As investors were picking up the pieces after the dot-com
implosion, they came across another troubled sector.
A series of loomingpatent expirations on key drugs meant that
major pharmaceutical companies were on the cusp of a
decade-longsales drought. Investors responded by dumpingshares ,
as theAMEX PharmaceuticalIndex plunged from 400 in late 2001 to
just 250 ayear later.
A decade later, Big Pharma's "patent cliff" was still a key
concern, and this index remained far from its previous highs. Yet
in recentquarters , Big Pharma has come back with a vengeance, as
shares have moved back to the levels seen all those years
Credit goes to severalfactors , most notably the absence of
any new imminent blockbuster-drug patent expirations, and an
industrywide focus on shareholder-friendly moves such as share
buybacks anddividend hikes.
Ironically, the rising share prices have overwhelmed the impact
of many of the dividend boosts.Stocks such as
Bristol-Myers Squibb (
have moved their dividend yields down from the 5% to 6% range to
the 3% to 4% range.
To be sure, a rising tide has lifted all boats, as just about
every major drug company has astock chart like the one you see
above. Yet as we move ahead, a pair of factors may benefit only a
select group of companies. Simplyput , many drug stocks have now
seen their bestgains already take root, and investors should
focus on stock-picking instead of just owning the sector.
Over the past few years, some of these companies have realized
they are valuable on a sum-of-the-partsbasis and have moved to
unlock the value of the various parts. In the past five years,
three major spin-offs have occurred.
"All three of these were ultimately well received by themarket
as it appears that the sum of the parts was greater than the
whole in all cases," saidanalysts at Jefferies Group.
has risen nearly 25% since it began trading at the start of the
year. Shares of
haven't risen as robustly, but the deal was so hotly anticipated
that theoffering price was boosted from $22 to $26 just before
theIPO , enriching Pfizer's coffers in the process.
Mead Johnson (MJN)
, for its part, has risen roughly 200% since its February 2009
debut, more than twice thegain of the S&P 500 in that time.
Thanks to those gains, look for more value-enhancing spin-off
announcements in the next year or two. Analysts at Jefferies
looked at the business structures of all of the leading
drugmakers and focused on companies that have the most
diversifiedrevenue bases and are thus the likeliest candidates to
pursue a spin-off. Looking at these companies on a
sum-of-the-parts (SOTP) basis, the firm sees the biggestupside
- Abbott, which still might spin out its nutrition,
diagnostics and medical devices businesses, has 30% upside to
its $48 SOTP assessment.
, with a fast-growing crop sciences division, has 35% upside to
the $145 SOTP value.
might look to spin off its vaccines or animal health businesses
and could unload its one-third stake in
Roche Holding (RHHBY)
. Such moves wouldyield 20% upside to Jefferies' $85 SOTP
Watch The Pipelines
The other key trend for Big Pharma is a shift away from patent
expirations toward potential new blockbuster drug launches.
Analysts have been scrubbing the drug pipelines at the major
players and found that a few companies are poised for robust new
drug launches over the next few years.
One of the big developments in drug research is the use of
antibodies to boost the immune system against cancerous tumors.
Several firms are testing drugs in clinical trials, and
Bristol-Myers Squibb may be in a position to take a leading role
by combining a pair of drugs, Nivolumab and Yervoy.
At the recent American Society of Clinical Oncology annual
meeting, this drug combination "stole the show," according to
Morgan Stanley's analysts, citing a high degree of rapid efficacy
for the drug combo. The niche could represent a $2.5 billion
annual revenue opportunity for Bristol-Myers by 2020, according
to these analysts. Goldman Sachs concurs with thebullish view of
Bristol-Myers citing "the best pipeline story of the group."
Analysts at Citigroup are partial to Novartis, thanks to a new
drug platform called CART-19, which has the promise of treating a
wide variety of cancers and might one day make up what Citi calls
a "mega-blockbuster pipeline." Those analysts think CART-19 could
be useful in fighting "refractory solid tumors (including ovarian
and pancreas) as well as earlier-stage disease and non-oncologic
indications, such as viral infections and autoimmune disease.
These indications represent significant potential upside risk to
Merrill Lynch analysts highlight
Eli Lilly (LLY)
as a top pick, noting that "Several promising late-stage pipeline
assets are underappreciated, in our view, and could be
transformative to Eli Lilly's growth trajectory." They see shares
rising from a recent $52 to $65.
Risks to Consider:
Big Pharma stocks have risen handily over the past 12 months,
but the companies that lack pipeline ormerger andacquisition
catalysts may be ripe for profit-taking, especially as they no
longeroffer highly enticing yields and are poised for anemic
growth in the years ahead.
Action to Take -->
While investors scored with virtually all drug stocks in the past
12 months, only stocks with catalysts have a path to further
upside. Novartis and Bristol-Myers Squibb appear to be
best-positioned for further gains at this juncture.