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According to IMS Health, the global market for pharmaceuticals is expected to grow at an annual rate of 5 to 8 percent and reach $1.1 trillion by the year 2014. Unfortunately, outside of some mutual funds, I do not have any exposure to this sector in my personal account. In addition to scope for capital appreciation (based on sector growth), many of the big pharma firms also offer an attractive dividend. In the next few articles, I will attempt to determine the valuation and investment potential for the pharma companies currently present in my watch list and hopefully add the most attractive companies to my portfolio.

This article presents the relative analysis results conducted for 6 major drug companies namely Abbott Laboratories (NYSE:ABT), Merck & Co. (NYSE:MRK), Bristol Myers Squibb (NYSE:BMY), Eli Lilly & Co. (NYSE:LLY), GlaxoSmithKline (NYSE:GSK), and Novartis (NYSE:NVS).

The financial and fundamental information for the companies mentioned above are shown in table that follows (click to enlarge images):

Relative valuation (RV) was performed by 3 different methods.

  1. RV based on historical ratios of the company alone
  2. RV based on historical ratios of the company and its peers
  3. RV based on historical ratios of the company and S&P 500

It should be noted that the historical data was employed to calculate the estimates used in this analysis. Adjustments were made to account for outliers present in the dataset.

The 2010 EPS and revenue estimates, and the existing book value for the six companies are shown the table that follows:

Relative valuation based on historical ratios of the company alone

In this analysis, the current P/E, P/S and P/B ratios were compared to the historical ratios of the individual companies and an estimate for the respective ratios was obtained. Fair value was calculated by applying these estimates to 2010 EPS, sales per share and book value.

Relative valuation based on historical ratios of the company and peers

In this analysis, the current P/E, P/S and P/B ratios were compared to the peer companies and an estimate for the respective ratios was obtained. Fair value was calculated by applying these estimates to 2010 EPS, sales per share and book value.

Relative valuation based on historical ratios of the company and S&P 500

In this analysis, P/E ratios of the six companies were compared to the P/E ratios of the S&P 500 index. Based on historic averages, multiples were generated for the analyzed companies using the S&P 500 index as a base.

Summary:

Taking the average of the fair values obtained from the previous sections, fair value for the six companies is calculated. The results are shown in the table that follows

Based on the performed analysis, Abbott Laboratories, Bristol Myers Squibb, and Eli Lilly appear to be undervalued. Merck and Novartis are fairly valued, while GlaxoSmithKline is currently overvalued.

(Kindly use this article for information purposes only. Please consult your investment advisor before making any investment decision.)

Disclosure: No positions

Source: Analyzing Major Big Pharma Players Using Relative Valuation