Pfizer: Disappointing Clinical Data for Obesity Drug Leads to Minor Fair Value Estima
Pfizer: Disappointing Clinical Data for Obesity Drug Leads to Minor Fair Value Estimate Cut
We are lowering our Pfizer fair value estimate to $47 per share from $48 based on the disappointing phase 2 obesity study with danuglipron. We believe the unfavorable side effect profile (up to 73% rate of nausea) shown in the study would make the drug less competitive. While Pfizer is still evaluating the drug by formulating the dosing for once daily instead of twice daily, it will not move the drug forward into phase 3 development at the twice-daily dose. Given the setback, we believe the probability of success for the drug is lower, and we have significantly lowered our assumed peak annual sales potential from over $3 billion to less than $1 billion.
Even following our fair value estimate reduction, we view the shares as undervalued. Pfizer maintains a broad portfolio of currently marketed products and a robust pipeline to support its wide moat. While the setback to danuglipron likely removes a key blockbuster opportunity, we expect Pfizer to move several new drugs into late-stage development over the next year. Further, if the once-daily reformulation of danuglipron is unsuccessful, we would expect Pfizer to continue development with another GLP-1 drug sourced internally or acquired from one of the several smaller firms developing drugs within this mechanism of action. We believe the opportunity for drugs targeting the GLP-1 mechanism of action is very large, and even though Eli Lilly and Novo Nordisk are likely to be the key players in the space in the near term, we believe the market can support several competitors.
Published on Dec 01, 2023
Pfizer's Diverse Portfolio of Drugs and Vaccines Sets Up Steady Cash Flows
Business Strategy and Outlook
Pfizer's foundation remains solid, based on strong cash flows generated from a basket of diverse drugs. The company's large size confers significant competitive advantages in developing new drugs. This unmatched heft, combined with a broad portfolio of patent-protected drugs, has helped Pfizer build a wide economic moat around its business.
Pfizer's size establishes one of the largest economies of scale in the pharmaceutical industry. In a business where drug development needs a lot of shots on goal to be successful, Pfizer has the financial resources and the established research power to support the development of more new drugs. Also, after many years of struggling to bring out important new drugs, Pfizer is now launching several potential blockbusters in cancer and immunology.
Pfizer's vast financial resources support a leading salesforce. Pfizer's commitment to postapproval studies provides its salespeople with an armamentarium of data for their marketing campaigns. Further, leading salesforces in emerging countries position the company to benefit from the dramatically increasing wealth in nations such as Brazil, India, and China.
Pfizer's 2020 move to divest its off-patent division Upjohn to create a new company (Viatris) in combination with Mylan should drive accelerating growth at the remaining innovative business. With limited patent losses and fewer older drugs, Pfizer is poised for steady growth (excluding the more volatile COVID-19 product sales) before a round of major patent losses hit in 2028.
We believe Pfizer's operations can withstand eventual generic competition; its diverse portfolio of drugs helps insulate the company from any one particular patent loss. Following the merger with Wyeth several years ago, Pfizer has a much stronger position in the vaccine industry with pneumococcal vaccine Prevnar. Vaccines tend to be more resistant to generic competition because of their manufacturing complexity and relatively lower prices.
Published on Dec 01, 2023
Patents, economies of scale, and a powerful distribution network support Pfizer’s wide moat.
Pfizer’s patent-protected drugs carry strong pricing power that enables the firm to generate returns on invested capital in excess of its cost of capital. The patents give the company time to develop the next generation of drugs before generic competition arises. Additionally, while Pfizer holds a diversified product portfolio, there is some product concentration, with Prevnar representing just over 10% of total sales(excluding COVID-19 vaccine sales). However, we do n't expect typical generic competition for the vaccine due to complex manufacturing and relatively low prices for the product. Eliquis and Ibrance each represent close to 10% of sales as well. However, we expect new products will mitigate the eventual generic competition of key drugs over the long term. Pfizer’s operating structure allows for cost-cutting following patent losses to reduce the margin pressure from lost high-margin drug sales. Overall, Pfizer’s established product line creates the enormous cash flows needed to fund the average$ 800 million in development costs per new drug. A powerful distribution network sets up the company as a strong partner for smaller drug firms that lack Pfizer’s resources.
We think the company does face environmental, social, and governance risks, particularly related to potential U.S. drug price-related policy reform to increase access by lowering drug prices. Ongoing product governance issues (including litigation related to side effects and patents) also weigh on the company. While we have factored these threats into our analysis, they are not material to our moat rating.
Rated on , Published on Dec 01, 2023
We are lowering our fair value estimate to$ 47 per share from$ 48 based on the disappointing phase 2 obesity study with danuglipron.
Fair Value and Profit Drivers
We believe the unfavorable side effect profile(up to 73% rate of nausea) shown in the study would make the drug less competitive. While Pfizer is still evaluating the drug by formulating the dosing for once-daily dosing instead of twice daily, it will not move the drug forward into phase 3 development at the twice-daily dose. Given the setback, we believe the probability of success for the drug is lower, and we have significantly lowered our assumed peak annual sales potential from over$ 3 billion to less than$ 1 billion.
