A 4.5% Dividend Stock Trading at a Healthy Discount

U.S. stocks have completely recovered their losses during the coronavirus pandemic of early 2020. The S&P 500 Index has increased 7% year to date, defying the downturn facing the broader U.S. economy. But not all stocks are taking part in the market recovery. For example, shares of healthcare giant Gilead Sciences have completely missed out on the market's resurgence over the past several months. After an initial rally to over $80 per share on the potential for Gilead's coronavirus treatment remdesivir, the shares have fallen back to their 52-week low of $60. While a recent study by the World Health Organization found that remdesivir had little impact on coronavirus mortality, Gilead announced after the market close on Oct. 22 that the drug had received FDA approval for treatment of Covid-19. Despite the disappointment, investors should look at Gilead's sinking share price as a buying opportunity. The stock is simply too cheap, given its strong results to begin 2020, and a highly profitable business model that generates huge amounts of cash flow. Furthermore, Gilead stock has a 4.5% dividend yield, making the stock attractive for value and income investors. Business Overview Gilead Sciences is a biotechnology company that operates with a clear focus on antiviral medication and treatments. Its main products include treatments for HIV, Hepatitis B and Hepatitis C (HBV/HCV), but Gilead has also ventured into other areas such as oncology. Gilead is a large-cap stock with a market cap of $75 billion. Gilead stock has performed poorly to begin 2020, underperforming the broader S&P 500 Index by approximately 15 percentage points year to date. At the same time, the company has performed relatively well, given the extremely weak global economy due to the coronavirus pandemic. Through the first half of 2020, Gilead's revenue fell just 2.5%, a fairly modest decline all things considered. Gilead's sales fell 10% in the second quarter, but treatment starts for patients were down across the healthcare sector, as the spread of the coronavirus led to less activity in the indications in which Gilead operates. Still, the company remains highly profitable and a cash-generating machine. Gilead generated $3.68 billion of free cash flow over the first two quarters of 2020, an increase of 5% from $3.5 billion in the first half of 2020. 2020 is likely to be a year of stability for Gilead. The company forecasts revenues of $24 billion, and earnings per share in a range of $6.25 to $7.65, which would be a solid improvement versus 2019. With a highly profitable business (even in a recession), along with a high level of free cash flow, Gilead has the ability to invest in growth, and reward shareholders with significant cash returns. Acquisitions and Growth in the Pipeline Gilead has had trouble generating growth in the past few years. After sales peaked in 2015 above $32 billion, Gilead has seen its revenue steadily decline, falling to $22.5 billion last year. The reason is because Gilead's blockbuster HCV drugs cured patients, thus gradually shrinking the patient pool over time. In this way, Gilead was a victim of its own success, in that its HCV drugs were so effective that it saw its revenue decline for several years. To that end, Gilead's HCV product sales declined by 20% in 2019, to $2.9 billion. This is why profits peaked in 2015 and have been declining since, including 2019. However, Gilead has worked to offset these losses with growth in new areas such as HIV. This has worked to some extent. Last year, Gilead's HIV product sales increased by 12% to $16.4 billion, compared to $14.6 billion in 2018, primarily due to higher sales volume as a result of the continued uptake of Biktarvy. Other products are also seeing strong growth. Yescarta sales increased by 73% to $456 million in 2019, compared to $264 million in 2018. Yescarta has continued to grow at a high rate in 2020, with 30% growth in the most recent quarter. Meanwhile, Bictarvy sales increased 44% in the 2020 second quarter. Gilead can also use its high cash flow generation to pursue growth externally through investments and acquisitions. In 2019, Gilead invested $5.1 billion in Galapagos, a Belgian-Dutch biotech firm. The investment upped Gilead's stake in Galapagos to 22%. The two companies will also partner to develop treatments together. As a result of the deal, Gilead owns the commercialization rights for Filgotinib, which was developed by Galapagos. Filgotinib has a good chance of becoming successful in the rheumatoid arthritis, Crohn's disease, and ulcerative colitis markets. Low Valuation, High Dividend Yield Lead to Strong Expected Returns Between its organic investments in R&D, and its acquisitions and investments in outside partnerships, Gilead has the potential to return to growth in the years ahead. In the meantime, the stock rewards investors with significant cash returns. First, thanks to Gilead's huge cash flow generation, it can return cash to shareholders by repurchasing its own stock. In the first quarter of 2020, Gilead authorized a new $5.0 billion stock repurchase program. This represents nearly 7% of its current market cap, representing a sizable buyback. In addition to share repurchases, Gilead pays a significant dividend which currently yields 4.5%. Gilead's dividend yield has reached an all-time high, due to the declining share price combined with dividend increases. Indeed, Gilead has increased its dividend at a high rate since it first instituted the payout in 2015. Since its first quarterly dividend of $0.43 per share, Gilead has grown the dividend consistently to its current level of $0.68 per share. Gilead last increased the dividend by 8% in February 2020. With a dividend payout ratio of 39% (in terms of free cash flow) in 2019, Gilead's dividend payout is highly secure. And, there remains a high level of growth potential for the dividend, as Gilead enjoys a tremendous level of free cash flow. Not only that, but Gilead stock is cheap, trading for a P/E ratio below 9 based on full-year EPS estimates for 2020. An expanding valuation could create positive returns for shareholders, through a rising share price. We believe Gilead deserves a P/E ratio of at least 11, due to the company's replenished pipeline and strong cash flow. The combination of an expanding P/E multiple, future EPS growth, and dividends results in expected returns above 14% per year. Final Thoughts Gilead stock has gone virtually nowhere for the past seven years. Its poor share price performance has come alongside a decline in HCV sales. But Gilead's transformation is nearly complete, as the company has repositioned itself toward growth. With a rebuilt pipeline and its sizable investment in Galapagos, Gilead is likely to return to growth in the years ahead. Gilead stock is cheap, with a high dividend yield of 4.5%. As a result, the shares are a buy for value and income investors.

A 4.5% Dividend Stock Trading at a Healthy Discount

The stock is simply too cheap, given its strong results to begin 2020, and a highly profitable business model that generates huge amounts of cash flow.

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