It’s been an extremely busy year for the healthcare sector, as bids for Shire (LSE: SHP) (NASDAQ: SHPG.US) and AstraZeneca (LSE: AZN) (NYSE: AZN.US) have filled a significant amount of column inches. Indeed, both companies have been the subject of bid approaches from American firms, whose interest appears to be two-fold. Firstly, they wish to move their tax base so as to take advantage of a lower tax rate and, secondly, both Pfizer and Abbvie (the bidders) are struggling to replace key blockbuster drugs that are set to go off-patent,…
It’s been an extremely busy year for the healthcare sector, as bids for Shire (LSE: SHP) (NASDAQ: SHPG.US) and AstraZeneca (LSE: AZN) (NYSE: AZN.US) have filled a significant amount of column inches. Indeed, both companies have been the subject of bid approaches from American firms, whose interest appears to be two-fold. Firstly, they wish to move their tax base so as to take advantage of a lower tax rate and, secondly, both Pfizer and Abbvie (the bidders) are struggling to replace key blockbuster drugs that are set to go off-patent, so Shire and AstraZeneca’s pipelines and future sales could be most welcome.
Clearly, there could be more bids in future for both companies, since the two reasons stated are unlikely to change significantly. However, is AstraZeneca or Shire the best investment over the medium to long term?
The last 18 months have seen a huge turnaround in the market’s view of AstraZeneca. At the start of 2013 it was viewed as something of a lame duck. It had a number of key drugs set to go off-patent, had a lacklustre pipeline of new drugs and had wasted vast sums of money on a share buyback. The market was not impressed.
Fast forward to today and AstraZeneca is viewed in a much more positive light. Indeed, many investors seem to be ignoring the disappointing forecasts for the next couple of years (where earnings per share are expected to fall by 14% this year and by 3% next year). Instead, they are looking further ahead at the pipeline potential that has been beefed up by several acquisitions, notably Bristol-Myers Squibb’s half of the diabetes joint venture.
Certainly, AstraZeneca has potential in the long run, but much of this appears to be priced in. Shares in the company trade on a price to earnings (P/E) ratio of 17.2 and now yield 3.9%, which shows that there is perhaps not a vast amount of scope for an upwards rating revision without evidence that the pipeline is delivering. This could take some time so, without further bids, AstraZeneca could see its share price come under pressure in the short run, although it still remains an impressive medium to long term play.
Shire took the unexpected step of detailing its pipeline recently in response to Abbvie’s bid, and the Dublin-based company is aiming to double revenue by 2020. Indeed, the reason for the unusual step of discussing the pipeline in great detail could have been to raise Abbvie’s offer, or could simply have been a case of management seeking to reassure shareholders that there is still considerable potential in the company.
Either way, Shire’s share price has clearly been boosted by the bid approaches this year. It now trades on a P/E of 23.7, which is difficult to justify even when the company is set to increase EPS by 27% this year and by 10% next year. Indeed, the market seems to be convinced that Shire can double revenue over the next five years (which, although possible, is a big ask) and this has bolstered sentiment significantly.
As with AstraZeneca, Shire’s share price could come under pressure in the short run unless there is another bid approach. It clearly has long-term potential, but even with strong growth rates forecast for the next couple of years, much of this potential may already be priced in. For now, holders of shares in AstraZeneca and Shire may wish to hold, but potential investors in the companies may wish to wait for a touch of weakness before buying a stake.
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Peter Stephens owns shares of AstraZeneca plc (ADR). The Motley Fool recommends Shire.