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Top-Heavy Pharmaceuticals
Investors have been cautioned for decades not to put all their eggs into one basket, and numerous studies have shown savvy diversification can increase portfolio returns while simultaneously reducing risk. Companies put this same idea into practice - some structure themselves as concentrated pure plays, while others attempt to mitigate risk by developing multiple lines of revenue.
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Looking specifically at the large-cap pharmaceutical space, there is an interesting mix between top-heavy companies that derive a significant amount of revenue from a handful of products and those with a broader sales base.
Why should investors care? Well, pharmaceutical companies not only have to contend with long-range risk factors like patent expiration (and generic competition) and branded drug competition, they also have to consider the possibility that post-approval studies will indicate problems with a drug's safety or efficacy. If investors think back to the issues with approved drugs like Vioxx, Raptiva and Zelnorm, or the recent controversy with Januvia, it is apparent that approvals are not permanent or irrevocable. It stands to reason, then, that investors should approach more concentrated companies with a bit more caution and expect something of a valuation discount.
The Most Concentrated
Some investors may quibble with the inclusion of Amgen (Nasdaq:AMGN) amongst pharmaceutical companies (as opposed to biotech), but the company's market capitalization would seem to legitimize the move. Amgen is highly concentrated on a sales basis - Neulasta and Enbrel comprise 54% of total sales, with Epogen chipping in another 17%. Epogen is already under pressure in Europe from a generic version from Novartis (NYSE:NVS), and generic competition for Neupogen could pressure Neulasta pricing.
Bristol-Myers Squibb (NYSE:BMY) is a relatively close second place, with 47% of the company's sales coming from Plavix (34%) and Abilify (13%). Unfortunately, Plavix sales are likely to suffer from a generic introduction in late 2011.
Lilly (NYSE:LLY) is not nearly as top-heavy as Bristol-Myers or Amgen, but generating 37% from two drugs is still rather concentrated. Lilly's number one drug, Zyprexa, generates 22% of revenue, while Cymbalta chips in another 15%. A generic version of Zyprexa could come out in late 2011, and Cymbalta's patent ends in 2013.
The Least Concentrated
Merck (NYSE:MRK) takes the top prize for being the most diversified major pharmaceutical company. Merck's top two drugs total only 17% of the company's sales base, with Singulair making up 11% and Remicade contributing 6% of total sales.
Pfizer (NYSE:PFE) is the largest drug company and the second-most diversified, as its top two drugs amount to 21% of sales. Lipitor comprises 16% of Pfizer's revenue, with Enbrel a distant second place with 5%. While this is solid diversification, investors should remember that Lipitor will be vulnerable to generic competition relatively soon.
Here is a quick summary of how the other pharmaceutical majors stack up:
The Bottom Line
A high concentration of sales from one or two drugs is not necessarily a reason to sell any of these stocks, but investors should be aware of the risks. Bristol-Myers and Lilly are both relatively common picks for income-oriented portfolios, and investors looking to garner years of strong dividends from a drug stock should be aware of possible threats to that income stream. Likewise, any investor should be concerned if a company's management sees the combination of high sales concentration and impending patent expiration as an excuse to pursue expensive acquisitions. (To learn more about drug stocks, see Stocks On Drugs: What It Takes To Get High.)
Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!
IN PICTURES: 5 Tips To Reading The Balance Sheet
Looking specifically at the large-cap pharmaceutical space, there is an interesting mix between top-heavy companies that derive a significant amount of revenue from a handful of products and those with a broader sales base.
Why should investors care? Well, pharmaceutical companies not only have to contend with long-range risk factors like patent expiration (and generic competition) and branded drug competition, they also have to consider the possibility that post-approval studies will indicate problems with a drug's safety or efficacy. If investors think back to the issues with approved drugs like Vioxx, Raptiva and Zelnorm, or the recent controversy with Januvia, it is apparent that approvals are not permanent or irrevocable. It stands to reason, then, that investors should approach more concentrated companies with a bit more caution and expect something of a valuation discount.
The Most Concentrated
Some investors may quibble with the inclusion of Amgen (Nasdaq:AMGN) amongst pharmaceutical companies (as opposed to biotech), but the company's market capitalization would seem to legitimize the move. Amgen is highly concentrated on a sales basis - Neulasta and Enbrel comprise 54% of total sales, with Epogen chipping in another 17%. Epogen is already under pressure in Europe from a generic version from Novartis (NYSE:NVS), and generic competition for Neupogen could pressure Neulasta pricing.
Bristol-Myers Squibb (NYSE:BMY) is a relatively close second place, with 47% of the company's sales coming from Plavix (34%) and Abilify (13%). Unfortunately, Plavix sales are likely to suffer from a generic introduction in late 2011.
The Least Concentrated
Merck (NYSE:MRK) takes the top prize for being the most diversified major pharmaceutical company. Merck's top two drugs total only 17% of the company's sales base, with Singulair making up 11% and Remicade contributing 6% of total sales.
Pfizer (NYSE:PFE) is the largest drug company and the second-most diversified, as its top two drugs amount to 21% of sales. Lipitor comprises 16% of Pfizer's revenue, with Enbrel a distant second place with 5%. While this is solid diversification, investors should remember that Lipitor will be vulnerable to generic competition relatively soon.
Here is a quick summary of how the other pharmaceutical majors stack up:
|
Company |
Percentage |
Top Two Products |
|
|
AstraZeneca (NYSE:AZN) |
34% |
Crestor (17%) |
Seroquel (17%) |
|
Sanofi-Aventis (NYSE:SNY) |
22% |
Lantus (11%) |
Lovenox (11%) |
|
Novartis |
22% |
Diovan (13%) |
Gleevec (9%) |
|
GlaxoSmithKline (NYSE:GSK) |
22% |
Advair (18%) |
flu vaccine (4%) |
The Bottom Line
A high concentration of sales from one or two drugs is not necessarily a reason to sell any of these stocks, but investors should be aware of the risks. Bristol-Myers and Lilly are both relatively common picks for income-oriented portfolios, and investors looking to garner years of strong dividends from a drug stock should be aware of possible threats to that income stream. Likewise, any investor should be concerned if a company's management sees the combination of high sales concentration and impending patent expiration as an excuse to pursue expensive acquisitions. (To learn more about drug stocks, see Stocks On Drugs: What It Takes To Get High.)
Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!
by
Stephen D. Simpson, CFA
Stephen D. Simpson, CFA, is a freelance financial writer, investor, and consultant. He has worked as an equity analyst for both sell-side and buy-side investment companies in both equities and fixed income. Stephen's consulting work has focused primarily upon the healthcare sector, while he has also written extensively for publication on topics pertaining to investments, security analysis, and healthcare. Simpson operates the Kratisto Investing blog, and can be reached there.
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