Are Big Pharma's Dollar Days Nearly Over?

For quite some time now the major American pharmaceutical companies have been benefiting from the foreign exchange rate.

Besides cost-cutting, the weak dollar has been propping up revenue and profits during a time when the sector is battling intense competition from much cheaper generic drugs, safety and regulatory issues, drug development pipeline challenges and disappointments, etc.

But given the recent strength in the greenback, Deutsche Bank analyst Barbara Ryan says the sector may not be able to rely on forex for very much longer.

On Tuesday, she put out a research note to clients entitled, "When does the tailwind become a headwind?" Ryan believes that if current trends hold up, then the exchange rate upside will go down the rest of this year and may go away next year.

But she thinks that the industry's ongoing expense reductions could absorb the dollar's potential impact on the bottom line. Ryan says the biggest beneficiaries of the weak dollar have been Schering-Plough (SGP) and Pfizer (PFE) because they sell a bigger percentage of their drugs overseas than their competitors.

And speaking of Pfizer, I may have spoken too soon about PFE shares leaving the teens: The stock couldn't hang on and closed below 20. I'm guessing technical analysts might be able to dissect what's going on. If you've got a logical explanation, please send it here.

Anyway, yesterday PFE touched the 20-dollar level again -- but it is struggling to stay there.

Comments

[Shiv Kapoor:]

I was born immortal and so shall I die; at birth I drew my first breath on a genetic memory; my heart beat of its own accord and my brain operated a highly complex organism without instruction. As I die, my genetic legacy shall live on. Humans have such a desire to live in perpetuity, be it through life extensions or reincarnations; that an industry which tries to satisfy the human quest for immortality must succeed. That aside, I have always wondered whether an answer to the age old Indian epics lies in Bio-tech; as in is immortality or reincarnation simply a genetic legacy explained; did Rama truly live for an epoch through advanced medicine or is it simply living through passage of a genetic legacy (with death being the consequence of the maternal line being ultimately extinguished); or hybrid beings (mythological beings like Garuda) a genetic possibility. There is so little we know and so much to accidentally discover; health-care remains a huge growth area. And Pfizer as an R&D focused organization has amongst the best chances of making that accidental discovery. Patience and a yield makes it worth the risk & the wait.

Foreign sales can never be a head wind; the growth opportunities in the pharmaceutical industry lie outside US; that is where the human quest for immortality is at its earliest stage. Sure the exchange rates may imply declining revenue in $ terms; but will this happen? I think not. Overseas demand, particularly in emerging (high growth) markets where brands are favored over generics, is highly elastic. A proportionate decline in the importing country currency pricing would lead to a more than proportionate increase in demand and this could actually result in elusive growth for Pfizer. Pfizers problems are:

(a) Science - Pfizer needs to move away from synthetics and into biologic, genetic, stem cell solutions; unlike synthetics, these latter areas are less prone to patent disputes. They can build this pipeline in house, in-license it or acquire it. More than a pipeline, I feel a high quality of earnings pipeline is what is required. Success from their existing pipeline will provide a catalyst to a higher multiple, but long term, refocus on quality of earnings needs to be a priority. Synthetics is yesterdays game and it would be a shame to see Pfizer fall by the wayside because the failed to glimpse the future; much like the US Auto majors.
(b) Marketing - this is a big strength and it must be leveraged. With drug approvals taking so long, the time in market from patent filing is far lower than before so making the most of the market is critical.
(c) Financial - there is limit to how much US leverage can be used for share buy backs & dividends. There is a high cash build from overseas operations and ultimately the foreign cash needs to come back to US and this will come at a tax cost. Since this cash is "trapped" outside US, perhaps use in an acquisition of non US assets would be viable. I do feel use of a debased currency such as Pfizer's shares or the $ is a deterrent in planning an acquisition, but perhaps a stronger $ will help. If this occurs, a reverse acquisition which inverts the group should be considered.
d) Management - A visionary CEO supported by a strong General Counsel please. Patents need to be protected, but legal is a support service, not the core business.

Overall, I believe they are headed in the right direction; but it is more of a drift than a purposeful stride. Until science delivers there is no great catalyst. Absent a catalyst, I would look for a range of $14 to $25. A catalyst emerging would drive re-rating & multiple expansion. For now, the only catalyst is the pharmaceutical industry defensive characteristics, which together with the dividend should mean the stock should find near term support and trade upwards to $25-$30range (including dividends) on a 9 month basis.

If you consider that the stock went ex dividend, on 6 August, it is not surprising that it is a struggle to take out the $20 barrier. It also needs to systematically work through resistance at $19.91, $20.23, $20.71, 21.11 and $21.50; this is necessary for the damage of Q2's slide to be undone. If it clears $21.11 then $23 & $25 should be strong resistance levels as those were high volume sell off days which will likely mean sellers will emerge.

2008 Aug 14 07:16 AM

[Girish Mlah...:]

Pharmaceuticals are scrambling to regains their niche. Their desire to acquire biotech companies is staying with the model that is failing. Their current model has served less than 30% of the global (developed countries) population. As the economic levels of rest of the world rises and as generics become readily available, ethical pharmaceutical companies will have to think if they should compete with the generics. Their survival rests on serving the largest population and in order to do that they will have to compete with generics. They have an avenue that has not been considered. This is have the finest and lowest cost manufacturing technology which will prevent generics to take their market. Merck adopted a strategy to expand in India and if they improve their technology, they will have higher margins than in the developed countries.

Opportunities are their but every perspective has to be reviewed. Until recently the thinking has been that "we are invincible" but that is the past. New future will need different thinking.

2008 Sep 04 02:16 PM