An Insider and His Wife Are Buying This Pharma Stock

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

According to a filing with the SEC, between June 11 and June 12, Valeant Pharmaceuticals (NYSE: VRX) Board member Lloyd Segal directly purchased 2,800 shares of the stock at an average price of $83.85 per share. This gave him a total of slightly more than 21,000 shares of the stock, and came at the same time as his wife purchased close to 400 shares of Valeant.

We track insider purchases because, in theory, this type of activity increases an insider’s company-specific risk, and so, the fact that an insider chooses to buy the stock rather than diversify their wealth should signal confidence in the business. In fact, studies show that stocks bought by insiders slightly outperform the market on average (read our analysis of studies on insider transactions) and so, we think that it can be useful to do a quick scan of these stocks to see if they look like good values.

The $26 billion market cap pharmaceutical company experienced a 25% increase in sales last quarter compared to the first quarter of 2012, though we’d note that growth was supplemented by acquisitions. Net loss more than doubled from their levels a year ago, and Valeant reported a loss of $0.09 per share. With one of the company’s largest expenses being its amortization of intangible assets, cash flow from operations did see an increase over the course of the year.

The stock price has risen over 90% in the last year, despite the fact that Valeant had also shown a net loss in its 10-K for 2012. Continuing its acquisition drive, Valeant announced the purchase of Bausch & Lomb, which would give it a strong position in eye care related products.

In addition to insider activity, we also follow filings from hundreds of hedge funds and other notable investors. We’ve found that quarterly 13Fs can be used to help develop investing strategies (for example, the most popular small cap stocks among hedge funds earn an average excess return of 18 percentage points per year) and of course, we can also use them to monitor activity in individual stocks. Billionaire Stephen Mandel’s Lone Pine Capital initiated a position of 4.9 million shares in the first quarter of the year (see Mandel's stock picks).

Peers for Valeant include Teva Pharmaceutical Industries (NYSE: TEVA) and Merck (NYSE: MRK). Each of these large pharmaceutical companies recorded a decline in net income in the first quarter of 2013 versus a year earlier, with revenue falling in both cases as well. However, Wall Street analysts are bullish on both companies’ prospects. Teva is expected to increase its earnings per share by enough to give it a forward P/E of 7, even though it is currently valued at 19 times its trailing earnings.

Merck is also expected to improve dramatically given its forward earnings multiple of 13, even though we’ve mentioned that it too is struggling. Merck is a potential pick for defensive investors with a beta of 0.4 and an annual yield of 3.60%, though we would be concerned about recent performance.

The Bausch & Lomb acquisition would also make Valeant comparable to Novartis (NYSE: NVS) and Regeneron Pharmaceuticals (NASDAQ: REGN), which are significant players in eye care. Regeneron has more than doubled in price in the last year, on large (though unsustainable) increases in both top and bottom lines. A good deal of future growth is already priced in, with investors having bid up the stock price to over 30 times trailing earnings.

Novartis has also been growing its business, unlike Teva and Merck, and we’d note that it is also an income opportunity (at a 3.50% yield) with little correlation to broader market indices at a beta of 0.4. The sell-side is also looking for earnings growth here, with trailing and forward P/Es of 18 and 13, respectively.

As with any acquisition or series of acquisitions, we would have some concerns about integration risk at Valeant, and with recent financial reports showing losses at the company, we think that imitating this insider purchase would be too speculative for us. The company’s peers also seem to be priced at levels which anticipate quite a bit of growth this year and next year, and we actually think that we would avoid them at least for now.

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This article is written by Matt Doiron and edited by Meena Krishnamsetty. They don't own shares in any of the stocks mentioned in this article.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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