Investing in a Cheap Life
Marshall is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Life Technologies (NASDAQ: LIFE) appears to have lost its buyout premium, but is the stock still worth investing in? The stock fell 7% earlier this week after reports that the buyout buzz for the company was cooling off. The maker of genetic testing equipment was previously reported to have engaged Deutsche and Moelis & Company to help shop around. Meanwhile, parties potentially interested in scooping up the company included Blackstone and TPG Capital. The real fizzle in Life's buyout buzz was due to news that potential acquirer, Thermo Fisher Scientific, is backing out of the pursuit for the company, noting the stock is too rich after being run up the last three months.
While the buyout of Dell appears to have lifted hopes of a rebounding private equity market, the fact that Thermo will have to pay such a premium has led to deal skepticism. Thermo would likely have to pay upwards of $75 per share to get shareholders to go along with the deal, as noted by Credit Suisse, which is still a 21% premium from current trading levels. However, there are a couple of billionaire hedge funds (see them all), including top hedge fund owner John Paulson, that might still push for a buyout (see Paulson's new picks).
Assuming a buyout is out of the question, here's why you should still invest. Even while seeking a buyout, Life has remained focused on its future, including three recent acquisitions spanning mid-2012 to just last month, like Navigenics and Pinpoint Genomics. Life also has a development agreement with Bristol-Myers Squibb for companion diagnostic projects, and a partnership with GlaxoSmithKline for a diagnostic test for cancer immunotherapy.
Major initiatives for the company include increasing its presence in high growth markets, namely Latin America, the Middle-East, China, and India. Life's motives in these markets include helping with biological research including forensics and food and water testing. Life's focus on emerging markets has helped the company grow sales from the regions 30% annually since 2007, to now make up 10% of sales.
Life is cheap. Life is well below major peers such as Carefusion, Hospira, and Perrigo Company when it comes to valuation metrics.
- Life: P/E of 13, P/CF of 12
- Industry averages: P/E of 22, P/CF of 22
- Life: 12
- Johnson & Johnson: 13
- Merck: 11
Life's 12 P/E is also on the low end of Life's five-year P/E range, low of 8, high of 21. What's more is that Life doesn't deserve to trade in line with Johnson & Johnson and Merck, but rather at a premium. Life has a market value around $10 billion, whereas Merck is at $130 billion and Johnson & Johnson $210 billion. Johnson & Johnson is even exploring the sale of its diagnostics unit in an effort to enter the higher growth markets that Life Technologies operates in. This would allow the company to target high-tech, high-profit molecular diagnostics business. Investment firm Poliwogg has noted that Johnson & Johnson could simply look to purchase a company like Illumina or Life Technologies to gain exposure to the genetic analysis and gene sequencing.
Johnson & Johnson did make a major acquisition, of Synthes, in mid-2012, which expanded its medical products line, where Synthes is a maker of skeletal fixation implants and instruments. Johnson & Johnson now expects to post full year 2013 EPS in the range of $5.35 to $5.45, versus previous consensus forecast of $5.50, with potential divestitures expected to have a negative impact over the interim.
For Merck, last quarter the company posted EPS of $0.83, compared to $0.97 for the same quarter last year. This was also on the back of a 4.5% sales drop from the same quarter last year. Major setbacks for Merck include suspension of its Tredaptive drug after negative trial results, not to mention a delay in the filing of its odanacatib osteoporosis drug until 2014. Merck has been impacted by erosion from patent expiration of its key drug Singulair. As far as Merck's plays in the cancer industry go, the drug maker is one of three pharmaceutical companies planning to test whether new drugs can work against a wide range of cancers independently of where they originated, including breast, prostate, liver and lung.
Other notable biotech companies with a focus on cancer include Onyx Pharmaceuticals (NASDAQ: ONXX) and Seattle Genetics (NASDAQ: SGEN). Onyx is a biopharma company with a focus on therapies for targeting cancer-causing molecular mechanisms, where Seattle Genetics is focused on the development and commercialization of monoclonal antibody-based therapies for cancer. Seattle Genetics has a portfolio of drug candidates targeted to many types of human cancers. Seattle Genetics currently trades at an incalculable P/E thanks to its string of negative earnings. Seattle Genetics managed to post negative EPS for 2012 of $0.46, and this loss is expected to widen to $0.86 for 2013. Onyx saw two separate drug approvals in 2012, one of which was for multiple myeloma. As far as recent performance goes, Onyx reported strong third quarter results with revenues up 19.3% year-over-year, and its earnings loss is expected to narrow from $2.50 per share in 2012 to a $1.94 loss in 2013. Although both Onyx and Seattle Genetics are in the high-demand cancer market, both are still relatively speculative and have negative earnings as of their trailing twelve months.
One interesting point is that the earnings and the cash flow growth don't quite match up for Life over the past five years, which gives me the impression that investors might be over-discounting Life's ability to generate cash flow in the interim.
- Five-year historical EPS growth: 2%
- Five-year historical cash flow growth: 9.4%
- Five-year expected EPS growth: 9.5%
- Five-year expected cash flow growth: ???
Looking at just the EPS growth, there is not too much to get excited about, but the cash flow growth makes the stock appealing.
The spread between free cash flow and earnings has been consistent and assuming this continues, then the company is even cheaper than its 12 P/E, given the value of the company should be based on its future cash flows. There are concerns related to U.S. budget cuts that may well constrain spending by Life Technologies's government and academic customers. However, the stock still appears to trade on the cheap side despite the run up in the stock's price. What's more is that Life has a product portfolio that consists of drugs and other products, with the revenue breakdown being 20% products and 80% consumables. This is a positive over the more drug-reliant biotech companies, giving the company greater revenue diversification and more stability in cash flows (read more above Life's industry prospects). I think Life could be one of the great ways to play the unique industry of genetics analysis.
mhargra has no position in any stocks mentioned. The Motley Fool recommends Johnson & Johnson. Marshall Hargrave is a registered investment adviser with Bridgewater Investments. The Motley Fool owns shares of 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!