Pfizer Is Worth Another Look

by: Ockham Research August 28, 2008 | about stocks: PFE    

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For shareholders of Pfizer, Inc. (PFE) stock, it has been a pretty barren decade. Like many large pharmaceutical stocks, Pfizer shares have done virtually nothing in years. Admittedly, the stock pays a generous dividend (6.5%+) which appears fairly secure.

However, at some point, Pfizer is going to have to achieve some noteworthy success on the new product front or patent expirations on blockbuster drugs are going to continue to dampen earnings and may even force a dividend reduction. Further weighing on the stock is the fact that pharmaceuticals face political risk that appears to be intensifying. Should Democrats win control of both the White House and Congress in November, there is a pretty good chance that the legislative environment faced by drug makers will be even more adverse.

PFE shares have lost over half their value since peaking in 1999. There has been a management shakeup, staff reductions, restructuring and plant closings. Nothing has seemed to levitate the stock out of its multi-year funk. Of course, other pharmaceutical stocks have also turned in lousy decades (Bristol-Myers (BMY) and Schering-Plough (SGP) come to mind). However, Pfizer’s run of disappointment is particularly noteworthy.

Looking forward, many of Pfizer’s biggest revenue generators are losing their patent protection and will face generic competition. Pfizer’s cholesterol-fighting blockbuster Lipitor is already seeing sales declines as doctors prescribe less expensive generic alternatives, yet it does not lose its patent protection until 2011. PFE drugs which recently lost patent protection (Norvasc, Zyrtec and Camptosar) all saw sales declines of from 16 – 75%. With half of U.S. drugs coming off patent protection by 2011, the risk to the earnings of major pharmaceutical manufacturers is huge.PFE_20080827_000622

Pfizer does have a reasonably attractive pipeline of drugs in development—particularly in the oncology area. However, political risk and the possibility of a nationalized health care system could completely obviate any future earnings benefits generated by this new product pipeline. Pfizer continues to retrench and reorganize in an attempt to streamline operations. The company is on track to close thirteen manufacturing plants by next year as part of this effort.

Pfizer’s attractive dividend yield (thrice the average money market fund payout) has long been a source of solace for its investors. However, years of stagnant earnings could eventually put the dividend at risk. According to Value Line, much of Pfizer’s cash hoard is located offshore, and the company would take a big tax hit if it needed to bring those funds state-side in order to ensure the dividend payout.

Management is clearly under pressure to levitate the stock. The research and development budget has been expanded in a re-doubled effort to grow internally. However, absent a blockbuster success, pressure remains to grow via acquisition, which could further limit the stock’s upside in the years ahead.

Based on Ockham’s value-oriented approach, PFE shares remain attractive (and have been for some time). The stock’s price-to-sales range over the last decade is 3.91x – 5.67x, while the stock currently trades at 2.78x. The price-to-cash flow range is 14.73x – 21.42x with the stock trading at 6.29x. This whopping 66% discount to the average price-to-cash flow number over the past decade is exceptionally compelling.

Pfizer competes in a heavily regulated and difficult business. Pharmaceutical companies face political and litigation risks that in many ways rivals that of tobacco manufacturers. However, no one can argue that the societal contributions of these companies are not significant. Successful development of life-saving drugs has played a major role in Americans living longer, healthier lives.

No investor can look at Pfizer’s ten year chart and miss the fact that the stock has been a multi-year dog. However, from a valuation standpoint, these high-yielding shares are worthy of consideration for patient, income-oriented investors.

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This article has 4 comments:

  •  
    Aug 28 09:14 AM
    PFE is definitely worth a close look; hell its a screaming buy. The PFE big problem is that if science does not deliver, the necessary catalyst is lacking. And after 10 years, repair is going to take time. My view is that there is a strong case for major pharma, even if science is slow in delivery. Ultimately it comes down to considering whether a non research based pharma (generic) can survive. My view is that as time goes by, the marketing machine of big pharma will be the single most important asset for big pharma. Generic sellers will end up being low cost contract manufacturers for major pharma. If PFE decides to compete once Lipitor goes generic they can; with their marketing the Ranbaxy's of the world will not stand a chance unless they work with big pharma on the contract manufacture side. Generics manufacturers have nothing by way of an entry barrier and they cannot compete on sheer resource & scale. Even on the product, the correct cocktail is better than only the active ingredient; so one could argue that PFE will make the best "generic" Lipitor! But then how many people are willing to wait.

    And that overseas cash hoard; there are millions of ways to monetize it, a non US acquisition (even a reverse acquisition possibly a takeover combined with an inversion), expansion outside US (the natural growth market is non US anyway), and then there is patience - remember the ability to defer taxes creates opportunities for permanent timing differences (i.e. you save the tax forever and not just the time value of money). Few years ago companies were allowed to remit foreign profits back to US to stimulate the economy; that time is coming again. As always, everything to do with the US tax code is over complicated, but when the opportunity comes, it can be exploited.
    Personally, I believe US corporations are well positioned in the global world better than anywhere else. Yet, I wish that the tax code did not strangle business as it does today.
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  •  
    Aug 28 09:30 AM
    Excellent article presenting both sides of the case for Pfizer. Well done!
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  •  
    Aug 28 09:38 AM
    Mr. Shiv certainly hit the nail on the head. When big pharma gets into generics, they'll prosper and generic folk will wither away.
    Reply | Link to Comment
  •  
    Aug 30 10:03 AM
    In 1999 Pfizer was grossly OVERVALUED as were most stocks which had PES over 35. Overall TAX REVENUES and corporate earings for NON FINANCIALS have increased sharply in the past 9 years. Pfizer is now UNDERVALUED if you bought it around 19 .
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