The fall in AstraZeneca's share price -- opportunity or threat?
So AstraZeneca (LSE: AZN) is in trouble. The chickens are finally coming home to roost as the "patent cliff" looms large for the UK's second-largest pharma.
The company is slashing and burning to try and shore things up, announcing 7,300 more job cuts, and it now expects 2012 revenue decline "in the low double-digit range".
AstraZeneca says sales were $2bn down on the previous year with its final results for 2011, and says it will earn less still this year.
Clearly, then, the shares are a straight sell and it's time to find value elsewhere?
Well, not for me it isn't. At the time of writing, the share price is down over 3.4% at 2,983p. This looks like more of an opportunity than a threat.
This is because a lot of the pessimism was already in the price. But on the upside, the company's price-to-earnings (P/E) ratio is now less than 7.7 based on its own revised guidance of earnings being in the $6.00 to $6.30 range (they were $7.28 in 2011). This makes it one of the FTSE's cheapest shares on the simplest of measures, the P/E.
Also, the balance sheet is reasonably strong. This is the only FTSE 100 share with net cash. And Astra's share buy-backs have actually boosted earnings and look to be a generally wise move. Believe me -- this is a welcome rarity.
The company is uniquely good at being open with us shareholders about its long-term future expectations. This is because of understandable investor concerns about falling revenues as exclusivity on various drugs comes to an end.
Specifically, AstraZeneca faces patent expiries between now and 2015 on drugs such as Seroquel and Nexium, and the loss of patent protection in the US in 2016 for its best-selling high cholesterol treatment drug, Crestor.
On Wednesday, the company reaffirmed that it expects annual revenue will be in the $28bn to $34bn range between now and 2014, but "in the lower half of the range". It also expects double-digit revenue growth in emerging markets.
The latest cost cuts announced will deliver a further $1.6bn in annual savings by the end of 2014. Its first phase of cuts from 2007-2010 delivered $2.4bn in annual savings.
Shrinking into value
The company has to do this as the expected revenues from recent drug launches aren't as optimistic as they once were. It would be great if the company was expanding like mad instead of the inverse, but it isn't. The market prefers growth to managed retreat and so the shares are lowly rated.
Also, it's difficult, if not impossible, for private investors to get a real feel for Astra's drugs pipeline and the profit possibilities thereof. In fact, nobody really knows what is possible.
There is excitement around potential blockbusters like type 2 diabetes treatment drug dapagliflozin (despite disappointing news regarding the US Food & Drug Administration's request for further clinical data), for example.
But the company remains strongly cash-generative thanks to the cuts. And it has promised to return value to shareholders through a progressive dividend policy and share buyback programme. In fact, Astra says it plans to buy back a further $4.5bn of its own shares this year after last year's $5.6bn net buy-backs and it was feeling confident enough to raise the full-year dividend by 10%.
Astra intends to increase the dividend while maintaining cover at two times (50% of underlying earnings). Just keeping it steady means the shares are yielding a very respectable 5.9%. Brokers' expectations push that figure up to 6.1% for the current year.
The combination of too high a yield, too low a P/E and the unfortunate but necessary cuts AstraZeneca is making -- coupled with the fall in price -- put the shares further into bargain territory for me. The problem, though, is the psychological one investors often face, of buying into a falling price and having to average down to make the investment make more sense.
Nevertheless, I will be doing just that on any further falls from here.
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> Both David and The Motley Fool own shares in AstraZeneca.