3 BioPharma Stocks to Buy

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

While valuing all businesses requires looking to the future, this is particularly true for biopharmaceutical producers. In light of the baby boomer generation, healthcare costs are expected to rise substantially. So, which BioPharma stocks will generate the greatest upside?

I recommend looking at pipeline developments and the expected growth rate that would be necessary to hold strong dividend yields constant. If the pipeline is strong and not that much growth is required to hold the dividend, you should consider buying. Below, I review 3 stocks with these factors in mind.

Why You Should Buy Pfizer (NYSE: PFE)

What is Pfizer without full control of Lipitor? Although it may have lost a major cash driver, the company's pipeline is still attractive. MKM Partners is a bit pessimistic and explains that only three new launches will come between 2013 and 2017. This is the lowest number among domestic peers. But even this analyst still puts the price target at $25, which means, at worst, Pfizer will still provide a 3.6% return on investment through just its dividend yield.

Moreover, it can still find meaningful catalysts outside of organic growth--that is, through acquisitions. The purchase of NextWave Pharmaceuticals for $255 million plus milestones gave the company a strong position in the ADHD market. This market is expected to grow globally by a CAGR of 8% to $7.11 billion over the next half decade. Three ADHD drugs were approved in the US between 2005 and 2010, but the international market is even more penetrable.

In addition, the pipeline is proceeding smoothly. Investors have already factored in the worst, so all it takes for price gains is to see outperformance against the low bar. This is based on how even if Pfizer were to grow by just 4% annually (below the 6% rate forecasted) over the next 5 years, it would be worth right around its current price at an 8% discount rate and a 14x multiple. However, we are seeing, again, signs of the pipeline proceeding smoothly. In its Phase III trial, once-daily Lyrica, for example, mets its primary endpoint of reducing pain for fibromyalgia patients. The FDA also recently approved Xeljanz for treatment in adults with moderate to severe active rheumatoid arthritis who have not had an adequate response to methotrexate. Enbrel and Celebrex contribute to generate strong returns.

The Merits To Johnson & Johnson (NYSE: JNJ) and AstraZeneca (NYSE: AZN)

What about other alternative biopharmaceutical investments? J&J trades at 12.6x forward earnings and generates a 13.4% return on invested capital--40 bps higher than the industry average. 10 out of 22 analysts rate the stock a "hold," and the rest rate it a "buy" or better. In the last 13 quarters, management beat expectations 11 times. The bad news, however, is that the drug manufacturer and consumer goods business is only forecasted for 4% annual EPS growth over the next 3-5 years--below the 8.4% rate forecasted for the pharmaceuticals industry and well below 12.1% for the broader healthcare sector.

On Thursday, J&J said it would not enforce exclusivity rights for Prezista, an HIV/AIDS drug, in sub-Saharan Africa and a variety of poor countries. This was a nice goodwill gesture, but unfortunately many are criticizing it for cueing manufacturers and thereby opening up generic competition in the future against other potentially more growth-oriented drugs. Even still, the company has several catalysts in its own right. The FDA informed J&J that its bedaquiline candidate for a drug-resistant version of tuberculosis looks "safe and well tolerated" thus far. The FDA also recently approved Xarelto, an anticoagulant, for deep vein thrombosis and pulmonary embolism treatments.

If you are looking for something even more defensive, I recommend considering AstraZeneca, which trades at only 9.5x past earnings and offers a 6.1% dividend yield. Return on invested capital of 31.4%, however, is largely due to poor long-term growth investments.  No analysts rate the stock a "sell," but 2 out of 4 claim it is a "buy." With 35% less volatility than the broader market and a high dividend yield, it will provide a nice passive stream of income. Catalysts may even create some room on the for upside for multiples expansion. Recent reports have stated that AstraZeneca could buyout Amarin, which could create meaningful revenue synergies through opening the pipeline to larger patient populations. In addition, naloxegol for opiod-induced constipation treatment yielded strong results in two Phase III trials. This candidate was ultimately acquired from Nektar Therapeutics, so the M&A track record of late is strong.

TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of AstraZeneca plc (ADR) and Johnson & Johnson. Motley Fool newsletter services recommend 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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