Shares of Amgen Inc. (AMGN, Financial) sold off last week as the company received some bad news regarding a trial for one of the drugs it is working on with other companies.
It was announced Thursday morning that a Phase 3 clinical trial involving a drug that Amgen, Cytokinetics (CYTK, Financial) and France's Servier met its primary objective of reducing the risk of hospitalization for heart failure. The issue was that the reduction was only 8% and people treated with the drug weren't any less likely to die than those receiving the placebo. Even if approved, it is likely that the drug may not be used all that much given its trial outcome. Amgen and Cytokinetics had been working for a decade on this drug, so this is a big setback.
Amgen's stock fell $21 per share, or more than 8%, from Wednesday's close through the end of the week on the heels of this news. The stock is now ~11% off of its 52-week high. Stocks shedding this size of a percentage of its share price usually means that some negative news has broken regarding the company, and that is what happened in this case.
On the bright side, Amgen isn't reliant on just one drug for its business as the company generated more than $24 billion in sales over the last four quarters and has multiple drugs showing high rates of growth.
I am not worried about the Phase 3 trial producing disappointing results. In fact, I am inclined to lean into the sharp decrease in share price as Amgen now appears to be fairly valued following the sell off.
Company background and historical performance
Amgen is among the largest independent biotech companies in the world. The company discovers, develops, manufactures and markets medicines for a wide variety of serious ailments in the areas of cardiovascular disease, oncology, neuroscience, inflation, bone health and nephrology. Amgen was founded 30 years ago and has a market capitalization of almost $139 billion today. The company was recently added to the Dow Jones Industrial Average.
Amgen's revenues have climbed fairly steadily over the years, with very few occurrences of year-over-year sales declines. Only twice in the last decade has the company delivered fewer revenues than the prior year. Revenues declined 0.6% in 2017 and 1.6% in 2019. Revenues have moved higher at an annual clip of 4.5% over the last decade.
On a GAAP basis, earnings per share has seen a few years with steep declines, but adjusted EPS hasn't seen a decline since 2007. This shows that the company has been quite successful at growing the bottom-line over a long period of time. Net profit has climbed 6.2% over this same period of time.
Share buybacks have also contributed mightily to EPS growth. Amgen has retired more than 340 million shares over the last decade, which has reduced the share count by 4.4% annually over this period of time.
Companies using share buybacks to boast EPS have to be taken with a grain of salt. Buybacks are not guaranteed and the company could need that capital for other purposes. Buybacks can also hide the fact that the company's business is in decline. That said, Amgen's profit growth still comes in at a solid rate and revenues have improved almost every year since 2010.
The GurFocus systems thinks very highly of Amgen's ability to generate a profit. The company receives a 9 out of 10 profitability rating, led by an operating margin that is better than almost 98% of competitors in the drug manufacturers industry. The return on equity tops more than 99% of the competition. Net margin and return on assets also receive very high marks.
The areas where Amgen has middling scores are in the revenue and EPS growth rates over the past three years. Still, these results are better than more than half of the company's peers.
Overall, Amgen has shown an ability to turn a profit better than nearly every other company that it can be compared to - just the type of company I want to own in my portfolio.
Dividend analysis
Amgen has a relatively short dividend history as shareholders have only received a dividend since 2011. Amgen' dividend has increased with a compound annual growth rate of:
- 8% over the past three years.
- 13% over the last five years.
The company most recently raised its dividend by 10.3% for the payment distributed March 6 of this year. Amgen has increased its dividend for 10 consecutive years. This latest raise falls in between the above listed growth rates, showing that investors can still expect the increases to be quite high.
If Amgen holds to its usual schedule, investors can expect one more payment at the current level followed by an increase in December.
Given the company's dividend growth and share repurchases, it is not surprising that Amgen scores pretty well on capital returns. This metric is led by the three-year average share buyback ratio, which is considerably higher than both peers and the company's own history. The current yield is solidly above the industry average and Amgen's historical average.
Amgen has an average dividend yield of 2.2% since 2011. The current yield of 2.7% is comfortably above this level.
Amgen's dividend has grown from 56 cents in 2011 to an annualized dividend of $6.40 today. Expected dividends for 2020 are more than 11 times dividends received in 2011. You can't achieve this type of dividend growth without EPS and free cash flow acceleration.
As you can see Amgen's annual dividends have been well below free cash flow every single year that the company has paid a dividend. Except for a slight decrease a few years ago, the same has held true for both GAAP EPS and adjusted EPS.
