Pfizer, Inc. (PFE +1.50%) is one of the largest drugmakers in the world, and management is making solid progress in kick-starting sales and profit growth following years of declining results tied to the loss of patent protection on Lipitor. Is Pfizer worthy of adding to your stock watch list?
In this clip from The Motley Fool's Industry Focus: Healthcare podcast, analyst Kristine Harjes and Todd Campbell walk Pfizer through the process of adding a stock to their watch list.
A full transcript follows the video.
This podcast was recorded on Jan. 11, 2017.
Kristine Harjes: For me personally, I need to find some large dividend-paying companies that are stable, profitable, and not healthcare. But because we're on the Healthcare show, we're going to use Pfizer as an example. What would you go through if you were considering Pfizer, and how it would end up looking on your watch list? Todd, what would be your first step in looking at this company?
Todd Campbell: I think when you're trying to narrow down a list of thousands of stocks -- that's the reality; there are thousands of stocks that are publicly traded that, theoretically, we could be watching. We know that we can't track all of them, or even a fraction of them, well. So you need to be very careful about what you add to your watch list. Personally, I would recommend somewhere between 10 and 20 names, tops. Anything more than that and it's going to get too cumbersome. So then, the question becomes, Todd and Kristine, how do I narrow that list down? How do I get thousands of stocks through the funnel and have it trickle out 10 or 15 ideas? I think there are a few basic questions that investors can ask themselves about each company, to help them with that process. The first is, is the company a leader within its industry? Or, looking at it another way, could it become a leader? Or is it just an also-ran? What we've found time and time again is that truly game-changing, disruptive, and profitable companies are those that reinvent or reshape their industry. It doesn't matter if we're talking about healthcare or industrials; that's the case.
Harjes: Yes. So Pfizer, is Pfizer a leader in its industry?
Campbell: I think it absolutely is. It's one of the largest biopharma companies in the world. It does about $13 billion in sales every quarter. So I think it's safe to say that it's a Goliath, and it is one of the leaders in biotech and pharmaceuticals.
Harjes: I think, also, a caveat to include with that question: Is this company maintaining its leadership? Is Pfizer maintaining it?
Campbell: Right, that's one of the things. Looking at the different questions, you say, is it a leader? And what is it doing to maintain it? To do that, you have to look at the product they currently have on the market, and with a stock like Pfizer, you have to look at the pipeline, what they have in the wings that could continue to keep them at the top of their game. I think in both cases, Pfizer matches up pretty well. You have a company that has a dozen phase 3 and a dozen phase 2 key programs that could help drive sales higher over the coming years. That's great. This is a company that has top-selling drugs in cancer, in anticoagulation, in smoking cessation, in vaccines, and potentially in biosimilars. And they're not only willing to make investments in their own R&D to create growth in the future, but they've also been very actively acquiring innovation. So, they're using -- we'll get to cash later -- a lot of the money they have stockpiled to buy innovation that they haven't created internally, and that can produce growth and keep them in a leadership position as well.
Harjes: Yeah. And if this were me putting Pfizer on my watch list, that is a key thing that I would want to watch going forward with this company. Are these acquisitions paying off? There were quite a few acquisitions made in the last year or so that were pretty big. There was the Medivation deal for $14 billion. I think that was at a 38 multiple of 2017 earnings, which is not cheap at all. This was an acquisition, essentially, for one drug, Xtandi, peak sales of $5 billion. There are a couple of question marks around it, there's some litigation, you never quite know if you'll hit those peak sales numbers. It looks promising, but again, it's a question mark. You want to make sure you're watching it.
Campbell: Yeah. One of the advantages there, though, Kristine, is that because Pfizer is so big and has so much cash, it can buy this thing for cash, so whatever you're generating in earnings is really just a return on investment.
Harjes: Yep, it's all accretive. They had the Anacor acquisition, that was $5.2 billion for an eczema drug. There was also Hospira for $17 billion a while back, which got them into biosimilars, which I think will be huge. As a reminder, biosimilars are generic versions of biologic drugs, so, a little bit more complicated than the generics that we're all very used to, but a new and very exciting market for this company and healthcare as a whole. So, definitely would want to make sure that these acquisitions are paying off. I would listen closely to see from management what they have to say about potentially making more acquisitions, and to see what sort of valuation they think is out there in the healthcare landscape.
Campbell: Yeah. I would also say it's important for investors, as they're considering names to be on their watch list, to evaluate management, and to say, "OK, they're leaders, they have products, they have pipeline, they have the ability to maintain their leadership position, be disruptive. Do they have the right executives in place to deliver on their goals in the future?"
