The healthcare sector is a natural hunting ground for income investors since consumers demand access to high-quality healthcare products in good times and bad. That fact helps keep many healthcare companies' profits and dividend payments flowing even during periods of economic stress.
So, which high-yield healthcare stocks do we think are a smart bet right now? We asked that question to a team of Foolish healthcare investors, and they picked GlaxoSmithKline (GSK -0.69%), Pfizer (PFE 0.42%), and CVS Health (CVS 1.66%).
Cutting the fat
George Budwell (GlaxoSmithKline): High-yield stocks are rarely low-risk types of investing vehicles, and British pharma giant GlaxoSmithKline is no exception. Despite offering one of the highest yields among major drug manufacturers at 4.9%, the company also sports a rather unsightly 12-month trailing payout ratio of 200%. This bloated payout ratio is due, in large part, to the falling sales of its flagship respiratory medicine Advair. However, Glaxo's inability to bring enough new high-value products to market to mitigate both Advair's decline, as well as the ongoing pricing pressures from payers, certainly hasn't helped matters.
Glaxo's newly minted CEO, Emma Walmsley, however, is already starting to take drastic steps to get her company back on track. After a broad review of the company's pharma pipeline last July, Walmsley announced that 13 clinical programs would be shuttered, sold off, or partnered to reduce costs and increase the company's operational efficiency. As a result, Glaxo's pharma wing will now focus primarily on its growing HIV and respiratory franchises and will subsequently attempt to gain a foothold in the highly competitive immuno-oncology market.
For dividend investors, Glaxo's management also released some encouraging news last month. In short, management plans to keep the company's dividend at current levels until at least the end of 2018, and then tie its payout to free cash flow generation thereafter.
Whether Glaxo's belt-tightening will be enough remains to be seen, but the company is at least being proactive about correcting its core weaknesses.
Cancer drugs and a deep pipeline are fueling this nearly 4% yield
Sean Williams (Pfizer): Healthcare stocks aren't exactly known for their dividends, primarily because reinvestment into research and development eats up cash flow. But don't tell that to Big Pharma giant Pfizer, which is paying out a 3.8% dividend yield and has grown its payout by 33% over the past five years.
The earlier portion of this decade was a rough time for Pfizer, with the company dragged down by the patent cliff. A number of its key blockbusters, including the likes of cholesterol-fighting drug Lipitor, which is still the all-time best-selling drug, were introduced to generic competition, shaving tens of billions off Pfizer's annual sales in a span of a couple years. But Pfizer looks to be getting its second wind with the patent cliff firmly in the rearview mirror.
A key component of Pfizer's future success is Ibrance, a cancer drug designed to treat patients with HER2-, HR+ advanced breast cancer. Ibrance ran circles around the previous standard of care in clinical trials, and sales of the drug have soared since its launch in February 2015. During the recently reported second quarter, Pfizer generated $853 million in sales from Ibrance, a 67% increase from the prior-year period on a constant currency basis. This puts Ibrance on track for an extrapolated $3.4 billion in annual sales. If organic growth via volume and price increases continue, and Ibrance is able to land an expansion of its existing label, it could easily become a $5 billion-a-year prescription medicine.
Pfizer also saw its licensed cancer immunotherapy, Bavencio, garner its first approval from the Food and Drug Administration in March. The market for immunotherapies, which boost the immune system and suppress the ability of cancer cells to hide, is going to be highly competitive. However, given the foundational nature of immunotherapies in treating some advanced cancer types, Bavencio offers blockbuster potential for Pfizer.
Considering it has a healthy pipeline that's approaching 100 clinical plus registration studies, it's also not as if Pfizer is going to struggle to find new ways to generate revenue in the years to come. If you're looking for a high-yield dividend stock in healthcare, give Pfizer a closer look.
More than just retail
Brian Feroldi (CVS Health): If you asked the average American to describe what CVS Health does, the answer would probably be "a retail pharmacy store." That association makes sense, since CVS boasts a nationwide network of about 9,700 pharmacies, many of which are can be found inside Target stores. However, that's only part of the story. In fact, the lion's share of CVS Health's revenue comes from its pharmacy benefit management (PBM) business. That's an important distinction, because unlike its retail stores, this business is still growing at a healthy clip. However, CVS Health's forward P/E ratio of 12 suggests that the market is valuing this company as if it were just another struggling retailer -- presenting long-term investors with a great opportunity to get in.
Last quarter helps illustrate the disparity we're seeing between these two business segments. While retail pharmacy sales fell 2.8% year over year because of generic-drug introductions and soft traffic, the PBM business grew by 9.5%. What's more, the PBM business won $1.8 billion in net new business for the 2018 selling season and continues to boast a retention rate of 97%. Those figures hint that this business will continue to thrive over the long term.
While the falling retail sales are worrisome, CVS Health also has a plan in place to get this division back on track. The plans call for expanding the company's store-branded products, growing its network of in-store MinuteClinics, emphasizing its beauty and personal-care businesses, and using technology to drive increased customer visits.
While investors wait patiently for those initiatives to play out, they can rest easy knowing that CVS Health remains a cash-flow machine. The company expects to crank out more than $6 billion in cash flow in 2017, all of which (and then some) will be used to reward shareholders. Only about $2 billion will be used to pay the company's dividend -- which at current prices yields 2.4% -- while about $5 billion will be used for stock buybacks. Given the company's depressed valuation, I think that's a smart use of capital right now.
Looking ahead, the combination of PBM growth, retail pharmacy store revitalization, and heavy buybacks are expected to power CVS Health's EPS higher by nearly 8% annually over the next five years. That makes CVS Health a stock that should appeal to income and growth investors alike.