This commentary previously appeared on Real Money Pro on July 30, 2015, at 8:30 a.m. Click here to learn about this dynamic market information service for active traders.
In a world that's chasing earnings beats and growth at any price, Gilead Sciences (GILD) offers the former but sells at a great price.
The company "shot the lights out" in its second-quarter release earlier this week. Gilead had both a big earnings and revenue beat. Earnings per share came in at $3.15 vs. $2.70 for the estimates. Revenues were just as impressive at $8.2 billion vs. $7.6 billion for the estimates.
During the conference call, Gilead announced that both the core hepatitis C and HIV therapies reported better-than-expected numbers. The company guided the revenue up another $1 billion for the year while outlining even more moderate spending levels for R&D and SG&A. Analysts have universally moved their 2015 and 2016 estimates higher by 50 to 70 cents and we think the consensus moves up to $11.90 for 2015 and over $12.10 for 2016. These increases are among the strongest we have seen in any company or industry this earnings season. On top of this, the company has been aggressively buying back stock (over 55 million shares through common stock and warrant purchases this past quarter) and began paying an annual $1.72-per-share dividend earlier this year.
Even with these strong and accelerating fundamentals, the shares still sell for 10x 2015 earnings vs. 15x to 18x for the traditional drug stocks such as Merck (MRK) and Pfizer (PFE), and over 20x earnings for the higher-flying biotech names such as Biogen (BIIB) and Celgene (CELG). (Pfizer is part of TheStreet's Dividend Stock Advisor portfolio. Merck is part of the Trifecta Stocks portfolio.)
The key worry for Gilead is the sustainability of the hepatitis C franchise under the Harvoni and Sovaldi brands. Many worry that the franchise will peak out over the next two to three years and then begin to decline. Furthermore, there are also concerns that the upcoming launch of Merck's hepatitis C drug in 2016 will also take away from company fundamentals.
In addition to the hepatitis C concerns, Gilead will also be potentially facing some challenges in its HIV franchise, with Viread going off patent over the next two to three years.
These are legitimate concerns, but they are more than priced in at 10x earnings with great earnings momentum expected for at least another two to three years. In the meantime, Gilead is not standing still. The company is launching several new updated products for both the hep C and HIV franchises that should mute the competition. Furthermore, management is also aggressively expanding the franchises to more international markets to further grow the market share.
In addition, for those who were fearful that everybody with hep C will ultimately be cured, GILD noted that there are over 30,000 newly diagnosed cases a month in the U.S. And when the discussion focused on another AbbVie (ABBV)-like competitor trying to gain share by severely discounted pricing, it said the AbbVie experience that hurt ABBV's stock price and didn't lock in meaningful market share gains should dissuade others from pursuing a similar strategy.
And lastly, we look for active business development programs via M&A in the upcoming period to further diversify Gilead and grow earnings. GILD is expected to generate $15 billion to $18 billion per year in free cash flow over the next four years. Management anticipates putting a meaningful portion of these resources to work buying pipeline and new products. The company has a long history of bold and successful acquisitions. In all likelihood, this could be another catalyst in addition to improving earnings to get the stock price higher.
We don't think it would take much effort to get Gilead's share price to 12x or 13x earnings in the upcoming year, or a $144 to $156 stock price vs. the current $117.
GILD offers the right prescription now, and we suggest buying post-quarter even at these slightly higher prices.