I have not been a fan of Pfizer Inc. (PFE) stock for a very long time. The problem with most Big Pharma stocks at this point is that organic growth has essentially vanished, and most of them including Pfizer stock, had turned into moribund businesses.
Pfizer stock had one upside, which is that it generated plenty of free cash flow, which made for a reliable dividend.
The problem was that PFE was also vastly overvalued, and that meant downside risk that could make its dividend seem paltry in comparison.
Pfizer merged with Allergan (AGN), however, creating a $160 billion company. But does that make Pfizer’s stock worth considering? Let’s look at the combined entity.
The New Pfizer Stock
PFE has been struggling, although some of the recent results are due to the stronger dollar. FY15 net income was $7.75 billion, down 15% year-over-year. Pfizer stock also saw a $2.3 billion decline in revenues, or only about $800 million when factoring in the contribution from a September acquisition of another company.
PFE hasn’t provided an updated balance sheet or cash flow statement yet, but it shouldn’t be too different from its third quarter. Cash and investments were at about $37 billion, offset by $33.5 billion in debt. Annual free cash flow is around $15 billion on a fairly regular basis.
Allergan just reported earnings on Monday. Since then, it’s been firing on all cylinders. Net income was up 50% to $2.11 billion. It has about a billion in cash but $40.5 billion in debt, and generated about $4 billion in free cash flow.
There’s many advantages to the merger. Pfizer has an established pharma business, and Allergan has a lot of new products generating tons of revenue.
The thing about Pfizer stock is that its hallmark has always been R&D in Big Pharma. It hasn’t had many lately, but there is a pipeline there. It is, however, a big expense drag.
Yes, the free cash flow is more than ample enough to support it, and a lot of that also has to do with its generic drug operation and the revenue it still collects from its big hits like Celebrex. That’s why PFE stock has some intrigue to it — about 65% of the combined company’s revenue comes from PFE products.
The advantage to Allergan is that it has the more fast-growing set of products. So the combined entity may give growth investors a reason to look at it.
The other advantages are that PFE will move its HQ to Ireland, as part of a tax-savings “inversion” move, and that Pfizer’s cash flow will permit Allergan to refinance some very expensive debt and save a ton of money on interest payments.
Then there’s an oddball notion for the companies to combine first, cut costs by eliminating overlap, reduce redundancies and streamline operations … and then split back into two pieces. The first would focus on these new products like Prevnar and Botox, while the other would house the more legacy achievements like Lipitor.
Investors would receive shares of both, so they could own the slower growing legacy business as well as the growth option, with the former throwing off a nice dividend.
It’s difficult to grasp valuation at this stage, since I don’t have a clear picture of everything after the merger. Those that are interested in the combined entity may want to purchase some calls on Pfizer stock.
As of this writing, Lawrence Meyers did not hold a position in any of the aforementioned securities.
