So the question is how a company this well known and respected could end up on the magic formula list. After all, the magic formula list is normally populated by upstart biotech companies with huge cash balances and ridiculous potential growth, but little in the way of consistent earnings, or fallen tech giants like Microsoft or HPQ with huge cash flows but serious questions about their future business models.
The simple answer is that the market is worried about two things.
First, the market is worried about a potential “patent” cliff, meaning that several of Pfizer’s big blockbuster drugs are about to go off patent, and the market is concerned with how Pfizer will replace them.
Second, the market is concerned about how ongoing healthcare reform will affect Pfizer.
However, the market may be missing a few things at these prices.
First, Pfizer’s stock is so low that the answer to the “what replaces blockbusters” question may simply be: who cares? While it’s risen a bit since 2009, it’s still trading relatively close to the levels that it traded at when Bruce Berkowitz had a huge investment in it, arguing that it traded close to its liquidation value.
And remember, Pfizer has a huge competitive advantage — their huge worldwide sales force allows them to create value simply by distributing a drug like no other company can. So even if tomorrow’s blockbuster isn’t in their pipeline currently, it’s entirely feasible that Pfizer could buy tomorrow’s blockbuster for a nice premium and still create a ton of value simply by pushing it through its sales force. In many ways, this “buy a small company for their portfolio and pump it through the sales force” advantage is similar to IBM’s practice.
The answer to the second question is tougher to come by. But Pfizer has a long history (one century plus!) of surviving and thriving through changing regulation. It’s hard to believe that “Obama care” would put an end to that streak.
But what’s really exciting about Pfizer is the catalyst. The basics of the magic formula strategy is centered around buying unloved companies with competitive advantages selling at a discount, holding them for a year, selling them, and repeating the process. With just a one year time horizon, having a firm catalyst for value realization is really important. As a matter of fact, it’s one of the most important things we look for at GuruFocus’s micro-cap magic formula newsletter.
First, Pfizer is returning oodles of cash to shareholders. In the past year, they paid out over $15 billion in dividends and share buybacks (almost 10% of today’s market cap!) in addition to paying down $5.5 billion in debt. That’s exactly what you want from a company trading at a discount.
Second, Pfizer is selling off non-core businesses where they don’t have competitive advantages. The company sold several smaller divisions last year, is still considering some spin-offs or further sales of some medium sized divisions, and is about to sell its infant nutrition division at a hefty premium. And where will all of the cash from the sale go? You guessed it — towards more share buybacks and (likely) an increased dividend.
And remember, you’re not in bad company investing in Pfizer at today’s prices. While gurus like David Einhorn and Bruce Berkowitz are no longer in the stock, the stock isn’t trading very far from the price they invested at. Einhorn clearly thought the stock was worth much, much more than the low $20s (its current price), and several gurus still hold sizable positions in the stock.