Fond of Pharma

06/11/2004 12:00 am EST


Ivan Martchev

Editor, Vital Resource Investor and Global Viewpoints

"One of the sectors that’s been ignored by the market is the big pharmaceuticals," says Ivan Martchev. "Yet, the sector's earnings visibility remains quite strong." The advisor explains the basis for adding Glaxo to the model portfolio at Wall Street Winners.

"Investors should have a blend of generics, specialty healthcare companies and big pharmaceuticals in their portfolios—using the latter as anchors. The big pharmaceuticals might not be the growth stocks they once were, but the stability of their profit growth remains superior to that of the market as a whole. In addition, big pharmas are looking to reshape themselves through consolidation. We expect mergers to increase in number and scope and will take place on an international level. If we’re right and big pharma starts consolidating successfully, then the market reaction will be extremely favorable for the sector as well as for the farsighted, patient investors. The recent merger between Aventis and Sanofisynthelabo is just the prelude.

"Our long-standing recommendation Novartis (NVS NYSE) has served us well as a big pharmaceutical play. The company possesses one of the best pipelines in the industry, with at least eight upcoming products being $1 billion sales candidates. It dominates two high-growth health areas (cardiovascular and oncology) and will not face any meaningful patent expirations until 2010. Nevertheless the stock remains fairly cheap and will continue to have its place in our model portfolio.

"The newest addition to our model portfolio is Glaxo-SmithKline (GSK NYSE). Glaxo is the cheapest big pharmaceutical company, trading at a deep discount to its peers. And although the company has had some problems with its pipeline, the market has been ignoring—wrongly we think—the company’s strong cash flow generation and premium dividend yield of 3.3%. Notice that the average yield for the US-based big pharmaceutical companies is around 2.4%. The market is ignoring the longer-term potential that the company has to offer.

"The way we see it, the main problem that GlaxoSmithKline has is that, although it has quite a compelling list of potential blockbuster drugs, they’re in the early stages of development. But as time passes and more clinical data is released, thus bringing the strongest potential drugs closer to production, the missing piece in the Glaxo puzzle will be added. If the dollar resumes its downtrend, as we expect to happen by the second half of the year, a lot of overseas pharmaceutical companies will experience some headwinds. This is because the US represents more than half of the world’s pharmaceuticals market. But we still think the sector’s defensive growth characteristics will overcome the currency factor."

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