Merck & Co Inc. (MRK) is an appealing stock in the healthcare sector that can serve as an effective long-term defensive asset in any investor's portfolio. Merck has favorable financials in comparison to other large-cap pharmas and it provided a promising outlook in its second quarter earnings report. Merck is losing patent exclusivity for one its flagship products, but it also has a number of promising products in its pipeline to offset the upcoming loss in revenue. In this article, I will explain why I believe current shareholders should hold Merck for the long term and interested investors should consider buying now before pivotal new drug applications (NDAs) increase the stock price in the second half of 2012.
Merck has a lower price to earnings ratio than Pfizer (PFE), Johnson & Johnson (JNJ) and Abbott Laboratories (ABT). GlaxoSmithKline (GSK) has a lower price to earnings ratio than Merck, but GlaxoSmithKline's debt to equity ratio is around 2.44 compared to Merck's at 0.27. Merck also has a lower debt to equity ratio than Johnson & Johnson, while it has a higher beta than all of these large caps, except Pfizer. Only Pfizer has a lower stock price than Merck; it has the lowest price to book ratio behind Pfizer and has the lowest price to sales ratio behind Abbott. Merck has the second highest dividend yield amongst these pharmas at 3.81%, trailing only GlaxoSmithKline's 4.84%.
Merck has a higher gross margin and operating margin than both Johnson & Johnson and Abbott. Merck's net margin is the highest among these large caps, trailing only GlaxoSmithKline. Merck only trails Abbott in stock performance year to date and sales growth last quarter year-over-year (YOY). But Merck has the highest sales growth over the past five years in comparison to these other four pharmas with over $100 billion in market cap. Merck's current ratio is close to two and its quick ratio is close to 1.69, this is better than both Johnson & Johnson and GlaxoSmithKline as well. All of these large-cap pharmas are currently less than 260 bps below their 52-week highs.
A review of Merck's second quarter report reaffirms its guidance for 2012. During the second quarter, revenue remained relatively flat increasing by 1.3% YOY to over $12.3 billion. Revenue was $24 billion year to date (YTD) through June 2012. This was an increase of 1% YOY. The pharmaceutical segment accumulated around $10.6 billion in revenue, driven mostly by Merck's Januvia, Janumet, Singulair, Victrelis, Isentress and Gardasil products. Singulair revenue increased by 6% YOY, equating to $1.4 billion in sales in the second quarter. Revenue for Singulair YTD through June 2012 was over $2.7 billion, increasing 3% YOY. Merck loses patent exclusivity of Singulair in the U.S in August 2012, in the EU in February of 2013, and in Japan in 2016. In 2011, Singulair revenue was $3.5 billion in the U.S, $724 million in Europe and $641 million in Japan. Merck's diabetes franchise of Januvia and Janumet accumulated combined revenues of $1.5 billion in the second quarter, an increase of 33% YOY. Merck is currently working on gaining FDA approval for additional indications for this diabetes franchise.
Januvia revenue YTD through June 2012 was over $1.9 billion, while Janumet revenue was over $800 million; this was an increase of 30% and 28% YOY, respectively. During this period, domestic revenue for each increased around 22% YOY, while international revenue increased by 42% and 34%, respectively. Gardasil revenue increased by 17% YOY, this was driven mainly by increased male vaccinations and the recent product launch in Japan. Zostavax revenue increased by 22% YOY due to the recent advertising campaign Merck ran on TV about the risk of shingles. U.S pharmaceutical sales was almost 44% in the second quarter and almost 43% YTD through June 2012, this was an increase of 13% and 10% YOY. In the same period, pharmaceutical sales in Europe were around 24%, decreasing by 10% and 6% YOY, respectively. Japan accounted for around 11% of pharmaceutical sales in these time periods, this was a 9% increase YOY.
China pharmaceutical sales grew 27% in the second quarter and 23% YTD through June 2012, East Africa sales grew 20% and 10%, respectively. Sales in emerging markets accounted for 18% of pharmaceutical sales in the second quarter. Merck continues to transition through its 2008 global restructuring phase and its merger restructuring phase of 2011. In the second quarter, Merck was able to reduce costs by 2.4% down to $7.9 billion. In addition to lowering costs and a revenue hedging program, Merck has a number of products in its pipeline that can help offset the anticipated drop in revenue from losing patent exclusivity on Singulair. Merck also lost revenue from relinquishing Remicade and Simponi territories to Johnson & Johnson via the arbitration agreement in 2011.
Sales from Merck's HIV integrase inhibitor, Isentress, increased 18% due to growth in emerging markets and the U.S as well. Merck has six major filings for NDAs planned for the next 18 months, including its insomnia drug, Suvorexant and Odanacatib, a drug for osteoporosis. Merck anticipates that it will file for FDA approval for Suvorexant by the end of 2012. It expects to file regulatory applications for Odanacatib in the U.S and Europe YTD through June 2013 and in Japan by 3Q13. In 2013, Merck also plans to file V503, an HPV vaccine with five more indications than Gardasil.
Merck recently announced the results from its 18,000 patient trial, IMPROVE-IT, will most likely be pushed back until 2014. Merck has been working towards gaining approval for combining its two cholesterol drugs, Zetia and Zocor, into a more effective cholesterol drug, Vyotrin. Zetia and Vyotrin combined for $4.3 billion in sales during 2011, but doubts from the previous trial ENCHANCE has hampered sales growth in 2012. Positive results from these trials will help to increase sales of both these drugs for Merck in 2014 and beyond. Global revenue for Zetia YTD through June 2012 was over $1.2 billion, an increase of 6% YOY. Global revenue from Vyotrin YTD through June 2012 was under $900 million, a decrease of 5% YOY.
Merck has 15 products in Phase II, 20 products in Phase III and two products currently under review. In the light of its favorable dividend yield, stock price, cost-reduction initiatives, and centralized focus on pharmaceutical development, this is an advantageous asset to own for a long-term defensive position in the healthcare industry.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.