Amgen And Pfizer: 2 Healthcare Companies We Want To Buy

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About: Amgen Inc. (AMGN), PFE
by: The Dividend Bro
Summary

Healthcare is one sector I hope to add more of to our portfolio in 2019.

Amgen's younger products have shown promising growth rates.

The company's capital returns have been very generous in recent years.

Pfizer's drugs, especially in the area of oncology, are performing very well.

The company's dividend has grown by almost 8% annually over the past five years.

With 40 positions in our portfolio, it is getting to the point where we have to be selective in deciding which new companies to purchase. The issue is having enough capital to use to build each position to a certain size. I don't want our investment dollars being spread too thin. That being said, there are several companies I would like to add to the March to Freedom Fund this year.

In our 2018 review, I stated that I wanted to increase the defensive portion of our portfolio. The defensive sector includes companies in the consumer staples, healthcare, telecommunications and utilities portion of the economy. This article will discuss two healthcare companies I would like to add to our portfolio in the new year.

Amgen (AMGN)

With a market cap of nearly $128 billion, Amgen is the largest independent biotech company in the world. The company develops and markets medicines for the treatment of serious illnesses. Amgen produced almost $23 billion in sales last year.

Amgen last reported financial results on October 30th. The company's third quarter earnings per share, or EPS, of $3.69 beat estimate by $0.24. This was a nearly 13% improvement from the prior year. Revenues increased 2.3% to $5.9 billion. This was $120 million higher than what the market expected.

Amgen's top-grossing products are seeing declining sales. Revenues for Enbrel, the company's treatment for rheumatoid arthritis, declined more than 5% in the quarter. Amgen's treatment for fighting infection, Neulasta, posted a revenue decline of 6.4%. These products will be facing biosimilar competition now and in the future, which has resulted in Amgen reducing its net selling price. Declines in these two products are likely to continue in the coming years. These two products combined for 40% of company sales during the most recent quarter.

With the company's top products likely to continue to decline into the future, it will be up to other drugs to grow revenues. Repatha, which helps control cholesterol, saw sales grow 35% due to higher unit demand. Though sales were just $120 million during the quarter, sales for Repatha could reach as high as $4 billion. Amgen reduced its price for Repatha by 60% in order to spur higher unit demand. The drug isn't available in many international markets but was approved in China for marketing this past summer. With a lower unit price and increased market exposure, Repatha has the potential to be a major driver of growth for Amgen.

Prolia, which treats osteoporosis and is Amgen's third highest grossing product, saw revenues grow 15% to $532 million in Q3. This product could reach $2 billion in peak sales. Amgen's bone cancer product, Xgeva, had sales growth of 12%. Xgeva was approved for use in patients with multiple myeloma in early 2018, which has helped the product take market share in the U.S.

Amgen expects to earn $14.13 per share in 2018, which mean that the company grew earnings by 12.3% from 2017.

I find that there is a lot to like about Amgen's pipeline in future years. I also like the company's dividend track record.

Although the company has just nine years of dividend growth, Amgen has offered investors a high degree of growth since initiating its dividend in 2011. The company has increased its dividend:

  • By an average of 23.5% per year over the past three years.
  • By an average of 26.1% per year over the past five years.

The increase given to shareholders for the payment made last March raised the dividend almost 10%. Amgen paid shareholders $5.28 in dividends per share last year. Using the company's EPS guidance for 2018, the payout ratio is just 37.4%. Though this figure is above the company's average of 26.7% since 2011, it is still a relatively small payout ratio. Amgen's yield of 2.89% is also above the 2.07% yield of the S&P 500.

Besides dividends, Amgen returns a large amount of capital to shareholders through share repurchases. Amgen retired nearly a third of its share count between 2008 and 2017. The company bought back more than $3 billion of stock in the most recent quarter, bringing their year-to-date repurchases to more than $17 billion.

Is the stock a good buy at the moment?

If you're not familiar with how I value stocks, I take the current price and compare it to fair values and price targets from a number of different sources to see how over or undervalued shares are currently. I then take the average of these values to determine a price target. I am willing to pay 5% above fair value for shares of companies with more than a decade of dividend growth, because these companies have demonstrated the ability to grow dividends during various portions of the economic cycle.

