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The AstraZeneca (AZN) share price is soaring: here’s what I’d do now

Scientist filling a needle
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Back when Pascal Soriot took charge at the then-troubled AstraZeneca (LSE: AZN) in 2012, I didn’t expect a quick fix. No, it was going to take time, money and hard work to get the drugs giant’s development pipeline flowing again. But the market reacted with a rare long-term outlook, and the AstraZeneca share price gradually strengthened.

AstraZeneca shares have almost trebled since Soriot took up the CEO position, while the FTSE 100 has put on just 25%. It helps that AstraZeneca fared relatively well during the pandemic-induced crash. But I can’t help being concerned over one specific question. Has enthusiasm overtaken reality?

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I’m talking about valuation here, and how AstraZeneca’s starting to make me suck my teeth and shake my head a bit. The thing is, while the shares have been climbing, earnings haven’t.

Well, EPS did rise in 2020. But there were several years of falling earnings prior to that, with a collapse from more than $4 in 2017, to barely above $1 in 2019. The $2.44 per share recorded in 2020 was a welcome uptick, but it was still way below levels of old.

AstraZeneca share price valuation

Years of weakening earnings, coupled with an accelerating share price, mean only one thing. And that’s a ballooning P/E valuation. On the current AstraZeneca share price, and based on trailing 2020 earnings, we’re looking at a multiple of a shade under 50 now.

Going on forecasts, the forward figure still stands at a little over 40. That’s up in a small-cap growth stock territory, for a FTSE 100 company with a market-cap of more than £133bn.

It doesn’t necessarily mean it’s overvalued. But it does mean AstraZeneca will need to grow its earnings substantially to get that P/E down closer to the Footsie’s average. I’m not suggesting AstraZeneca is an average company that should be on an average valuation. No, better companies can often sustain significantly higher valuations.

But to get the AstraZeneca P/E down only as far as 20, earnings would need to climb to around 430p. That’s close to 2.5 times 2020 earnings.

Long-term potential

Is such earnings growth achievable? I think it is. The real question in my mind is how long will it take? While good news is coming in steadily, investors are usually happy to hold on, and even keep buying.

But all it can take is one set of figures that don’t quite meet the latest elevated expectations, and suddenly we can see a whole host of sellers dumping their shares. Even a quiet spell on the news front can push some away.

And even though Covid-related sales only contribute a tiny portion of the company’s profits, the general pharmaceuticals sector bullishness surely helped lift the AstraZeneca share price. And that effect has to end, eventually.

So what’s the bottom line for me? I think AstraZeneca is an excellent company with the potential to generate profits and dividends for many years to come. And it’s one I’d definitely like to have in my Stocks & Shares ISA.

I just hesitate at the current valuation. I’ll watch, and maybe buy on the dips.

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Alan Oscroft has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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