This results in very low payout ratios, which in turn allows for higher dividend increases.
Amgen has distributed $6.25 of dividends per share over the last four quarters while producing adjusted EPS of $15.72 over that same period of time, resulting in a EPS payout ratio of 40%. This isn't too far from the five-year average payout ratio of 35%.
The company has distributed $3.6 billion of dividends to shareholders over the last year while generating free cash flow of $10.2 billion, which equates to a free cash flow payout ratio is 35%. This is nearly identical to the free cash flow payout ratio of 34% that Amgen averaged from 2016 through 2019.
Amgen's EPS and free cash flow ratios are extremely low. It would take a severe impairment to either for the dividend to be at risk. Shareholders can likely expect high rates of dividend growth in the coming years due to the payout ratios.
Recession Performance
Amgen performed quite well during the last recession. The company's EPS results for the years before, during and after the Great Recession are listed below:
- 2006 EPS: $3.51
- 2007 EPS: $3.31 (5.7% decrease)
- 2008 EPS: $3.90 (18% increase)
- 2009 EPS: $4.83 (24% increase)
- 2010 EPS: $5.12 (6% increase)
- 2011 EPS: $5.25 (2.5% increase)
Amgen's EPS increased nearly 46% from 2007 to through 2009, showing that the Great Recession had no impact on the company's bottom-line. As a health care company, Amgen is in one of the more recession proof industries as consumers will seek out medical care regardless of the economic environment. As stated previously, Amgen is a notorious buyer of its own stock, but net profit has increased in every year, but two over the last decade (2011 and 2019). Due to this track record and the company's business, it is likely that Amgen will be able to successfully navigate the next recession.
Amgen did not pay a dividend during the last recession, but the company's low EPS and free cash flow payout ratios would likely mean that the payments would continue to be made even if economic conditions worsened.
Debt
Amgen receives a middling score from GuruFocus on its financial strength.
The company is awarded a 4 out of 10. This is driven by a low cash-to-debt rating compared to Amgen's peers and historical average.
Amgen has typically carried a lot of cash and cash equivalents on its balance sheet. For example, the company had more than $29 billion in cash and cash equivalents on its balance sheet at the end of 2018. Its cash-to-debt ratio was almost 1 at that time. The company used a significant portion of its cash balance to repurchase stock over the next year or so.
At the end of the most recent quarter, cash and cash equivalents stood at $11.4 billion while total debt was $34 billion. Very little debt ($91 million) is due within the next year.
Amgen's interest expense was $1.3 billion over the last four quarters for a weighted average interest rate of 3.8%. This is a very manageable interest rate and debt level when considering the company's ability to generate free cash flow. Debt will likely not have an impact on dividend payments or dividend growth in the near future.
Valuation
Amgen closed Friday's trading session at $236.70. Analysts expect EPS of $15.77 for 2020 according to analysts surveyed by Yahoo Finance, giving the stock a forward price-earnings ratio of 15. The 10-year average price-earnings ratio is 13.1.
The GF Value Line currently rates the stock as "fairly valued:"
If you're not familiar with the GF Value Line, it represents an estimation of the intrinsic value of a stock based on a variety of factors, including price-earnings ratio, price-to-free-cash-flow, the company's past returns and future estimates of business performance.
As of Friday, the GF Value for Amgen is $239.09, slightly higher than the most recent closing price. This results in a price-to-GF-value ratio of 0.99, earning shares a rating of "fairly valued."
Final thoughts
Amgen has experienced a sharp selloff in the stock price over the past two trading days. This seems almost entirely due to the outcome of a Phase 3 trial that Amgen was conducting with other companies that didn't bring about the desired results.
Regardless, Amgen remains a strong company with a robust portfolio of drugs that together bring in more than $24 billion annually. This has put the company in a strong position to see its top and bottom-lines grow just as they have over the last decade. Free cash flow has been robust, leading to a sharp reduction in the share count and double-digit dividend growth nearly every year since 2011.
I have been waiting for a pullback in Amgen and that has finally happened. After reviewing the company's finances, I feel that the dividend is incredibly safe. As a dividend growth investor, that is what is most important to me. Now that shares appear to be fairly valued, I believe that Amgen is once again trading at a decent price. By the time you read this, I will most likely have added to my position in Amgen.
Author disclosure: the author has a long position in Amgen Inc.
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