Pfizer Inc. (PFE)
Golden Years Spawning The Golden Goose
The U.S. healthcare sector is gaining added growth from an aging America. An aging population bodes well for the industry’s future. Compelling secular growth regardless of the economy is the result of the approximately 77 million U.S. baby boomers’ need for more healthcare, equating to relatively stable sector demand.
President Trump’s tweets don’t change the fact that the majority of people’s lifetime medical costs are spent in their final few years. Demographics and economics mean we want exposure to this sector. Lower prices from the recent pullback make this doubly attractive now.
China’s aging population also offers medium and long-term opportunities for U.S. healthcare firms. As the country ages and becomes wealthier, the Chinese market could contribute to further demand for U.S. healthcare services, including pharmaceuticals and medical technology. Assuming the natural progression of the Chinese growing richer and older, healthcare’s share of the Chinese gross domestic product could grow from about 5% today to 40% by 2022.
Pharmaceutical and device firms continue to merge in an effort to create economies of scale, reduce acquisitors’ tax rates through overseas acquisitions, cut costs, find new growth potential, and put previously trapped overseas cash to good use.
The old cliché goes something like, “you can’t have your cake and eat it too.” Well, in Pfizer’s case, I believe you can. Not only does the stock have good growth prospects, but with virtually no risk of going bankrupt, combined with inflation protection you can’t get from owning bonds, Pfizer is a bond with inflation protection. It’s the cake you can eat too! Pfizer has increased its dividend for eight of the past 10 years and presently has a yield of 3.74%, which is well above average.
Pfizer has built an economic fortress around its business. Approximately a $208 billion company by market cap, Pfizer’s large size and patent protected drugs allow significant competitive advantages in developing new drugs.
Pfizer’s sheer size creates one of the largest economies of scale in the pharmaceutical industry. In an industry where developing drugs requires a lot of expensive research and development to be successful, Pfizer has the money and the intellectual property to support the development of more new drugs. After many years of struggling to bring out important new drugs, Pfizer is now launching several potential blockbusters in heart disease, cancer, and immune system treatments.
Pfizer’s “Daddy Warbuck’s” like deep pockets supports a sales force positioned in emerging countries to benefit from the dramatically increasing wealth in nations such as China, India, Russia, Turkey, and Brazil.
A powerful distribution network, economies of scale, and patents support Pfizer’s economic fortress. Enabling Pfizer to generate returns on invested capital in excess of its borrowing costs, its patent-protected drugs command strong pricing power. The patents also allow Pfizer to play “goalie” for a while as the patents give it time to develop the next generation of drugs before generic replacements result in competition. Although Pfizer holds a diversified portfolio of products, some products are more important, with the company’s largest product Prevnar representing just over 10% of total sales. Due to complicated manufacturing and relatively low prices for the vaccine, we don’t expect typical generic competition. Further, new products may offset the eventual generic competition of other key drugs.
The way Pfizer’s runs its business allows for cost-cutting measures after patents are lossed to reduce the pressure from lost high-margin drug sales. Overall, Pfizer’s established merchandise line creates the huge amount of money required to fund the average $800 million in development costs per new drug. In addition, Pfizer’s strong distribution network sets it up as a strong partner for smaller drug companies that lack Pfizer’s resources.
Litigation risks are always a concern. Pfizer faces generic competition, changing FDA regulations, and growing negotiating power from managed-care companies. Effects of the first Trump Administration budget, renewed talks against high drug prices and possible industry deregulation are still wild cards, as new drug development has become challenging in the last eight years. Managed care has grown during the past 20-years into a powerful entity that can negotiate lower drug prices. Several of Pfizer’s competitors are bringing drugs to market first, which may increase the risk of commercialization failure and lower prices on the drugs if the clinical data isn’t noticeable better than the competition. The loss of patent protection on several drugs will weigh on future growth. In particular, the 2017 patent loss on Viagra and the eventual 2019 U.S. patent loss on Lyrica will slow long-term growth.
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