augurs well for the future growth of healthcare markets, as medical expenditure for people over 65 years of age is on average four times higher than for those under 65.

China is a particularly exciting demographic story, as its elderly population is expected to double by 2025, thanks partly to the controversial “one child” policy.

Innovation is a second key growth driver. New markets are created over time thanks to the ineluctable progress being made in the scientific understanding of human diseases.

Innovative new drugs and treatments inevitably flow from this greater understanding of disease. For instance, the recently launched vaccines for the human papillomavirus are poised to effectively prevent the vast majority of future cases of cervical cancer.

There are over 1,000 such potentially promising products in the drug industry pipeline currently under review by OrbiMed. OrbiMed believes the future is particularly bright for the biotechnology sector as more biotechnology companies are becoming profitable. 

A total of 73 biotechnology and emerging drug discovery companies (including acquisitions) had attained profitability as of 2007 and a further 32 companies are expected to achieve profitability by the end of 2009.

Growth drivers
The final growth driver for the healthcare sector is the trend towards rising global affluence. A disproportionate share of income growth tends to be spent on healthcare as the newly minted middle classes in many countries begin to demand quality western-style healthcare.

This is particularly true in China and India where there is a rapidly growing middle class demanding better medical care.

China’s pharmaceutical market is growing two to four times faster than western markets. Emerging markets overall account for more than one third of recent pharmaceutical growth.

These factors lead OrbiMed to believe that investing in healthcare now is a compelling opportunity. Historically low valuations and non-cyclical growth companies coupled with rampant merger and acquisition activity creates an attractive entry point for investors today.

Pharmaceutical and biotechnology companies have generally underperformed the broader markets by a cumulative margin of 25%–40% over the past six or seven years, according to Neild. As a result, valuations for larger biotechnology companies are now near historical lows by measures such as price/earnings ratios and price/sales ratios.

Non-cyclical growth opportunities, such as healthcare companies, have often rotated into favour during previous economic recessionary environments.

For example, the Amex Biotechnology Index increased 46% in 1990 and over 190% in 1991, a period similar to today’s economic environment.

Merger and acquisition activity is strong. The large pharmaceutical companies need to pay high prices for biotechnology acquisitions.

A dozen significant acquisitions have been announced in the past few months, including a $7 billion offer for Imclone Systems from Eli Lilly and a $44 billion offer for Genentech from Roche.

Lack of competition
The business of investment in the healthcare sector has become far less competitive over the past few years thanks to a significant amount of attrition among the group of specialist hedge funds focused on the healthcare sector. 

Less competition provides the survivors, such as OrbiMed, with greater market inefficiencies and less competition for new ideas.

For all these reasons Neild believes that OrbiMed’s long/short specialist healthcare fund, Caduceus Capital, will continue to prosper as it has over the past 15 years. Neild believes a long/short equity strategy has significant advantages in making healthcare investments that are not available to a long-only static approach.

Wide dispersion
First, there is a wide dispersion of returns for companies within the biotechnology and pharmaceutical sectors because these companies generally have a ‘binary’ nature to their development. Either their therapies work, and the stocks go up, or the therapies fail along with the stocks.

A long/short equity fund can make money from either type of outcome and is not solely depending on playing the ‘winners’.

Additional, the ability to manage tactically net market exposure is also advantageous in the healthcare sector, as volatility,  particularly for biotechnology stocks, can be high.

The impact of investor sentiment changes and retail investor money flows combine to create high volatility and frequently over-bought or over-sold market conditions.

A long/short equity fund is capable of altering net market exposure in response to these market cycles in order to seek additional alpha generation possibilities.

But this sector is not to be entered lightly through generalist funds who lack deep scientific and medical research experience.

The highly technical nature of analysis of emerging drug and medical device products requires a highly specialised research team.

Expertise and research
Despite these considerable challenges, OrbiMed believes it has put together a winning formula.

Its investment team includes over 30 professionals exclusively focused on the healthcare sector. Its activities cover the whole gamut of healthcare investments across all major geographies, sub-sectors and company stages.

Strategy
According to Neild, the company pursues a simple (in concept) strategy. OrbiMed seeks long investments in companies pursuing novel therapeutics that will be successfully commercialised and generate meaningful revenues.

On the short side OrbiMed seeks companies pursuing therapies that will fail in clinical trials or suffer disappointing commercial launches.

The process is driven by intensive proprietary research. The company takes a worldwide perspective to find the best opportunities globally and complements the investment process with a rigorous set of risk management protocols.

According to Neild, OrbiMed has an edge over other funds because its large team gives it the ability to gain more extensive coverage of scientific and medical news.

Close contact
The investment team attends major therapeutic conferences and frequently reviews relevant scientific literature and journals to keep abreast of developments and find the companies most likely to be the target of attention on either the long or short side of the portfolio.

The team has developed wide networks and relationships with independent medical consultants. In addition, it carries out surveys with physicians to identify trends and new areas of research.

In a typical year, investment professionals from OrbiMed will meet with management team members at upwards of 90% of the companies in their sector.

They also work closely with the private equity team to leverage relationships with venture capital stage companies.

OrbiMed has access to agency and policy maker views on important drugs, speaking with, for example, current and former employees of the US Federal Drug Administration. To facilitate its global research efforts, OrbiMed has team members based in New York, Mumbai and Shanghai.

Portfolio construction
Portfolio construction is disciplined and research-intensive. From a list of 750 public companies (including 500 US), analysts screen out the middle 350 as neither good enough to buy nor bad enough to short. An analyst typically looks at 50 stocks.

From the 400 companies remaining on the active list, fair value estimates and valuation screens are created.

Analysts meet with the management of each company at least once a year. From this process another 200 companies are dropped as they are seen to have no catalyst for an investment thesis.

The remaining 200 names are studied intensively. Detailed business forecasts and research are undertaken, including frequent discussion with company management.

Analysts working in conjuction with the two senior portfolio managers make a final selection of long and short best ideas on a global basis.

Typically the portfolio holds 35 core long and 20 short positions. A typical mix of positions contains 15 profitable companies, 20 emerging companies and 20 short positions. There are daily investment meetings to discuss the portfolio.

As with any hedge fund, risk management is a serious issue. Bottom-up stock selection emphasises companies where risk factors and correlations are well understood. 

Net market exposure averages 60%–70% but is adjusted dynamically in response to changing market conditions.

Diversification
The portfolio is diversified. It is typically made up of a selection of the big name pharmaceutical companies, smaller specialty pharmaceutical companies, generic drug makers, medical device manufacturers and mature and emerging biotechnology.

Exposures are a mix of North America, Europe and Asia. Position sizes are limited for individual equities. Large-cap companies are typically sized at 4%–7%, mid and small caps at 2%–4% and with short sales at 1%–3%.

Some additional strategies which are non-correlated to equities complement the core long/short equity book, including an options overlay strategy and a dedicated effort to acquire pharmaceutical royalty streams.

Al Safi link
OrbiMed has a long-term strategic interest in the Middle East. Neild expects opportunities in pharmaceuticals and healthcare services to be attractive to investors in the region.

He believes the way OrbiMed constructs its funds will require little change to make them Shariah compliant.

“The nature of the healthcare companies we focus on means they are not leveraged or have a lot of debt. We would not expect to have to change the way we run the protfolio in any meaningful way,” concludes Neild.

After an initial approach from Barclays Capital, the due diligence process has begun on both sides

“We see real opportunities to work with Barclays in a strategic partnership. We’ve been to the region several times and expect over time to establish a permanent presence in the Middle East,” Neild explains.