Top Picks 2017: Zoetis

01/13/2017 6:00 am EST

Focus: STOCKS

Brian Lazorishak, CFA, CMT

Senior Portfolio Manager, Stack Financial Management

Our Top Pick for growth-oriented investors is a global leader in the animal health market, suggests Brian Lazorishak, senior portfolio manager at Stack Financial Management and contributor to InvesTech Research.

Zoetis (ZTS) was created as a spin-off of the animal health division of Pfizer (PFE) in 2013.

The company is diversified by product line with roughly 60% of revenues from livestock (cattle, swine, poultry, and fish), and 40% from companion animals (pets and horses).

It is also diversified geographically with about half of its revenues generated outside the United States. The animal health industry is currently estimated at $30 billion and is growing faster than global GDP.

Animal health sees stable spending even in recessions -– people love their pets, and livestock spending is necessary and cost-effective. Even during the 2009 global recession the overall industry grew by low single-digits. 

Animal health care also benefits from some secular growth drivers such as a growing middle class and increasing urbanization in emerging markets.

These factors drive higher pet ownership and higher protein consumption, helping both sides of the business.

However, the industry and Zoetis are able to avoid some of the negatives of human health care. Generally, there is less regulatory pressure, and animal health products have shorter R&D cycles with lower costs and higher success rates. 

The company continues to see growth in key products such as Apoquel (canine dermatitis) and Simparica (oral flea & tick prevention). 

Zoetis’ strong financial position allows for internal investment in growth areas such as vaccines, diagnostics, and genetics. 

The company has also grown through acquisitions such as PHARMAQ, which gave Zoetis a position in the aquaculture market.

Fish is the most consumed and fastest growing source of protein in the world, and production continues to shift toward farming, which currently has a very low medicalization rate.

While the company has posted good operational growth in recent years, results have been subdued by company efforts to shift away from lower margin, lower growth products. 

As a result, operating margins have expanded, so the projected 6-8% revenue growth in 2017 should translate into 20%+ EPS growth.

Given this strong outlook, the P/E ratio of 22.9X 2017 EPS is not inexpensive, but likely appropriate given the premium growth prospects and inherent stability of the business.

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