Investors should cut exposure to CROs as biotech market slows: Jefferies

In a note Wednesday, Jefferies said investors should reduce exposure to contract research organizations (CROs), particularly those focused on biotech and early-phase research, due to slowing demand in the biotech market.

The firm downgraded Fortrea (FTRE) and Medpace Holdings (NASDAQ:MEDP ) from Buy to Hold, citing rising financial difficulties and budget cuts across the industry.

Jefferies notes that CROs are facing significant challenges, with both pharma and biotech sectors reducing budgets.

"CROs, public and private, have highlighted a slowing biotech market, particularly pre-proof-of-concept," analysts stated.

Medpace is seen as particularly vulnerable, with 80% of its revenue coming from small biotech companies, while Fortrea's heavy exposure to early-phase research makes it more susceptible to slower activity.

Jefferies also pointed out that budget cuts and rising bad debts have worsened intra-quarter commentary from CROs.

The firm says this suggests the biotech funding slowdown that began in 2022 and 2023 is now having a more pronounced impact, leading to elevated cancellations and reduced new activity.

The outlook for Fortrea is considered particularly challenging, as its growth strategy relies heavily on revenue expansion to achieve margin targets.

However, Jefferies believes the current environment makes it difficult for the company to meet its 2025 EBITDA margin goal, as lower bookings this year will affect revenue next year.

They add that Medpace, which managed to grow revenue despite biotech funding declines in 2022 and 2023, is now starting to feel the impact of cancellations.

Jefferies expects Medpace’s bookings-to-billings ratio for Q3 to fall at the low end of its target range, which could negatively impact its 2025 earnings.

Jefferies concluded that both Medpace and Fortrea face valuation pressures as their deteriorating fundamentals clash with high valuations relative to peers. As a result, the firm believes the stocks could have further downside.

Source: Investing.com