1 Large Cap, 2 Small Cap BioPharma Stocks to Consider Buying

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

If you are looking to buy stock in biotech, there are several variables you should consider. Growth rates for products and even the potential growth rate for catalysts are critical to any analysis. To spread out risk and still gain exposure to undervalued drugs, I recommend buying stakes in large BioPharma companies, but an even greater stake in their smaller cap buyout peers. Below, I review three stocks with this strategy in mind.

The Good & Bad For Amgen (NASDAQ: AMGN)

This biotech company has been on a roll for the year--gaining 38% in value. It now trades at a respective 15.8x and 12.6x past and forward earnings, which isn't incredibly cheap. With a return on invested capital of only 10.5% (100 bps below the sector average), it has been just barely creating value. Perhaps this explains why half of the 24 reporting analysts rate the stock a "hold" or worse and have a price target ($93.87) only slightly higher than the current price.

There are several factors to look at when assessing Amgen's value. With Lipitor off patents, several companies are looking to release drugs that reduce bad cholesterol. Amgen had a strong mid-stage showing for its candidate targeting CSK9, a tumor-regulating gene in the liver. AMG 145, combined with statin therapy, lowered LDL cholesterol levels by 56% in patients suffering from heterozygous familial hypercholesterolemia In addition, the FDA approval of Prolia to boost bone mass in men facing increased risk of fractures provides further momentum. On a more strategic level, the company is looking to expand more into international markets where it sees greater growth opportunities. This transition will be coupled with a more generous capital allocation policy--a strategy supported by the already strong free cash flow yield of 8.7% and an excellent balance sheet (current ratio: 3.9x).

On the other hand, analysts are expecting the company to grow EPS by only 8.6% annually over the next 5 years. This is a rate that is 340 bps below the healthcare sector average. For this reason, I recommend holding out and waiting for a more compelling buying opportunity.

Small Cap Roundup: Nektar Therapeutics (NASDAQ: NKTR) & Enzon Pharmaceuticals (NASDAQ: ENZN)

If you are looking for higher returns, the small cap market is the place to be--especially in biotech where the next big product will likely arise. Large BioPharma has a history--indeed, is known for--buying out smaller producers that have promising catalysts that they can then extent to larger patient populations. Nektar Therapeutics and Enzon Pharmaceuticals are two producers that you should consider buying.

Nektar crashed from $11 to a low of around $6 over just a month long period from October to mid-November. Shares have since recovered and are up 42.5% from the 52-week low, but there is still room for improvement. It has a diverse pipeline that targets niche markets, such as oncology, pain, immunology, anti-infectives, hemophilia, and metabolic markets. One main catalyst, NKTR-192, is a short-acting analgesic for treating acute pain and has delivered strong clinical results, achieving the target pharmacokinetic profile. And naloxegol for opioid-induced constipation met primary endpoints in its Phase III trial--a candidate that AstraZenca owns worldwide license to. This product reverses the after-effects of narcotics and morphine, and it is especially promising in light of how the opioid market is responsible for 250 million prescriptions each year in the United States.

Enzon Pharmaceutical recently paid out a $2 per share special dividend to shareholders, and it now looks incredibly undervalued at its current $4.73 price. Billionaire activist investor Carl Icahn recently amended a 13D filing effectively urging management to catalyze value. Earlier this year, the company even appointed an Icahn representative to the board. With four compounds under development, a stable royalty business, and an ongoing share repurchase programs, risk/reward is compelling. The company's Customized Linker Technology®, for example, have been used in 8 marketed products that now provide over $3 billion in sales per year.

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