If you’ve followed my highlights in this space, you’ve seen me write on a number of occasions about how my value-focused investing approach tends to make me think in defensive terms under current market conditions. As the major indices are driving to new all-time highs, a lot of growth-oriented folks think that sounds pretty silly; but when I look at the fact that, even with the market’s turbulence and near-bear market level in 2018 taken into consideration, the market is well into year ten of the longest bull market in recorded history, I can’t help but believe that being conservative and cautious is the smart approach.
One of the sectors that I think a lot of average investors might not think about in a defensive vein is Healthcare. That’s because, for one thing, this is a sector that is highly sensitive to political pressures, and as Congress and presidential administrations debate healthcare reform, companies in this sector are regularly forced to reevaluate and even re-tool their businesses to account for changes they may be forced by federal fiat to make. This is also a highly regulated sector, which means that research and development is a lengthy and capital-intensive process. That is especially true for stocks in the Pharmaceutical industry, where regulatory approval new drugs generally takes years to realize. That’s perhaps the biggest reason that analysts estimate that 80% of the Pharmaceutical industry is controlled by less than a dozen large cap companies.
As measured by the S&P 500 Healthcare Sector SPDR (XLV), this is a sector that hasn’t performed as remarkably as the rest of the market; year to date is up a little less than 8%, but is only about 3% below its highest point over the last year. The sector has picked up quite a bit of momentum in the month of June, rallying a little under 10%. The defensive aspect of stocks in this industry – including pharmaceutical stocks – in my opinion comes from the largest names, who have been able to develop consistent, predictable revenue streams from the products they do offer while at the same time continuously working on the next wave of cutting-edge drugs and treatments.
Bristol-Myers Squibb Company (BMY) is one of those large cap companies that I just described; but year to date the stock has severely underperformed, dropping a little over -12% as of this writing. This is one of the biggest, and most recognizable pharma stocks in the market, with an impressive fundamental profile that also happens to translate right now to pretty promising value proposition. So why are investors discounting the stock?
At the beginning of 2019, BMY announced a merger with Celgene (CELG), a deal that is valued at around $79 billion, and was expected to close in the third quarter of 2019. On Monday, however, BMY announced that due to regulatory concerns about Celgene’s Otezla treatment for psoriasis, the drug would be divested to clear the path to complete the merger. The decision, however also delays the completion of the deal until at least the fourth quarter of 2019, and possibly the first quarter of 2020. That seems to be driving investors to the sidelines for now to wait for more positive indications about when the deal will be completed. Based strictly on the company’s current fundamental and value profile, I think the delay opens up the value opportunity even more, which means that if you’re willing to exercise some patience, the long-term potential for this stock is pretty impressive.
Fundamental and Value Profile
Bristol-Myers Squibb Company is engaged in the discovery, development, licensing, manufacturing, marketing, distribution and sale of biopharmaceutical products. The Company’s pharmaceutical products include chemically synthesized drugs, or small molecules, and products produced from biological processes called biologics. Small molecule drugs are administered orally in the form of a pill or tablet. Biologics are administered to patients through injections or by infusion. The Company’s products include Empliciti, Opdivo, Sprycel, Yervoy, Eliquis, Orencia, Baraclude, Hepatitis C Franchise, Reyataz Franchise and Sustiva Franchise. It offers products for a range of therapeutic classes, which include virology, including human immunodeficiency virus (HIV) infection; oncology; immunoscience, and cardiovascular. Its products are sold to wholesalers, retail pharmacies, hospitals, government entities and the medical profession across the world. BMY has a current market cap of $74.7 billion.
Earnings and Sales Growth: Over the last twelve months, earnings increased by 17%, while sales increased 14%. In the last quarter, earnings also improved by 17% while were flat, but slightly negative at -0.89%. BMY’s Net Income versus Revenue is impressive; over the last year this number was 22%, but improved in the last quarter to almost 29%.
Free Cash Flow: BMY’s Free Cash Flow is healthy, at a little more than $5.2 billion. That translates to a Free Cash Flow Yield of 6.49%.
Debt to Equity: BMY has a debt/equity ratio of .37, which is conservative and indicates the company has a disciplined approach to debt management. As of the last quarter, cash and liquid assets were an impressive $8.7 billion versus just $5.6 billion in long-term debt. It should be noted that the Celgene merger, when completed, will add about $32 billion in debt to the company’s balance sheet in the near-term; however management as well as most analysts expect the deal to be immediately accretive, which means the debt should still be more than serviceable.
Dividend: BMY pays an annual dividend of $1.64 per share, which at its current price translates to a dividend yield of about 3.32%, which is attractive.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for BMY is $9.36 per share. At the stock’s current price, that translates to a Price/Book Ratio of 4.88. The stock’s historical Price/Book ratio by comparison is 6.62 and puts the top end of the stock’s long-term price target at almost $62 per share. The stock is also significantly below its historical Price/Cash Flow ratio, which means that $62 appears to be an eminently reasonable long-term target price.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The red diagonal line defines the stock’s downward trend from March of last year to now; it also informs the Fibonacci retracement lines shown on the right side of the chart. From March, the stock has dropped back to test its multi-year low point in the $44 price area, with the stock’s trading range narrowing in the last month and a half to between $45 on the low side and resistance at around $48 per share. On the heels of the bad news on Monday about Otezla, as well as news that a new clinical study for one of BMY’s pending cancer drugs didn’t yield the optimistic results that the market hoped for, the stock took a big hit, dropping more than $4 per share on an overnight basis, and appears set to retest that trend low now. To signal the beginning of a clear, new short-term upward trend, the stock would have to break above $48, and hold above that price point for at least a couple of trading sessions. On the other hand, a drop below $44 could see the stock test lows in the $40 that haven’t been seen since August of 2013.
Near-term Keys: The stock’s fundamentals are strong, even without the Celgene factored in right now, and the value proposition is strong; however the currently bearish momentum could be reason to wait for now to see if the stock can stabilize a bit before setting up a new position. If you prefer to work with shorter-term trades, watch support around $44 and resistance at $48. A drop below $44 should be taken as a signal to short the stock or consider working with put options with a target price at around $40, while a rally above $48 could be an early sign of a new upward trend, offering a good opportunity to start buying the stock or working with call options with an eye in the near-term on the $54 level, where the 38.2% retracement line sits.