These Two Billionaires Are Bulking Up on Drugs

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Billionaires Ken Fisher and Jim Simons are two of the top names in the money management business. Fisher runs Fisher Asset Management and is also a long-time columnist for Forbes. Fisher founded Fisher Asset Management in 1979 and has been writing for Forbes for over 25 years. Here's Ken Fisher's full equity portfolio.

Simons founded Renaissance Technologies (RenTech) in 1982 and the firm continues to manage various hedge funds across the world. Simons’ Medallion Fund is one of the best in the industry, making Simons a very rich man while using high frequency trading to exploit inefficiencies in the stock market. Simons stepped down as CEO of RenTech in 2010 and the fund’s investors are now mainly current and past employees (check out Jim Simons’ top holdings).

In reviewing the duo's latest 13F filings with the SEC – which reveal most of the publicly traded securities that each manager owns – we found that Fisher and Simons both have big bets in the pharma industry. Fisher and Simons each have two pharma stocks in their top five holdings, and have almost $3 billion invested cumulatively across five big-name pharma companies.

Our first pharma company is Fisher’s number one stock holding in his 13F, Pfizer (NYSE: PFE). Fisher increased his stake in Pfizer by 45% last quarter after the pharma stock traded relatively flat in 2Q. Pfizer completed the sale of its nutrition business to Nestle for $11 billion, which puts it on its path for realignment. Spurring Pfizer on will be its plan to IPO some 20% of its animal health business, with proceeds used to drive further dividend increases and its $10 billion share repurchase program that was recently announced.

Johnson & Johnson (NYSE: JNJ) is another one of Fisher’s big time bets, being the second largest stock holding in his 3Q 13F. Revenues are expected to be up 8% in 2013 thanks in part to a full year of Synthes' integrated sales. The Synthes acquisition will help Johnson & Johnson expand its product offering to more orthopedic products, and is expected to add $4 billion in sales in 2013. Fellow billionaire investor George Soros also has Johnson & Johnson as one of his latest bets, increasing his stake by over 1500% during the third quarter (check out George Soros’ new picks).

GlaxoSmithKline (NYSE: GSK) is another one of Fisher's pharma bets and is the 23rd largest holding in his 13F portfolio. Fisher increased his stake by 130% last quarter. Revenues for Glaxo are expected to be flat for 2012 as the pharma company sees erosion in older drug lines. Volume gains in new pharmaceuticals, such as Lovaza, should help counter this erosion in the interim, and is expected to drive sales growth in the mid-single digits for 2013. Glaxo will likely see the most pressure of our five pharma stocks given its above-average exposure to Europe.

Eli Lilly (NYSE: LLY) is one of Simons top picks, coming in as his 2nd largest 13F holding in 3Q. Sales are expected to be down slightly this year due to declining Zyprexa sales, which came off patent protection in 2011. One potential positive is the new drugs that are expected to carry Eli going forward, including its antidepressant (Cymbalta) and oncology agent (Alimta). The company's pipeline is also robust, with over 65 compounds in R&D, and 13 drugs in phase III trials or under regulatory review.

Bristol Myers Squibb (NYSE: BMY) is another one of Simons' top pick, and was RenTech's 4th largest holding last quarter. Bristol is down over 5% year to date as sales are expected to be down around 5% in 2013, as Plavix is now off patent protection. What has helped the pharma stock remain at the top of the valuation spectrum - as measured on a P/E and P/S basis - is its acquisition of Amylin Pharmaceuticals, and potential FDA approval of a new anticoagulant drug. Even with the recent acquisition that is expected to drive long-term growth, Amylin should dilute EPS by around 6 cents per share over the next two years.

When comparing the companies on a valuation basis, we find that both Glaxo and Eli are very much undervalued. Below are key multiples for our so-called "fab five":

<table> <tbody> <tr> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>Price-to-Earnings</strong></p> </td> <td> <p><strong>Price-to-Sales</strong></p> </td> <td> <p><strong>Price-to-Cash Flow</strong></p> </td> </tr> <tr> <td> <p>Pfizer</p> </td> <td> <p>21x</p> </td> <td> <p>3.2x</p> </td> <td> <p>11x</p> </td> </tr> <tr> <td> <p>Johnson & Johnson</p> </td> <td> <p>23x</p> </td> <td> <p>2.9x</p> </td> <td> <p>16x</p> </td> </tr> <tr> <td> <p>GlaxoSmithKline</p> </td> <td> <p>14x</p> </td> <td> <p>2.4x</p> </td> <td> <p>14x</p> </td> </tr> <tr> <td> <p>Eli Lilly</p> </td> <td> <p>14x</p> </td> <td> <p>2.4x</p> </td> <td> <p>10x</p> </td> </tr> <tr> <td> <p>Bristol Myers</p> </td> <td> <p>30x</p> </td> <td> <p>2.9x</p> </td> <td> <p>20x</p> </td> </tr> </tbody> </table>

Eli trades at the bottom of the industry on all three valuation measures and despite Glaxo's relative cheapness, we find Eli's growth prospects to be much more compelling. The company's exposure to Europe, and the continued uncertainty of its economy is likely part of the reason for Glaxo's bargain bin valuation. When looking at the two industry leaders, Johnson & Johnson and Pfizer, we see Pfizer as the best value play given its discounted price-to-cash flow multiple , and its very low forward P/E of 11x.

A big draw for investors is the high dividend yields of these pharma stocks amidst a low-rate environment. Below are key dividend metrics for our five:

<table> <tbody> <tr> <td> <p><strong>Company</strong></p> </td> <td> <p><strong>Dividend Yield</strong></p> </td> <td> <p><strong>Payout Ratio</strong></p> </td> <td> <p><strong>5-year Dividend Growth Rate</strong></p> </td> </tr> <tr> <td> <p>Pfizer</p> </td> <td> <p>3.4%</p> </td> <td> <p>68%</p> </td> <td> <p>-5.4%</p> </td> </tr> <tr> <td> <p>Johnson & Johnson</p> </td> <td> <p>3.5%</p> </td> <td> <p>76%</p> </td> <td> <p>8%</p> </td> </tr> <tr> <td> <p>GlaxoSmithKline</p> </td> <td> <p>5.4%</p> </td> <td> <p>77%</p> </td> <td> <p>1.7%</p> </td> </tr> <tr> <td> <p>Eli Lilly</p> </td> <td> <p>4.0%</p> </td> <td> <p>53%</p> </td> <td> <p>2.9%</p> </td> </tr> <tr> <td> <p>Bristol Myers</p> </td> <td> <p>4.3%</p> </td> <td> <p>121%</p> </td> <td> <p>4.7%</p> </td> </tr> </tbody> </table>

One of the cheapest pharma stocks, Glaxo, also pays the highest dividend yield at 5.4%. We still like Eli better given its lower payout ratio and solid dividend growth rate. Despite Johnson & Johnson's leading dividend growth rate, we still like Pfizer's opportunity to up its dividend yield, which can help it to outpace Johnson & Johnson in the interim. Pfizer's recent realignment efforts, including raising cash through asset sales and IPOs, should be a fundamental driver of these dividend increases. We believe that Bristol's valuation is too rich and would be cautious of its 120%+ payout ratio. Three of the five pharma stocks that Fisher and Simons love are also on our list of top ten pharma stocks loved by hedge funds. Here's the entire list. Enjoy.

This article is written by Marshall Hargrave and edited by Jake Mann. They don't own shares in any of the stocks mentioned in this article. The Motley Fool owns shares of Johnson & Johnson. Motley Fool newsletter services recommend GlaxoSmithKline and Johnson & Johnson. 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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