With efforts to repeal the Affordable Care Act indefinitely sidelined, the dark cloud of uncertainty hanging over the healthcare sector looks much less threatening. In response, American healthcare stocks are booming. The sector tracking iShares U.S. Healthcare index has already tacked on a hefty 14.3% gain this year, trouncing the benchmark S&P 500 index's 9.2% gain over the same period.
The surge might be great for healthcare stocks already in our portfolios, but it's made picking new ones a daunting task for value-conscious investors. The pickings are indeed slim, but McKesson Corporation (NYSE:MCK), Express Scripts Holding Company (NASDAQ: ESRX), and Gilead Sciences, Inc. (NASDAQ:GILD) are all generating massive amounts of cash relative to their share prices.
If you're looking for cheap healthcare stocks to buy now, these three are a great place to start. Here's why.
1. McKesson Corporation: Keep on trucking
This is the largest of the big three American wholesale pharmaceutical distributors. McKesson's trucks delivered about $199 billion worth of drugs over the past year, making it one of the most important companies you've probably never heard of.
Although revenue is huge, the company operates on slim margins that might get even thinner. Generic drug prices across the board have been falling as the pharmacies that buy its wholesale drugs band together to demand lower prices, and the trend has been pressuring McKesson's stock price.
McKesson's profits ebb and flow along with total prescription drug spending, but not as dramatically as the drugmakers from whom it sources products. As a vital cog between drug manufacturers and the pharmacies that sell their products, it still generated about $4.2 billion in free cash flow over the past year. That works out to about $0.13 of distributable profits for every $1 spent buying the shares at recent prices.
While the company pays a quarterly dividend that offers a meager 0.9% yield, it's been distributing most of that cash to shareholders in the form of stock buybacks. McKesson has lowered its outstanding share count by 9.3% over the past three years, giving its shareholders a much larger slice of its profits.
2. Express Scripts Holding Company: A double dose of nasty medicine
It will take more than a spoonful of sugar to overcome the awful taste Anthem and Amazon left in investors' mouths this year. Express Scripts depends on its size to negotiate lower prescription drug prices for its customers. One of its largest customers, Anthem threatened to take its business elsewhere, and Amazon is rolling out a service for its employees that some view as another serious threat.
Neither of these threats has fully materialized, which is why Express Scripts generated about $5.5 billion in free cash flow over the past year. That works out to about $0.15 in distributable profits for every $1 used to purchase the stock at recent prices.
The company doesn't offer a dividend, but it isn't shy about rewarding shareholders with extensive stock buybacks. So far this year Express Scripts has spent about $2.1 billion reducing its share count, which is now about 21% lower than it was three years ago.
While the loss of Anthem's business would certainly sting, and Amazon has a tendency to dominate every industry it enters, it's hard to ignore Express Scripts when it's positioned to give so much back in the years ahead.
3. Gilead Sciences, Inc.: $36.6 billion and rising
Rapidly sinking sales of drugs that essentially cure hepatitis C have hammered Gilead Sciences stock so low you'd think it's bleeding money. But nothing could be further from the truth.
This drugmaker's balance sheet boasted a whopping cash balance of $36.6 billion at the end of June after its operations generated a stunning $2.8 billion in free cash flow during the second quarter alone. At this pace, the world's leading seller of antiviral drugs would produce about $0.12 of distributable profits for every $1 used to purchase shares at recent prices. Gilead has used its massive cash flows to lower its share count by about 14% over the past three years, plus the stock offers a tempting 2.9% dividend yield at recent prices.
Hepatitis C often remains dormant for years before showing symptoms severe enough to nudge patients and their insurers to pay for short rounds of Gilead's pricey antivirals, but HIV is a completely different story. Keeping the virus at bay requires lifelong treatment, and the company's next-generation offerings do the trick with far fewer side effects than previous options. This explains how Gilead's HIV franchise racked up 16.1% more sales in the second quarter this year than the same period last year.
It's hard to say how much further hepatitis C sales will fall, but stronger-than-expected results recently encouraged Gilead Sciences to raise its forward outlook. That doesn't mean sales won't continue falling, but they'd have to crash like a meteorite to drive this bargain-bin stock lower over the long term.