Amgen has less than 10 years of dividend growth, so shares would have to trade at least at fair value before I would purchase shares of the company.

Current Yield

Years of Div Growth

5-Year Div Growth

2.89%

9

26.1%

Value Line Safety and Fin Strength

Current P/E

5 Year Avg P/E

1 / A++

14.2

14.2

CFRA 1 Yr Price Target

CFRA Fair Value

Morningstar Fair Value

$207

$111.47

$198

Value Engine 1 Yr Price Target

Value Engine Fair Value

My Price Target

$214.73

$191.8

Under $202

Before purchasing a stock, I consult Value Line's safety and financial strength ratings. I am looking for at least a 2 for safety and a B++ for financial strength. Value Line awards Amgen a 1 for safety and an A++ for financial strength. These are the highest ratings in either category.

Using the current share price of $200.56 and Amgen's EPS guidance for 2018, the stock has a price-to-earnings ratio, or P/E, of 14.2. The company's five-year average P/E ratio is 14.2, so the stock's current valuation matches its historical average.

CFRA has a one-year price target of $207, which would give investors a 3.2% gain from the current share price. CFRA's fair value for shares of Amgen is $111.47. This means shares are trading at a premium of 44.4% to CFRA's fair value estimate.

Morningstar estimates fair value to be $198, roughly 1.3% below the most recent closing price.

Value Engine has a one-year price target of $214.73, which would result in a 7.1% gain if achieved. They estimate fair value to be $191.80, which would put shares at 4.4% overvalued.

Normally, I take the average of all of these values to determine a fair value, but I am going to make one change for Amgen. CFRA's fair value of $111.47 is so far below all of the other metrics, that I am inclined to think that this is not accurate. For this reason, I am excluding this value.

Average the remainder figures out and I find Amgen to be almost 1% undervalued. With less than a decade of dividend growth, I would require Amgen to trade at fair value before purchasing. Any price under $203 makes the stock a buy for us.

Pfizer (PFE)

Pfizer has been in existence since 1849. Since then, the company has become one of the largest healthcare companies in the market. Pfizer has a market cap of almost $250 billion, making it one of the largest corporations in the world. The company manufactures and markets drugs in the areas of internal medicine, oncology, immunology, rare disease and vaccines. Pfizer had more than $52 billion in sales in 2017. The company's products are divided into two segments, Innovative Health and Essential Health. Innovative Health generates ~60% of sales while Essential Health contributes ~40% of sales.

Pfizer last reported financial results on October 30th. The company's adjusted EPS for the third quarter was $0.78. This was $0.03 above analysts' expectations and represented 16% growth from the previous year. Revenue increased 2% to $13.3 billion, though this was $230 million below consensus.

The Innovative Health segment had growth of 5%. This segment was led by gains in Eliquis, which is used to reduce the risk of stroke and blood clots. Eliquis saw sales grow 36% to $870 million. Eliquis is now the most prescribed drug in its area of treatment.

Revenues for Xeljanz, Pfizer's treatment for moderate-to-severe rheumatoid arthritis, were higher by 26%. Increased market share and expansion into the treatment areas of psoriatic arthritis and ulcerative colitis were responsible for sales growth. Prescriptions for Xeljanz were up more than 30% year over year. Ibrance, which is prescribed to treat breast cancer, revenues grew 18%. Ibrance is now Pfizer's top-selling oncology drug.

Pfizer's vaccine group had sales growth of 13%, with Prevnar 13 leading the way. This vaccine prevents infection caused by pneumococcal bacteria.

Innovative Health's growth was partially offset by a 4% decline in Essential Health revenues. Gains in Viagra (up 37%) and Lipitor (up 3%) were more than offset by declines throughout Pfizer's legacy established products.

While Pfizer's Essential Health showed declines in the quarter, I find Pfizer's Innovative Health performance very encouraging. The company expects that they will see as many as 30 significant product approvals over the next few years, with as many as half of these generating at least a $1 billion in annual revenues.

Pfizer and GlaxoSmithKline (GSK) announced on December 19th that the two companies would create a consumer healthcare joint venture. The combined entities had revenues of nearly $13 billion in 2017. The joint venture could eventually be spun off into its own company. The deal is expected to close in the second half of 2019.

