Investors might never grow tired of hearing stats like this: Since its 2013 IPO, shares of Zoetis (ZTS 2.71%) have delivered a total return (stock performance plus dividends) of 242%. That's well ahead of the S&P 500's 137% total return in that span, and it's doubly impressive considering the animal health leader barely pays any dividend at all, compared with the roughly 2% annual yield of the index. That's difficult to beat.
It's fair to wonder if shares of Zoetis are trading at a premium right now, but it's also impossible to dismiss the fact that the business sits atop an important and relatively recession-proof global industry. Combined with its history of earning high returns on invested capital (ROIC) and multiple shots on goal in diverse new product areas, Zoetis looks suited to soar. With that in mind, here are three things you might not know about the world's leading animal health stock that could justify its premium valuation.
Image source: Getty Images.
1. The business is trouncing one of its largest peers
Most of the world's largest animal health companies today are subsidiaries of the world's largest pharmaceutical companies. That's slowing changing as management teams are, for better or worse, pressured to ruthlessly prioritize creating shareholder value. Pfizer kicked off the trend by spinning off Zoetis. Eli Lilly followed up in late 2018 with the spinoff of Elanco (ELAN 5.86%).
While Boehringer Ingelheim Animal Health, Merck Animal Health, and Bayer Animal Health might be next, the clear comparison for investors is between Zoetis and Elanco. Though, it's not much of a comparison.
|
Metric |
Zoetis |
Elanco |
|---|---|---|
|
Market cap |
$48.5 billion |
$11.8 billion |
|
Total assets, end 2018 |
$10.8 billion |
$8.9 billion |
|
Total revenue, 2018 |
$5.8 billion |
$3.1 billion |
|
Total net income, 2018 |
$1.4 billion |
$86.5 million |
|
Forward P/E |
26.2 |
25.2 |
|
Annual dividend per share |
$0.66 |
$0.00 |
Data source: SEC filings, Yahoo! Finance.
While the two peers are relatively close in terms of total assets, Zoetis generates roughly twice the revenue and many times the profits. How? In 2018, the animal health leader generated nearly 45% of its total revenue from high-margin products for companion animals -- dogs, cats, and other creatures thought of as pets -- versus just 35% for Elanco.
It also generates higher quality revenue from its portfolio of livestock products by focusing on different animals than its peer. Case in point: Cost of sales represented just 33% of total revenue at Zoetis in 2018, compared with 51% for Elanco. That allows significantly more revenue to trickle down the income statement as profit -- and Wall Street has rewarded it with a significantly higher market valuation.
2. Tomorrow's growth opportunities are contributing today
Zoetis reported year-over-year revenue growth of 10% in 2018. In absolute terms, the business estimated 6 percentage points of the increase were generated from price increases and growth of existing brands. Abaxis, a diagnostic company it acquired for $2 billion, contributed another 2 percentage points -- and the acquisition didn't close until the end of July 2018. New product launches were responsible for the remaining 2 percentage points of the overall increase.
That paints a surprisingly balanced picture of the company's growth trajectory. Zoetis isn't too reliant on blockbuster brands, nor acquisitions, nor new products for growth. Instead, it's proving capable of maximizing the returns of each.
That said, it's encouraging to see the business generate quick returns from acquisitions in particular. The more recent gobbling-up of Abaxis might be front and center, but investors shouldn't overlook the growth at Pharmaq, either. Zoetis acquired the company in 2015 and has used the last several years to build it into the global leader in aquaculture health (medicine for fish). The company generated $132 million in revenue from aquaculture products in 2018, up 12% year over year and an increase of 47% since 2016.
Image source: Getty Images.
3. Biologic drugs for animals could be huge
One reason Zoetis dominates the market opportunities presented to it is that it isn't afraid to take risks. The latest example is biologic drugs. While it dominates the list of the world's best-selling therapeutic medicines for humans, it's not so obvious that the opportunity would extend to companion animals. But people tend to go to great lengths for their pets, and with significantly less regulatory oversight than human therapies, why not take a shot?
Zoetis is developing a pipeline of monoclonal antibodies to treat pain in dogs through a partnership with Regeneron Pharmaceuticals (REGN 2.53%). It hopes to extend the opportunity to cats after that. It's exactly the opportunity that's easy to overlook today, but could lead to the next hundred-million-dollar (or greater) product lineup tomorrow.
How can investors or Wall Street analysts account for the company's innovation pipeline? Well, handsomely rewarding Zoetis for recent successes and giving management the benefit of the doubt is a good first step, as evidenced by the nearly $50 billion market cap.
