Most people would say Warren Buffett, the famously tech-adverse investor who seeks "Wonderful Businesses", would never touch the biotechnology sector. However I believe this is simply a function of his  circle of competence principal.  Simply, if he doesn't fully understand a business, he won't allocate it his capital.

Do some  investor's circle of competence include biotech? Of course, but does the biotech sector contain "Wonderful Businesses"? Let's find out.

So what is a Wonderful Business? Investopedia has a nice summary of Buffett's wonderful business criteria:

Buffett's criteria for "wonderful businesses" include, among others, the following:

1. They have a good return on capital without a lot of debt.
   
2. They are understandable.
   
3. They see their profits in cash flow.
   
4. They have strong franchises and, therefore, freedom to price.
   
5. They don't take a genius to run.
   
6. Their earnings are predictable.
   
7. The management is owner-oriented.

For the purposes of this post, I am going to focus on the factors we can easily quantify, specifically items one and three. Return On Invested Capital, item one, is certainly the most important. It's also worth noting that this criteria works. 

There are many "cheap" companies, but not many that earn high returns on capital. Let's look at Berkshire Hathaway's publicly traded holdings to see what Buffett considers an acceptable ROIC.

For those who completely dismiss The Oracle's interest in biotech, I will point to Berkshire Hathaway's quarterly 13F filing. As of December 31, 2013 Bershire owned shares in Sanofi Aventis and Johnson & Johnson.  Although these are "pharma" and not "biotech", the truth is that the distinction between the two sectors has been getting blurrier every year.  Biotech is simply next-generation pharma. Case in point, J&J is the world's fifth largest biologics company, and Sanofi's Tuberculin for diagnosis of  tuberculosis is a Purified Protein Derivative. 

Let's check out the ROIC's  of Berkshire Hathaway's healthcare companies. (Yes, I know DaVita is not Buffett's position, but rather Ted Weschler's)  Also, they recently sold out of GSK, but it's worth noting for our purposes.

So we've established that Berkshire Hathaway, and by extension Buffett, has invested (to a limited extent) in companies that sell biotechnology products.  But what about the criteria outlined above? What about a pure play biotech company?

Gilead Sciences is the second largest component of the NASDAQ Biotechnology Index at 8.4%. This maker of Hepatitis and HIV antiviral drugs was founded in 1987 and then went public in January 1992. 

Gilead has followed the path of many growing companies, operating at a loss for the first several years before finding success. It wasn't until the second quarter of 2002 that Gilead earned a profit, and since then it has earned an excellent average ROIC of 26.9% over the past five years, nearly as much as Buffett's fourth largest holding IBM.

Below I've shown regular ROIC, and Cash Return on Capital Invested, to smooth out some accounting charges that do not impact cash.

What about criteria number three, profits as cash flow? Turns out Gilead is pretty good there too, with the same exceptions of some accounting write downs, Earnings and Cash Flow from Operations have tracked each other very closely.

So we've established that biotechnology can, quantitatively, meet the definition of a "Wonderful Business". 

Interesting side notes: 

• Michael L Riordan, Gilead Founder  attempted to recruit Warren Buffett as a board member in 1988. Buffett quipped "Sorry, but I would bring nothing to this enterprise except my name".
  

• To further illustrate the blurring lines between pharma and biotech, Gilead's antivirals are small molecule drugs, which are typically associated with pharmaceutical companies.
  

• Since Gilead started earning a profit in 2002, the stock has gone up.  See below. Like I said earlier, this stuff works.

All data from ycharts.com

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

The MIT Quant, and head of AlphaSimplex Group proposes a fund to invest in biotechnology cures for cancer.

The source article is here and Mr. Lo's proposal is here.

Born in Hong Kong and raised in New York City, Lo lost his mother last year to lung cancer. He, like many people, also has watched friends and colleagues struggle with the disease in its various forms.

As an economist, he said, “I felt pretty helpless.’’

So he decided to focus on an area where he could have an impact: funding sources for cancer research.

In his Nature Biotechnology paper, Lo calls the current business model for drug research and development flawed, noting that the number of drug applications per dollar of spending is declining, and pharmaceutical stocks as a group have fared poorly over the past decade.

Under Lo’s proposal, the oncology fund could pour money into more speculative, early-stage research in exchange for a percentage of future royalties or proceeds from sales of intellectual property. A successful cancer drug can generate $2 billion a year in revenue, he said.

Here at HedgeRoll, we have followed the "Twitter Hedge Fund" from Derwent Capital Markets since its launch.

However it seems to have shut down, and is now offering its signals to day traders.

Previous HedgeRoll articles:
Twitter Hedge Fund Manager Interview
Twitter Hedge Fund: Overwhelming Demand
Hedge Fund to trade based on Twitter Signals

The most recent employment data became available earlier this week.  The Economist did a great job illustrating the biggest changes in employment among the 50 largest U.S. cities. 

Examining the change from 2009, The Big Apple experienced the largest job growth since June 2009.  Outside of New York’s gain, not a lot of growth occurred in the Northeast during that time.  Texas, represented by Houston and Dallas, rounded out the top three with Austin not far behind in seventh place.

Overall, the sunbelt produced the most jobs the past three years.  Stretching the data back further to end of 2007, the top five cities with the largest positive change in employment were south of the Mason Dixon Line.  More precisely, 80% were in Texas, with Washington D.C. rounding out fifth place.  The sun can’t be the main reason behind the growth.  Pittsburgh experienced lively job growth the past five years, and we have more rain than Seattle. 

To further point out it’s not all fun in the sun, LA, Miami, Phoenix, and Las Vegas were among the cities with the greatest number of jobs leaving their cities since 2007.  Add Chicago and Detroit to the bottom five and the trend shows jobs are escaping extreme climates. 

The past year, from February to February, NYC again had the largest gain in employment but not to be unrepresented, Houston, Dallas, and Atlanta follow behind New York.  The only major cities during the past year to experience negative employment change were Providence Rhode Island and Sacramento California. 

Certainly the boom in energy related fields, especially through shale exploration, accounts for the Texas and sunbelt growth.  It is interesting to see the shift away from the Northeast and into the middle of the country as workers follow jobs.