Although I haven't gotten much into how I screen for value and exactly how my dividend fund is built there are a few trends that pop out when you look at the fund as a whole. These would be the following:
- An Average P/E Ratio of around 14
- Dividend Yield of Over 3%
- Payout Ratio of Below 60%
I tell you that to now tell you this; Pfizer has none of these attributes. The reason I am starting the article like this is because I am actually going to walk you through step by step how I managed to add Pfizer (current P/E of ~29) to my Long Term Dividend Fund. The fund that typically looks for fundamentally undervalued companies just added a position that meets hardly any of the usual criteria.
Why you may ask? Simple: The market as a whole is crazy expensive right now. Every time I look to hold onto some cash for a dip there is an explosion that drives the prices up. Now remember that I invest twice a month, never let a position have more than 15% weight, and look to diversify as much as possible. Due to this it sometimes puts me in a bind. I have always loved stress though, and this continues to feed my thirst.
Enough with all of the banter, let's get down to my evaluation.
Pfizer...the Evaluation (cue ominous music)
When I perform an evaluation of a company I grade it on five things:
- Long Term Prospects
- Financial Strength
If this seems eerily similar to something you read in Ben Graham's The Intelligent Investor you would be correct. I still believe he is the king of value although you must adapt his analysis to your own style and vision.
Without further ado, here we go.
Long Term Prospects
The first thing that I always look at when looking into a company's future is what acquisitions were made in the past 12-16 months and what kind of potential impact these acquisitions will make on revenue streams. That being said Pfizer has been busy with their cash.
Pfizer acquired Astrazeneca's small molecule antibiotics business in late 2016. This acquisition included on the market drugs Zavicefta, Merrem/Meronem and Zinforo as well as two drugs that are at later clinical stages. Merrem alone produced just over 250 million dollars of revenue in 2015 and 200 million in 2016. Pfizer recently launched Zavicefta in the UK and will release to more countries outside the U.S. (Allergan owns rights there) throughout 2017 and 2018. Although these drugs may not be a homerun in terms of revenue they will continue to further diversify Pfizer’s drugs throughout the world.
If you are looking for a potential blockbuster drug then look no further than Pfizer’s acquisition of Medivation. Medivation’s Xtandi produced over 2 billion dollars of revenue in 2016. With Pfizer now behind this drug look for continued growth and potential that could not have happened with Medivation. Along with this is Talazoparib which has been reported to be top of the line PARP inhibitors and could bring along with it a solid revenue stream.
Let me be quick about the Anacor acquisition, it’s about boron and crisaborole. Anacor has a development pipeline that is heavy in boron products, something that is not held by many companies. Also there is crisaborole a potential blockbuster eczema drug that could produce huge for Pfizer.
Gene therapy. That is what Bamboo does and not Pfizer is continuing their search to become an industry leader in the category. This is yet another step towards diversification, and one that I really like.
When you take a look at the debt numbers in Pfizer’s report you notice that not only did long term debt increase (31B from 28B) but so did the short term (10.6B from 10.1B). While every company in the industry has large debt, with 4 billion due in 2017 that could drastically cut into EPS for Pfizer.
This is where I really like Pfizer. They are no Gilead when it comes to revenue with 9 different products bringing in over 1 billion in revenue and it seems that more may be coming. They do only have a few major wholesalers but with a massive portfolio that seems to be growing in depth I can’t fault them here.
As with any pharmaceutical company the moat that one surrounds themselves with is only as wide as the drugs they obtain that no one else has. This has been somewhat widened by the acquisitions mentioned above, especially when it comes to Anacor’s boron-based developments and their dermatology products. Pfizer seems to be trending away from the days where they were known for a few drugs and instead are widening and diversifying their portfolio. This is creating a brand that will be tough to beat when it comes to pharma.
Definitely not one of the strong suits of Pfizer as revenue growth over the past ten years has ended up at just under 2% and the five year number isn’t looking much better. What is intriguing is the year over year growth of ~8%, with total revenue at a number that hasn’t been seen since 2012. Add this to encouraging estimates of growth and the acquisition of products that will help immediately (along with cost deductions) and it seems they may be able to rejuvenate growth again in the near future. Plus the pipeline still looks like one it could be producing a lot of revenue in the near future.
