Drug Stocks on Citi's Dividend Buy List

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Barron's recently posted Citi's updated list of large, financially strong, high-yielding, dividend-paying companies. Three drug companies make the grade: Pfizer (NYSE: PFE), Merck (NYSE: MRK), and Bristol-Myers Squibb (NYSE: BMY).

The Citi list

Every month, Citi creates a list of recommended companies with big yields. The list leans toward the large side of the market, with a minimum market cap of $10 billion required to pass the screen. The second criteria is to have a yield that is one percentage point more than the median yield of dividend payers (this is lower by a third from previous required levels). Next Citi uses credit default swaps to determine the companies that the market believes to be low risk.

The credit default swap angle is what makes the list so interesting, since it incorporates the market's opinion of the company's safety. The list is always full of great names. The April incarnation had three drug companies that investors might find interesting, though their outlooks differ greatly:

Pfizer

Pfizer has made some big changes in recent years. For starters, it sold its nutrition business to Nestle. Then it spun off its animal health division. These moves were an effort to become leaner, and help management focus on its core drug business. Of course the extra cash hasn't hurt either. And it hasn't just been shedding businesses, it also recently purchased Wyeth to help solidify its core.

Like all of the drug makers, Pfizer has been living under the cloud of patent expirations. With a stable of blockbuster drugs already facing or set to face generic competition soon, it is reasonable that investors would be concerned about the company's earnings. A dividend cut a few years back certainly doesn't help matters.

However, Pfizer is among the largest drug companies in the world. This gives it notable advantages in research and development, a costly and time-consuming process. One of the biggest benefits is that Pfizer can easily afford to have multiple research efforts going at the same time. In fact, the company appears to have a pretty decent pipeline in late stage development—partially thanks to the Wyeth addition.

Although you can't count your chickens until they've been approved by the FDA, Pfizer is a well run company with good prospects. Its 3% or so dividend yield should interest conservative investors.

Merck

Like Pfizer, Merck has used an acquisition to solidify its core drug business. In this case, the acquisition target was Schering-Plough. It was a good purchase for Merck, which faced a far hazier future without the addition of Schering's drug pipeline. The combination should also allow for notable cost savings to be realized.

While a big purchase was somewhat out of character for Merck, it really didn't have much of a choice. In fact, even with Schering, Merck's expirations remain a notable concern. That said, it still has some big drugs and vaccines to rely on while it works candidates toward approval.

While Merck is a good company, its top line has been fairly stagnant for years (the Schering purchase led to a huge one-year jump, but not consistent growth). The dividend, though increased recently, was also stagnant for years. While offering a nearly 4% dividend yield, this probably isn't appropriate for conservative investors. Middle of the road types willing to own a good company working through a rough patch might find it appealing.

Bristol Myers

Bristol Myers has taken a slightly different approach to the drug space than its peers here. It has been cutting costs and refocusing on its core, but it has also made a concerted effort to partner on its projects. This includes a deal with Pfizer that recently led to the approval of a drug to reduce the risk of stroke and blood clots in people who have atrial fibrillation (ELIQUIS).

While the partnership approach helps to reduce the company's risk profile on new drugs, Bristol Myers has a pretty ugly outlook on the expiration front. And the next few years are going to be the worst of it. The shares have run up of late, though they are still well below their all-time highs. A 3.5% or so yield is enticing, but there will likely be better buying opportunities as patent expiration issues unfold.

Drugs

Big drug companies were once considered safe and reliable. While patent expirations changed that, it also brought about lower prices and higher dividend yields. All of the companies on Citi's list are good, solid firms. However, their risk profiles need to be carefully evaluated before a commitment is made. Industry big-wig Pfizer is probably the all-around best option.


Reuben Brewer 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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