For the core business of Pfizer (excluding COVID-19 product sales), we expect close to 6% annual sales growth between 2020 and 2025 as new drugs offset generic competition. We expect Pfizer's falling COVID-19 vaccine and treatment sales will create a drag on overall earnings growth in 2023 as demand slows due to the likely fading of the pandemic. On the bottom line, we project a slightly healthier annual growth rate (excluding COVID-19 product sales) during the next five years as cost-cutting plans and share buybacks take shape. We don't model unannounced acquisitions, but acquisitions hold the potential to accelerate the company's growth rate. Over the long term, we believe the more diversified lineup of drugs should reduce the volatility of earnings. We anticipate restructuring efforts will help alleviate some margin pressure, as some high-margin products lose exclusivity. We estimate Pfizer's cost of equity at 7.5% and weighted average cost of capital at 7%, in line with the peer group.
Published on Dec 01, 2023
Pfizer faces generic competition, potential drug pricing policy changes by governments, an increasingly stringent Food and Drug Administration, and stronger managed-care and pharmacy benefit manager negotiating power.
Risk and Uncertainty
New-drug development has become challenging in several disease areas with a more risk-conscious FDA. Additionally, managed-care companies and pharmacy benefit managers have grown during the past two decades into powerful entities that can negotiate lower drug prices. However, we give Pfizer a Medium Morningstar Uncertainty Rating partly based on the low volatility of cash flows from a diverse product portfolio with inelastic demand.
Our uncertainty rating for the firm is not materially affected by environmental, social, or governance risks, although we see access to basic services (tied to potential U.S. policy reform on drug pricing) as the biggest ESG risk that the firm needs to manage.
We model in policy changes around reforms to Medicare that are reflected in the Inflation Reduction Act as the firm has exposure to this patient group. For example, Pfizer’s Eliquis (cardiovascular), Ibrance (cancer), and Xtandi (cancer) generate almost one fourth of the firm’s total sales (excluding COVID-19 sales), and the drugs have significant exposure to the Medicare channel. Additionally, we assume a more than 50% probability of Pfizer seeing future costs related to product governance ESG risks, such as off-label marketing or litigation related to side effects. We model base-case annual legal costs at close to 1% of non-GAAP net income, at the low end of the peer range based on Pfizer’s product portfolio having less exposure to potential litigation.
Rated on , Published on Dec 01, 2023
We give Pfizer a Standard Capital Allocation Rating.
This reflects our belief that the firm possesses a sound balance sheet, a reasonable record of investments, and largely fair shareholder distributions.
We believe Pfizer holds a sound balance sheet with low levels of risk regarding the size of the debt carried, the business cyclicality facing the firm, and the debt maturity outlook. While an argument could be made to increase the leverage of the balance sheet to be more active in investing, we believe the company (along with the majority of firms in the large-cap biopharma industry) should hold ample balance sheet strength to support opportunistic acquisitions as dynamic scientific data emerges that might require relatively quick investment action. Also, a strong balance sheet helps biopharma firms through most product litigation challenges with minimal market concern.
Turning to investments, we believe Pfizer is operating at a reasonable level. The company tends to spend on R&D at about a mid- to high-teens percentage of sales (a little below the industry average of high teens). Solid investment in creating the next generation of drugs has yielded a strong pipeline to offset patent losses. The strong investment in innovative new drugs (largely targeting oncology and immunology) also helps fortify the firm’s wide moat and expand returns on invested capital.
On the acquisition and divestment side, Pfizer is increasingly making stronger decisions. The decisions to sell the nutritional and animal healthcare businesses appear to have created value for shareholders several years ago. Also, we like the strategic decision to form a joint venture with GlaxoSmithKline on the consumer healthcare front, giving both firms more scale in the marketplace, which was followed by the divestment of this joint venture. The prices for the acquisitions of Biohaven (2022), Global Blood Therapeutics (2022), Array (2019), Medivation (2016), Hospira (2015), and Seagen (expected to close in late 2023 or early 2024) all bordered on the high side but look largely reasonable. The failed attempts to acquire AstraZeneca and Allergan are partly concerning, but several factors outside Pfizer’s control helped scuttle those deals.
We view Pfizer’s dividends and share repurchases as about right. Pfizer has generally targeted close to a 50% payout in dividends as a percentage of normalized earnings, which seems about right for a more mature industry. Further, Pfizer has shown a strong willingness to buy back shares during generally favorable periods.
Albert Bourla became CEO at the beginning of 2019 after holding several positions at Pfizer. Before taking the leadership role, he was the chief operating officer and led the innovative health division. Bourla brings over 25 years of experience at Pfizer to the top position. This vast experience should help his decision-making. One of the first major decisions Bourla made was to divest the off-patent business, combining it with Mylan. The remaining innovative business should be in a stronger position to expand top-line sales. Also, the newly created off-patent business should have increased scale, which is important in the highly competitive generic business. Overall, we view this corporate restructuring as a modest positive that will allow both the innovative and off-patent firms more focus to drive better returns for each segment.