A Pharma Buy on Long-Term Prospects

Douglas is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

If you look at the chart below, you will see that Bristol-Myers Squibb (NYSE: BMY) has dramatically underperformed various major competitors including Merck (NYSE: MRK), Pfizer (NYSE: PFE) and Eli Lilly (NYSE: LLY).  While Bristol-Myers has faced some legitimate issues this year – many of which equally apply to these very competitors – the nearest peer has outperformed by nearly 20%. Based on unfair performance differentials, positive longer-term prospects, and a solid income element, this stock represents a very attractive buying opportunity at current levels.

<img src="http://media.ycharts.com/charts/00e3b704e2338966b47cbc8ec45871f6.png" />

BMY data by YCharts

Pharmaceuticals YTD

So far 2012 has been a very strong year for the major drug companies, seeing many of them trading at or near 52-week highs. Furthermore, as a group, the sector has healthily outperformed the broader market by several percentage points. All of this has occurred against the backdrop of what has become affectionately known as the “patent cliff”- the phenomenon in which many of the industry’s largest players are seeing blockbuster drugs lose their patent protection and threaten the bottom line of their respective companies.

Merck lost protection on its asthma drug Singulair, which accounted for $1.43 billion in sales last year, while Pfizer lost protection on its cholesterol drug Lipitor, which sees patients fill 3.5 million prescriptions per month. Despite these potentially catastrophic blows, each of these companies has performed remarkably well this year, although both lag Lilly which does not face the same patent pressure at present.

While Bristol-Myers is losing Plavix, the company has been killed for its mistakes and seen its successes ignored. This is not to say that many of those mistakes – discussed in more depth below – are minor, but I do not believe they warrant the level of punishment that they have received relative to peers. Since I became bullish on the stock on August 20, the company has outperformed both Merck and Pfizer (see chart below). I believe there continues to be great upside potential in the name.

<img src="http://media.ycharts.com/charts/3eca7629e1f2266fa977ab162adddbd9.png" />

BMY data by YCharts

Foolish Dissention

Taking a significant portion of the blame for the company’s troubles thus far this year is company CEO Lamberto Andreotti, who was recently nominated as a Foolish candidate for worst CEO of the year. While I do not speak directly for all Fools, the ones in the home office will tell you that part of what makes us “motley” is our ability to engage in spirited debate and disagreement. Aside from thinking Mr. Andreotti’s name is as cool as the name of his recovery plan – “a string of pearls” – is uncool, I conscientiously disagree with my peers on the stock, if not totally on Mr. Andreotti.

Top cited reasons for his candidacy in the group include the hepatitis-C debacle, a drug recall, a pay raise, and allegations of executive insider trading – this is an oversimplification and I would strongly encourage you to read the entire piece. While each of these factors is a legitimate problem, many can be applied to most of the companies in the sector. Blown trials and recalls happen, most drug company CEOs are extremely well paid, and greed is greed. The investment outlook for Bristol-Myers is simply more complicated.

The Case for Bristol-Myers

Where Bristol-Myers is currently trading at a trailing P/E of 16.3, only Lilly is lower at 14.6; Merck trades at a multiple of 21.3 and Pfizer at 19.2. Additionally, if only by a small margin, Bristol-Myers has the most attractive dividend yield at 4.1% None of these metrics, of course, mean that much unless the company can cobble together a reasonable pipeline.

The company recently completed its acquisition of Amylin Pharmaceuticals and has become the most appropriate buyer of VIVUS (NASDAQ: VVUS). That company’s new anti-obesity drug, Qsymia, has the potential to become a blockbuster in its own right. While the acquisition approach has yielded murky results thus far this year, the company is poised for success heading into rest of the year. The dramatic performance differential means that even if the company can make up a portion of its lost ground, it should significantly outperform.

Mr. Ehrman has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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