Why Merck Is Heading To $65

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 |  About: Merck & Co Inc. (MRK)
by: Wall Street Playbook

Summary

Management has not lost focus. Merck has a plan to attack and grow its share in immuno-oncologyand entering/dominating the hepatitis C (HCV) and vaccines market.

Management continues to offset the near-term weakness with growth in diabetes, immunology and anti-infective drugs.

Given that analysts' highest price target currently stands at $70, I believe the companyshould be able to reach $65 per share in the next 12 to 18 months.

With better-than-expected results coming in from AbbVie (NYSE:ABBV), Johnson & Johnson (NYSE:JNJ) and other dominant names in Big Pharma, Merck (NYSE:MRK) investors have raised the bar. They are demanding better results. And the company's management must deliver the right prescription for long-term growth. It's not going to be easy.

Merck stock closed Friday at $58.15, down 0.10%. Shares are up 18% on the year to date, outperforming the health care sector's 13% gain. Still, investors want more. The company reports second-quarter results Tuesday and Merck's management has to be convincing in ways it plans to return value to shareholders. With 18% year-to-date gains, they've done an above-average job. But with shares are near 52-week highs, the job gets harder.

On Tuesday, Wall Street will be looking for 81 cents in earnings per share on revenue of $10.61 billion. Revenue is projected to be down 3.7% year over year, while earnings per share is expected to shed 3 cents after reaching 84 cents a year ago. For the full year, the Street will be looking for earnings for $3.47 per share on revenue of $42.56 billion.

Granted, Merck's recent results haven't been breathtaking. In the most recent quarter, revenue of $10.26 billion was down 3% year over year. Total pharmaceutical sales fell by 5% to $8.45 billion. But when factoring adverse effects of currency fluctuations, which impacted revenue by 2%, the results weren't that bad. Despite adverse currency moves, the company saw a 3% jump in its top-selling drug JANUVIA/JANUMET, which is used to lower blood sugar levels.

It was nonetheless encouraging that Merck was able to offset the declines with growth in diabetes, immunology and anti-infective drugs. What's more, the 10% surge in Merck's immunology drug Remicade was a bright spot.

All told, management has not lost focus. Merck has a plan to attack and grow its share in immuno-oncology and entering/dominating the hepatitis C (HCV) and vaccines market.

These are areas where rivals like Roche (OTCQX:RHHBY) and Bristol-Myers Squibb (NYSE:BMY) have begun to lay strong foundations. In that regard, I don't believe Merck has gotten enough credit. Nor do I believe that the stock's performance takes into account any potential wins in this area. The concerns continue to be about the company's perceived eroding pipeline.

While Merck does have a few expiring patents on the horizon, management is not asleep at the wheel. With Merck's immuno-oncology candidate, MK-3475, I don't think the company's drug pipeline is as weak as being perceived. That and the fact that Merck is getting close to conducting Phase-3 trials for a combination treatment for Hepatitis C puts the company on the offense against Gilead Sciences (NASDAQ:GILD), which is the clear-cut market leader.

The recent clinical data for a combination of drugs MK-5172 and MK-8742 showed high cure rates among patients with genotype 1 of the disease, which is enough to prompt management to proceed to phase-3 trials. The demand for this market suggest that close as 150 million people suffer from Hepatitis C globally.

According to Deutsche Bank, the overall market for Hepatitis C treatment could reach $20 billion by 2020. And Gilead is projected to capture roughly 80% of that market. But as Merck management continues to rededicate resources to research and development, I think they can positioned this company to seize a meaningful portion of that market.

Suffice it to say, there is a lot of potential here, which is (in my opinion) enough to place a bet on Merck ahead of Tuesday's results. Given that analysts' highest price target currently stands at $70, I believe the company should be able to reach $65 per share in the next 12 to 18 months.

I will agree that the stock, which is percentage points away from a 52-week high, is not exceptionally cheap at this level. But value-oriented investors with a long-term horizon can still do well here.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by Wall Street Playbook's healthcare sector analyst. Wall Street Playbook is not receiving compensation for it (other than from Seeking Alpha). Wall Street Playbook has no business relationship with any company whose stock is mentioned in this article.