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Note From Edward Hemmelgarn

This has been an extraordinarily challenging year for equity investors. Many portfolio managers, as well as the financial media, have become obsessed with day-to-day market volatility. At Shaker Investments, however, we have not lost sight of the fact that economic recessions do end. And that identifying investments in superior growth companies during these recessions usually lead to superior investment returns once the recession is over.

Although an economic rebound in the U.S. has not yet emerged, the market is sensing that it’s near. Despite the September attacks, which introduced new and difficult-to-analyze factors into the equation, it appears as if investors are cautiously beginning to favor equities once again. Our portfolio has earned an above market return in this recent period, and we believe it is very well positioned to enter the new year.

This issue of the Shaker Investments Newsletter includes an interview with Doug Carty, Senior Vice President and CFO of Atlas Air Inc., a third quarter addition to the portfolio. Atlas Air Inc. (CGO) provides air cargo transportation services outside the U.S. to major international airlines. Doug discusses the current and future state of the cargo industry and the impact of the latest slowdown in the airline industry.

As we approach the end of the year, we want to remind our readers that our client service staff is available to help with any requests for gifting assets, account appraisals, gain/loss statements or for other tax planning needs you may have.

We would like to take this opportunity to wish all our readers a happy holiday season. We look forward to a more peaceful and prosperous year in 2002.

Biotech is Becoming a Stronger Partner
Lynn Laws, Healthcare Analyst

Since the advent of the biotechnology industry over two decades ago, biotechnology and pharmaceutical (pharma) companies have formed a symbiotic relationship, each relying on the other for critical aspects of their businesses. Pharma has been dependent on biotech to supplement its R & D and drug pipeline, and biotech is dependent on pharma for its financial strength and sales and marketing expertise.

Almost without exception, the first generation of large, profitable biotech companies have entered into alliances with pharma in order to benefit from pharma’s broad market distribution and to make the transition to profitability. For example, American Home Products markets Immunex’s blockbuster, Enbrel, for rheumatoid arthritis, and Abbott Laboratories markets MedImmune’s, Synagis, for the prevention of an infection in infants. Even Amgen, by far the largest and most successful biotech company, allows Johnson & Johnson to market Procrit for the treatment of anemia.

This symbiotic relationship is evolving, however, with biotech becoming a stronger partner as the industry matures. The pharmaceutical industry needs access to new drug candidates now more than ever. With numerous drugs coming off patent ($11.4 billion worth in 2001 alone and an additional $18.7 billion at least by 2005), pharma is facing increasing generic competition. To maintain its historical growth rates, or any growth for that matter, pharma must introduce new drugs that can make up for these lost sales. This growing reliance on the biotech industry strengthens biotech’s position.

The number of profitable biotech companies is increasing rapidly, and the industry in aggregate is well capitalized. Pharma will be paying more for biotech’s pipeline as biotech’s financial dependence on pharma decreases. In September, Bristol Myers Squibb paid a whopping $2 billion for essentially 40% of the rights to Imclone’s new cancer drug, IMC-C225, currently being reviewed by the Food & Drug Administration.

Biotech also has started to sell and market its own drugs. In what is certain to be a major campaign, Amgen has gone head to head against Johnson & Johnson’s Procrit in the very large anemia market with a next generation drug, Aranesp. Can biotech beat pharma at its own game? This battle will be the first real test.

Amgen’s smaller brethren also have plans to sell direct. Cell Therapeutics, for example, is marketing Trisenox for Acute Promyelocytic Leukemia to a subset of oncologists that treat this disease. How Cell Therapeutics will fare remains to be seen, but the company has increased its probability of success with superior clinical data and a small target audience.

The balance of power is shifting towards the biotech industry. Biotech is and will continue to be a critically important source of R&D for the pharmaceutical industry. But it is also a maturing industry with a growing number of profitable companies that are fully integrated and self-sufficient.

Executive Insights
Doug Carty, Senior Vice President & Chief Financial Officer Atlas Air, Inc.

Q: How is Atlas Air positioned against its competitors within the air cargo industry?

A: Atlas Air has a unique model in the cargo industry, because our customers are foreign airlines. We help international carriers meet the increasing worldwide demand for cargo transportation by leasing aircraft and providing crews to operate the aircraft. We also provide maintenance and insurance, hence the term “ACMI.” Outsourcing these requirements frees an airline to build this segment of its business and meet cargo demand without assuming huge capital or personnel costs. Also, we fly only high gross weight aircraft while our competitors generally operate smaller airplanes with lower payload.

Q: In effect, is your greatest competition the airlines you seek to serve?

A: Exactly. Our most significant competition is not really other cargo outfits, but foreign airlines that can fly their cargo on their own freighters or use the belly of their passenger aircraft. Fortunately, we can convince them that our cost effective, flexible service is a real benefit to them.

Q: Do you foresee any of the major foreign airlines entering your business space?

A: No. It’s not just a matter of having planes and crews. International air flight is a highly regulated industry. Worldwide carriers require specific authorization for every market they serve. Obtaining a permit is a long, costly and often-times frustrating process. One way we continue to strengthen our foothold in this industry is to look for opportunities to acquire carriers that already possess permits for various markets. For example, our recent acquisition of Polar Air Cargo, has allowed us to offer our existing clients scheduled flights to Japan.

Q: How fast is the air cargo industry growing?

A: Currently, air cargo has an annual growth rate of about 6%. Industry experts forecast that cargo will grow at a faster pace than passenger traffic as a result of increasing trade liberaliza-tion.

Q: How does Atlas Air’s growth rate compare to the rest of the industry?

A: Atlas Air has enjoyed substantially higher growth than the industry average since it was formed in 1992. Last year, we reached sales of almost $800 million.

Q: How does your pricing compare to that of the competition?

A: Our scale provides us with a competitive cost advantage. There are only a handful of companies in this business, and we are, by far, the largest freight operator. Also, we keep our prices competitive by closely monitoring personnel, aircraft ownership and maintenance costs, which in aggregate represent between 75% and 80% of our total costs.

Q: Has the current drop in passenger air travel affected the air cargo industry?

A: Generally, prior to September 11, both passenger and cargo carriers were feeling the affects of the slowing economy. I think September 11 will only make that worse. However, for Atlas, we have seen a big increase in military and other charter flying since Sept. 11. Looking forward, the grounding of passenger aircraft reduces a fair amount of cargo capacity, as carriers lose the belly space of each passenger airplane that’s taken out of service. We think that’s a medium term positive for Atlas Air.

Q: Is there any particular area of the globe where cargo services are growing especially fast?

A: We believe that Asia is poised to become the growth leader. Among the major Asian economies, we believe that China has the highest growth potential. On this side of the world, Latin America is becoming an ever bigger part of our network plans. We have established a hub in Miami as a gateway for South American bound cargo.

Q: Do any U.S. airlines use Atlas Air for domestic cargo service?

A: No. Generally, restrictions in their pilot labor contracts prohibit outsourcing flying to other carriers.

Q: A final question: will the escalating cost of security affect Atlas Air’s profitability?

A: After September 11, every insurance contract related to the airline industry has risen in price and affected carriers’ profitability. However, security related costs will probably have a lesser impact on cargo than on the passenger industry. In our case, this negative impact has been somewhat mitigated by a sharp near term increase in contracts with the U.S. Military.