Why buy something that's expensive?
There are multiple answers to this question, of course. I'd contend that the best response of all is that it makes sense to buy an expensive item if its value is likely to increase. This applies whether we're talking about cars, real estate -- or stocks.
You won't find it difficult to find plenty of expensive biotech stocks. The sector has been red hot over the past few years, driving valuations up to at times absurd levels. Which of the most expensive biotech stocks is still worth buying? I'd say look no further than Ligand Pharmaceuticals (NASDAQ:LGND).
How expensive is Ligand Pharmaceuticals? One of the most frequently used metrics for gauging the relative cost of a stock is its price-to-earnings, or P/E, ratio. The average P/E multiple for the S&P 500 is 17. Ligand's P/E stands at 124 -- more than seven times higher.
A better comparison, though, would be to stack Ligand's P/E ratio against other biotech stocks. The iShares Nasdaq Biotechnology (NASDAQ: IBB) exchange-traded fund holds shares in 150 biotech companies. Its P/E multiple is currently 24. That's less than one-fifth of Ligand's valuation.
Perhaps the only way Ligand could possibly be considered cheap based on its P/E is to compare where the stock's valuation is now against where it has been. For much of last year, the biotech's earnings multiple stood considerably higher than it does currently.
All things considered, though, it's hard to argue that Ligand isn't an expensive biotech stock. But is it truly an expensive biotech stock worth buying?
The answer to that question depends on Ligand's prospects for growth. And those prospects appear to be quite strong.
Ligand's 2014 revenue of $64.5 million reflected a 32% year-over-year increase. The company projects revenue this year between $81 million and $83 million. Analysts expect revenue in this range as well. Assuming they're both on target, Ligand will see year-over-year revenue gains of at least 25%.
The earnings picture looks even brighter. Ligand forecasts 2015 earnings between $2.14 and $2.18 per share on a non-GAAP basis. The consensus analysts' estimate calls for full-year earnings of $2.17 per share. If the biotech meets these expectations, it would mean a year-over-year earnings increase of more than 40%.
These strong revenue and earnings growth prospects put Ligand's valuation into a different light. If we look at the biotech's forward P/E ratio of 21 rather than the trailing 12-month multiple, Ligand looks much less expensive.
In my view, Ligand stands out as the most expensive biotech stock worth buying because of its business model. The company boasts an exceptionally deep pipeline for a small-cap biotech -- over 100 programs in all stages of clinical development. It pulls this off through partnering; most of its clinical programs are fully funded by other drug companies.
Over 43% of Ligand's 2014 revenue stemmed from two of those partnerships. GlaxoSmithKline (NYSE:GSK) markets Promacta, a drug that helps increase the number of platelets in blood. Ligand's royalties should continue to climb even with Glaxo's sale of the Promacta franchise to Novartis (NYSE: NVS), especially if the drug gains regulatory for additional indications in the U.S. and Europe.
The second major partnership driving Ligand's sales is with Amgen (NASDAQ:AMGN). The big biotech markets Kyprolis, which is used to treat relapsed and refractory multiple myeloma. Amgen picked up the drug with its purchase of Onyx Pharmaceuticals in 2013.
Kyprolis uses Ligand's Captisol technology. Captisol is currently used in seven FDA-approved drugs and helps in the development process in several ways, including improving solubility and stability of active pharmaceutical ingredients.
Captisol really is the crown jewel for Ligand. Over 100 companies use the technology, including many of the biggest names in the pharmaceutical industry. Approximately 44% of Ligand's revenue last year came from selling Captisol.
Ligand's stock is currently on a nice upswing. How long can that trend continue? There certainly could be some volatility, but my hunch is that the stock will keep the momentum going with increased royalties from Promacta and Kyprolis as well as solid Captisol growth.
Perhaps the more important question is how long will this expensive biotech stock remain one worth buying. At some point, expensive becomes too expensive. For now, though, investors seeking to add biotech to their portfolios should take a look at Ligand. It's one of the best high-priced bargains around.
Keith Speights has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.