A strong share price performance can be a sign that a business is growing steadily. That seems to be true at AstraZeneca (LSE: AZN), which reported a 50% increase in earnings during the first nine months of this year.
The FTSE 100 pharmaceutical group’s stock has risen by more than 30% so far in 2022. As a result, AstraZeneca has overtaken Shell to become the most valuable company on the London Stock Exchange, with a market cap of £175bn.
AstraZeneca is a business I’d like to own, but I’m a little wary about buying at the current price. Is the company’s strong growth already priced into its shares, or is there more to come? Here’s what I think.
Delivering as planned
After years of heavy investment in new medicines, its efforts are starting to pay off.
Sales rose by 30% to $33.1bn during the first nine months of this year. According to management, growth came “from all disease areas”. This included a 24% increase in revenue from cancer treatments. There was also a contribution from Alexion, which AstraZeneca acquired in July.
Looking ahead, the pipeline seems strong for future sales growth.
The business has won 19 regulatory approvals for new products in major markets since its half-year results were published earlier this year.
Phase III clinical testing has also delivered positive results for breast cancer drugs danicopan and capivasertib, opening the way for potential commercialisation.
Overall, my feeling is that there will be plenty of opportunities for sales growth over the next few years.
What do the brokers say?
City analysts covering AstraZeneca seem optimistic about the outlook for the firm. They’re forecasting strong earnings growth between now and 2024:
| Year | Forecast earnings per share | Forecast P/E |
| 2022 | $6.66 (+26%) | 20.6 |
| 2023 | $7.44 (+12%) | 18.5 |
| 2024 | $8.85 (+19%) | 15.5 |
These numbers suggest to me that the shares are not too expensive on a forward view.
However, one concern I have is that AstraZeneca’s earnings come with heavy adjustments. These exclude certain costs. If these are included, reported profits are much lower.
During the first nine months of this year the company reported statutory earnings of $1.54 per share, but adjusted earnings of $5.28 per share. That’s a huge difference. Which of these numbers should I use to value the stock?
In situations like this, my preference is to look at how much surplus cash the business is generating.
I’ve crunched the numbers and my sums suggest AstraZeneca generated underlying free cash flow of $3.60 per share during the first nine months of the year, excluding acquisition payments.
On this basis, I estimate that AstraZeneca shares are trading on about 28 times forecast free cash flow. That’s not obviously cheap.
My verdict
Overall, I think that this is a good business with attractive long-term growth prospects.
However, I prefer to take a conservative view on valuation and focus on cash generation. By this measure, these shares already look fairly priced to me.
If we see another market slump next year — or if the company’s performance disappoints investors — I think the share price could fall sharply.
But on balance, I think there will probably be better buying opportunities in 2023. I wouldn’t rush to buy right now.
