After Missing Earnings, Is Pfizer a Good Value?

When Pfizer (NYSE: PFE  ) last reported earnings I was pretty ambivalent about the stock, and since that late January piece the shares have lagged both the broader market and pharma industry peers like Merck, Lilly, and Novartis. It's not as though the company has been sitting still either, what with positive clinical updates on its Prevnar vaccine and palbociclib oncology drug. Dwarfing all of that is the potential megadeal for British pharma company AstraZeneca (NYSE: AZN  ) . Pfizer needs to guard against overpaying in this potential deal, but these shares are getting closer to an interesting entry point for long-term investors.

Revenue comes in quite weak
It is probably lucky for Pfizer that investors are far more interested in the possibilities of a higher bid for AstraZeneca deal than the details of this quarter, as it was not a particularly strong result. Revenue fell 9% year over year, as the company missed estimates by more than a 6%.

If that sounds like a large miss for a company like Pfizer, it is. That's particularly so given that weekly prescription tracking services allow analysts to dial in the U.S. sales pretty well. In any case, the double-digit misses relative to consensus were all in older drugs like Celebrex, Lipitor, Viagra, and Sutent, but Lyrica sales (up 2%) and Prevnar (flat) also both missed expectations. Pfizer also reported results according to its new corporate structure, with Global Established Pharmaceuticals down 10%, Global Innovative Pharmaceuticals down 4%, and Global Vaccines, Oncology, and Consumer up 2%.

The good news in the revenue miss is that Pfizer did see a better-than-expected mix and relatively stronger margins. Gross margin improved 0.40% against a sell-side expectation of a 2.1% worsening. Operating income fell 13%, only slightly worse than the average estimate. Pfizer's overall reported operating margin was 41%, while the segment margins were 25% for GIP, 25% for VOC, and 56% for GEP.

Still no clear path on palbo
The prospective AstraZeneca deal does indeed have enormous potential to transform Pfizer, but in terms of "organic" prospects, the path forward for palbociclib is the most important near-term item on Pfizer's agenda. This CDK 4/6 inhibitor nearly doubled progression-free survival in combination with letrozole, but not enough events had accrued by the earlier reporting deadline to give an overall survival readout.

Lilly and Novartis are close behind with their own CDK 4/6 inhibitors (bemaciclib and LEE011, respectively), which makes the regulatory pathway discussion all the more important. Pfizer, and Pfizer bulls, had been hoping to file for approval on the basis of phase 2 data (all prior ER+/HER2- drugs were approved on PFS data), a decision which would likely give Pfizer at least a year's head start on its rivals and on its way toward multiple billions of dollars a year in potential sales.

AstraZeneca remains the $100 billion elephant in the room
Pfizer has formally made a $106 billion offer to acquire AstraZeneca, an offer that AstraZeneca rejected despite the 39% premium it represented to AstraZeneca's price before Pfizer's first overture to the company. With a tax inversion deal offering Pfizer the possibility of taking advantage of the U.K.'s lower 20% statutory rate and a permanent R&D credit, there are definitely reasons for Pfizer to consider a higher bid. It's also worth noting that there really aren't too many other options for Pfizer if it wants a tax inversion deal, as there aren't many companies big enough where the non-US company's shareholders would still hold 20% of the combined company.

It's not just about taxes, though, nor is it about the possibility of trimming redundant SG&A and R&D costs (something Pfizer may have to be careful about given the interest of the U.K. govt in this deal). Pfizer can leverage AstraZeneca's respiratory and diabetes franchise across its own primary care efforts, and there are a number of attractive early stage immuno-oncology assets within AstraZeneca's pipeline. With both AstraZeneca and Allergan on the receiving end of unsolicited proposals, this could be a very interesting time in Big Pharma with white knight bids or mergers of equals designed to avoid these takeovers.

The bottom line
Even with the headline and execution risk that the proposed AstraZeneca deal (or a higher bid) would bring, I find myself liking Pfizer a little more than before. I'm not convinced that this three-way split of the business really adds value, but I do have more conviction about the long-term value of products like Prevnar and pablociclib. With the shares seemingly priced for a high single-digit return, I'd start considering these shares are a relative value option in the large pharmaceutical space, even if Pfizer's organic growth prospects will be challenging absent a large-scale acquisition.

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