Income Investors Would Like These Two Global Pharmaceutical Companies

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

Charlie Munger has once mentioned that one of the three keys to investing success was to invest in cannibals, the companies that kept eating itself. Lower total outstanding shares mean higher EPS, which would translate into a higher share price. Recently, Pfizer (NYSE: PFE) announced that its board authorized a new $10 billion share buyback plan, in addition to the remaining $3.9 billion repurchase authorization under the current program. Moreover, it will also offer a $0.24 quarterly dividend to shareholders of record on August 2. Should we invest in Pfizer after the recent share repurchase plan announcement?

Pfizer’s decent total yield

Since 2010, Pfizer has consistently kept reducing its share count, from more than 8 billion to nearly 7.43 million. As Pfizer is trading at $28.50 per share, it is worth around $202.3 billion on the market. If Pfizer completed the total share buyback of $13.9 billion, including the new $10 billion worth of shares in the new share buyback plan, its shareholders could get a repurchase yield of nearly 6.9%. For income investors, Pfizer has become one of their favorite stocks. The company has paid investors uninterrupted dividends in the past ten years. With the quarterly dividend of $0.24 per share, the forward annualized dividend yield stays at nearly 3.4%.

Recently, Pfizer has completed the exchange offer for its animal business Zoetis (NYSE: ZTS). Under the exchange offer terms, the ratio of Zoetis share per Pfizer share is 0.9898, meaning that around 0.9898 shares of Zoetis would be exchanged for one Pfizer common share. Excluding Zoetis, Pfizer expected to generate around $50.8 to $52.8 billion. The adjusted SI&A expenses were estimated to stay in the range of $14.2 to $15.2 billion. R&D expenses might fluctuate in the range of $6.1 to $6.6 billion. The adjusted diluted EPS might come in at $2.10 to $2.20 per share. At the current trading price, Pfizer is valued at only 8.2 times its trailing EBITDA.

Zoetis demands a premium valuation

After the spinoff, Zoetis has become the global leading maker of more than 300 medicines and vaccine products for animals with the presence in 120 countries. Indeed, Zoetis is the biggest player in the animal medicines and vaccine industry with around 19% market share. Livestock was its main revenue contributor, with $2.77 billion, accounting for 66% of its total revenue. Zoetis expected to produce around $4.43 to $4.53 billion in venue while the EPS would be around $1.00 to $1.06 per share. Because of its global leading position, the market values Zoetis quite expensive, at a much higher valuation than Pfizer. At $30.60 per share, Zoetis is worth around $15.30 billion. It is valued at 16.5 times its trailing EBITDA.

Merck offers higher dividend and share buyback yield

One of its peers, Merck (NYSE: MRK), is also a stock that income investors might consider. Merck has also paid uninterrupted dividends for around 10 years. In 2012, the reported EPS came in at $2.00, with the dividend payment of $1.69 per share. Merck is trading at $47 per share, with a total market cap of $141.90 billion. Merck offers its shareholders a bit higher dividend yield, at 3.7%. Thus, it also has a bit higher valuation, at nearly 9 times its trailing EBITDA. Merck also returned cash to its investors via share repurchases. The company has spent around $1.16 billion on share buybacks, raising its cumulative treasury stock to more than $25 billion. Merck also got a huge share buyback plan of as much as $15 billion. In the next twelve months, it might accomplish half of the plan, repurchasing around $7.5 billion worth of shares. Indeed, the $15 billion buyback plan represents quite a juicy total yield of 10.6% for shareholders.

My Foolish take

I like both Merck and Pfizer, what with their leading position in the global pharmaceutical industry, reasonable valuations and the potential to return significant cash to investors via both dividend payments and share repurchases. I know that some investors might worry about the patent expiration on some of their key medicines. Nevertheless, the patent expiration is inevitable and is only the short-term headwind, not the long-term threat to those businesses because of their huge human and capital resources to develop future drug pipelines.

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Anh HOANG has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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