TOTAL LONG TERM PROPOSITION SCORE: (4/5)
Quality of Management
This is something that I always take interest in, especially when you have a company like Pfizer that has been somewhat up and down in the past in terms of both revenue and profit. If a CEO continues to get raises and rewarded for sub-par earnings growth then it raises a red flag. What I really like about Pfizer is that they are very incentive based and this keeps me happy. Incentives based in revenues means that shareholders win and so do dividends.
I am not a big fan of companies that jump around from executive to executive always promising that “this will be the one that saves us”. If the same people are selecting the losers then it becomes a habit. For Pfizer you are looking at 38 years in the company for Ian C. Read and this marks his seventh at the top. Remember that he took the reins when the number one drug in the world, Lipitor, was losing patent rights. If you look into his background you find a man that has been at many levels and countries with Pfizer, who truly knows the ins and outs of the business.
As I mentioned above I like when companies have incentive based salaries. Pfizer does this very well as I have pictured here. Not much else I need to say.
QUALITY OF MANAGEMENT SCORE: (3/3)
Cash Flow Assessment
Pfizer had year over year growth in both operational cash flow (9.5%) as well as free cash flow (7.5%). Always check the cash flow, as a change dramatically in the other direction can spell bad news for both the company and their dividends.
For those that do not understand ratio let me lay it down for you real quick:
· Current Ratio – Can you pay back your liabilities with your assets?
· Quick Ratio – Can you pay back liabilities with your liquid assets?
Both of these I want to see over one to pass my test. Pfizer currently passes both standing at 1.25 (Current) and 1.03 (Quick).
This is simply about if a company can cover the interest on their debt. This is good to look at in times where interest rates could be on the rise (times like now) and companies have a significant amount of debt piled up. Pfizer passes this with flying colors with a ratio of 7.92.
FINANCIAL STRENGTH SCORE: (3/3)
This is definitely not one of Pfizer’s strong suits. While they have the cash to pay, and even increase, the dividend what is not great is the fact that they actually paid out 103% of their 2016 earnings. This means that without an increase then they will have to continue to dig into those cash reserves to pay their shareholders.
Pfizer has grown the dividend for seven straight years and has a five year growth rate of over 8%. This is definitely a huge plus if they can get revenue back on track.
Pfizer has been a consistent buyback machine in the past few years with over 16 billion dollars purchased in the last three years and still around 11 billion dollars left of approved buybacks left. This has been a strong point and will continue to be, that is if you believe they will have revenues that will allow for it. Add to this they used an accelerated buyback program to pick up shares at an average price of around ~$32 and this makes you believe someone thinks it is cheap.
The simplest of the three here is Pfizer’s current yield. With a yield of over 3.6% it is a no brainer that this is a much higher return than the broader market.
TOTAL DIVIDEND SCORE: (3/4)
Price to Earnings
Currently at 29 this ranks Pfizer well above and even more inflated market. This is obviously not what you would be looking for as a value investor looking for a bargain.
Forward Price to Earnings
Let’s play a game, it’s called believe the analysts. If you want to play this then Pfizer may be for you. With a Forward P/E of just ~14 this is a steal at the current price.
Price to Book
Currently Pfizer has a price to book of 3.46. The industry median stands at 3.03.
Price to Sales
Currently Pfizer has a price to sales of 3.96. The industry median is 2.90.
Price to Free Cash Flow
Currently Pfizer has a price to free cash flow of 14.96. The industry median is 23.83.
TOTAL RELATIVE VALUATION SCORE: 2/5
What do all of the numbers and analysis mean in layman’s terms? Well what it does for me is give me a grade. A grade of two or less means that I am not adding this to my portfolio at this time. A grade of three means that I should probably dig even deeper to find if there is something that could sway me. A grade of four and above means that I feel completely safe to add (and keep adding) as long as nothing changes.
So what is my final grade for Pfizer?
Pfizer Inc. 2k Grade:
In my opinion Pfizer is a buy.
Disclosure: I am long PFE.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.