Contrarian investors look for stocks that are out of favour with the market. When sentiment is negative then the true value of a stock can be overlooked. I’m trawling the underdogs of the FTSE to identify which of them may not deserve their sub-market PE ratings.
Unloved
AstraZeneca (LSE: AZN) (NYSE: AZN.US) is certainly unloved. At 9.1, its historic P/E is half that of rival GlaxoSmithKline (LSE: GSK) (NYSE: GSK.US). Digital Look shows just 5 out of 35 brokers give it a ‘buy’ rating. And a yield rising year-on-year is a clear sign of a stock supported by its dividend.
Astra’s problem is its well-know patent cliff. Sales dropped by 20% in 2012 as drugs came off-patent, and analysts’ expectations are for continued declines over the next few years. CEO Pascal Soriot has committed Astra to remaining a pure pharma company, and sees its salvation in development of new drugs. But even he set a modest target of restoring sales in 2018 to their 2011 level.
Safer
I much prefer GSK’s safer, more diversified, strategy. As well as prescription drugs it makes over-the-counter medicines and vaccines. They don’t involve such massive and risky R&D investment.
Indications are that GSK has also overcome its patent cliff, with analysts forecasting an upturn in its drugs revenues. That suggests Astra’s pipeline issues shouldn’t be insurmountable.
Biotech
I have a small holding in Astra. Essentially I see it as a biotech play, but one that pays a fat dividend while it’s developing new drugs.
Astra has targeted three therapeutic areas. This month alone has seen announcements about two biotech company acquisitions and two drugs going to Stage III trials, one for cancer and one for asthma. Global demographics — more, older, wealthier people — underpin demand for whatever the boffins can invent.
Meanwhile Astra’s strong balance sheet, with net gearing of 11% against GSK’s 243%, means the dividend should be safe. Management have relaxed the policy to target two times cover ‘over the investment cycle’ to give them wriggle-room.
Buying opportunity?
Ace investor Neil Woodford is a big fan, with 9% of his Invesco Perpetual funds in each of Astra and GSK. However, either the change of management when he leaves, or investors withdrawing funds from Invesco Perpetual, could see a flow of investment away from Astra.
That’s something I’ll watch. If the shares do weaken in the near term I might add to my holding. The buy case for Astra needs patience.