Pfizer has guided towards a midpoint for EPS of $3.00 for 201. Reaching this mark would result in an increase of 13.2% from 2017.

Pfizer cut its dividend in both 2009 and 2010, before returning to growth in 2012. The company cuts its dividend at the time in order to fund its $68 billion purchase of Wyeth. We plan on using our dividends to cover our expenses in retirement, so a dividend cut is never a positive sign. Cutting a dividend in order to purchase an asset that will help future earnings, however, is one of the more acceptable reasons for reducing payments to shareholders. The purchase of Wyeth did give Pfizer several drugs and vaccines that are still growing revenues today.

Pfizer has increased its dividend for the past nine years. The company has raised its dividend by:

  • By an average of 7.2% per year over the past three years.
  • By an average of 7.8% per year over the past five years.

Pfizer paid out $1.28 in dividend per share in 2018. I should note that it took until 2018 for Pfizer's dividend to match 2008's total. Using the company's EPS guidance for 2018, Pfizer has a dividend payout ratio of 42.7%. The company's average payout ratio over the last five years is 46.6%, slightly above the current level.

Like Amgen, Pfizer is also a large buyer of its own stock. After issuing shares to help fund the Wyeth acquisition, the company has reduced its share count at a compound annual growth rate of 3.3% per year between 2009 and 2017. Pfizer has retired $9 billion worth of stock through the end of the third quarter, with that total likely to grow to $12 billion for all of 2018. The company has $7.4 billion remaining in its repurchase authorization, enough to buy back 3% of the current market cap.

Pfizer gave shareholders a dividend increase of 5.9% for the upcoming March 1st payment. Based off of the new annualized dividend of $1.44, the stock yields 3.36%. Again, this is much higher than the yield of the S&P 500.

Pfizer's business is performing well, and the company's dividend has showed solid growth rates in recent years, but is the stock's price attractive?

Current Yield

Years of Div Growth

5-Year Div Growth

3.36%

9

7.8%

Value Line Safety and Fin Strength

Current P/E

5 Year Avg P/E

1 / A++

14.3

13.7

CFRA 1 Yr Price Target

CFRA Fair Value

Morningstar Fair Value

$46

$50.78

$46

Value Engine 1 Yr Price Target

Value Engine Fair Value

My Price Target

$44.56

$41.24

Under $45

Pfizer receives a 1 for safety and an A++ for financial strength from Value Line. Again, these are the highest ratings a company can earn.

Using the most recent closing price of $42.88 and expected EPS for the year, Pfizer trades with a P/E ratio of 14.3. The stock's five-year average P/E ratio is 13.7, meaning shares are trading at a 4.2% premium to their historical valuation.

CFRA has a one-year price target of $46 for Pfizer. This would offer investors a 7.3% gain if reached from current levels. CFRA's fair value is $50.78, meaning shares are trading at an 18.4% discount to their estimate.

Morningstar has a fair value of $46. This places shares at 7.3% undervalued.

Value Engine has a one-year price target of $44.56, which would have shares at 3.9% undervalued. Their fair value for Pfizer is $41.24, which is 3.8% below the recent trading price.

After averaging out these figures, I find shares of Pfizer to be 4.8% undervalued as of Friday. With less than 10 years of dividend growth, I require that shares be fairly valued prior to purchasing. Under $45 and I would be a buyer of Pfizer.

Conclusion

We are being very selective about who we let enter our portfolio. We are also looking to increase our holdings in the defensive sector. Companies in the healthcare sector, especially those that specialize in medicines, are often recession resistant because people will seek cures for their ailments regardless of the economic conditions of the moment.

Amgen's younger drugs are showing solid growth rates and should be able to help reduce the impact that Enbrel and Neulasta have on revenues. Amgen also returns a large amount of capital to shareholders in the form of dividends and share buybacks.

Pfizer's legacy drugs are declining, but the company's other drugs, especially in oncology, are showing robust growth rates. Pfizer also offers a very generous yield.

We don't yet own shares of Amgen or Pfizer, but they are two companies in the healthcare sector that I hope to add to the March to Freedom Fund this year.

What are your thoughts on Amgen and Pfizer? Is there another name in this space that you prefer? Feel free to leave a comment below.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.