Harjes: Yeah. And I would say, with Pfizer, Ian Read, the CEO, he's a really solid leader.
Campbell: Yeah. He's been at the helm since 2010. This is a person who has ushered Pfizer through what is arguably some of the toughest times for any drugmaker, when you lose patent protection on a mega-blockbuster, which is what happened to Pfizer in 2011 when they lost patent protection on Lipitor, a drug that at one point was racking up $13 billion in sales on its own. So he has been there, he has done that, he has piloted this company through very dangerous waters. I feel, overall, Pfizer is a check mark in the column of good management.
Harjes: I would agree with that. So we have top-notch management, we have a company that's a leader in its industry. What else would you look at?
Campbell: Financial footing. I really think you can't ignore that. You can have the ability to disrupt and you can have great management, but if you don't have the financial flexibility or financial depth to execute on your strategy, then it's going to be irrelevant, you're going to end up with a bankrupt company with a great idea. So you have to take a look at the financial situation for these companies, you have to consider the cash, you have to consider how quickly they're going through their cash, you have to understand how they're using their cash, you have to look at how much debt they have, you have to look at if they're profitable and what their operating margin might be, and what their earnings outlook is going to be. Those are all important considerations for any stock that I put on my watch list.
Harjes: So how does Pfizer stack up here?
Campbell: On balance, I think it does very well. This is a company that has a lot of cash on its balance sheet. I think it has $13 billion on its balance sheet. I think it has another $80 billion in unrepatriated cash sitting overseas, who knows if they'll get to tap into that under a Trump presidency or not, that could help them fuel growth. They do have debt, but you'll find that, when you're talking about larger companies, debt is a little bit easier to handle. If you're generating a lot of cash flow like a company like Pfizer is, and a lot of earnings, it's easy to finance that debt. So I'd be more concerned about their debt level if they were a small, emerging, or clinical stage company than I would be for a company as big as Pfizer. And, like I said, they generate a tremendous amount of revenue, a tremendous amount of cash flow, and they're a very profitable company, so I feel like they have the financial footing necessary.
Harjes: Yeah. And I would say, on a related note, another important thing to look at is, how cheap or expensive is this company? There are a lot of useful metrics you can use there. The most basic of them would be the P/E (price to earnings) ratio. On this front, it looks like Pfizer is trading fairly cheaply right now, particularly on a forward basis. They're trading for a forward P/E of 12.9, which is pretty low when you compare it to some of its peers, they're in the 16-19 range, more or less. So, 13, that's pretty good.
Campbell: Yeah. And Kristine, you're really driving it with the heart of the next question would be on any watch list -- when do you buy something on your watch list? You look at it, what's the valuation like? That could be one determinant to figuring out whether or not now is the time to act. I'm not going to tell you that you should wait to buy Pfizer until it has a 10 forward P/E ratio, or if it's a screaming buy at 13. But I think if you're specific in where you want to buy, it's less likely that you're going to let emotion overtake you when the IBB falls 4%, and say, "No, I'm not going to buy because things are too risky right now."
Harjes: Yep. I think the really important point to drive home here is that it's not about timing the market, it's about finding an attractive price point and taking the emotion out of it, so you know, "I have done my research, I like this company because they are very smart in their acquisitions, they pay a great dividend, and they're getting into biosimilars," or whatever your buy thesis is. You have that documented, and then when you notice that the price has come down a little bit, you can refer back to that and say, "Are these things still part of the same buy thesis, or has something changed?" If the prices drop because of something like Trump saying that he wants to bring drug prices down, which is something that we already knew, and kind of a silly reason for the price of this company to drop when nothing material has changed, then all of a sudden you can confidently get in there and make some purchases.
Campbell: Absolutely. So, what do you think, Kristine, after we've gone through all these nuts and bolts? Do you think that Pfizer is going to rate making your watch list in 2017?
Harjes: The way that I'm personally approaching Pfizer is that it is an income play. I would be seriously intrigued if the dividend yield hit 4%, which it's not too far away from. Right now, it's yielding about 3.8%. If the current price of this stock dropped 4%, you would hit that dividend yield of 4%. But I am probably not putting Pfizer on my watch list simply because I think I can find companies that check off the same box of stable, dividend-paying, cash-generating in other sectors that could use more representation in my personal portfolio.
Campbell: Absolutely. And diversification is key, not only within industries like biotech or sectors like healthcare but across the entire market.
