Use pharma to ease the pain

Kathleen Brooks
THE last few weeks have been torrid for UK drugs giant GlaxoSmithKline. It has been accused of taking insuffucient action over allegations that its diabetes drug Avendia causes heart attacks. This comes hot on the heels of a $1bn settlement over claims its antidepressent Paxil, causes birth defects.

Its share price has fallen more than 3 per cent in the past week, but now could be a good buying opportunity. The company reported solid results for 2009 last month. Sales growth expanded for the first time in three years due to a surge in demand for flu vaccinations and Relenza, its antiviral drug used in the treatment of HIV. Charles Stanley, a stockbroker, published a note on 15 February and its view is that GlaxoSmithKline was “underrated and good value at prevailing levels.” The note praised the company’s ongoing work to broaden its product base. By reducing its reliance on blockbuster drugs, the note points out that GlaxoSmithKline faces a “relatively small off-patent cliff in the coming years.”

Patent expiration has been the elephant in the room for drugs firms. It cost GalxoSmithKline more than $1.4bn last year. But big pharma companies have taken steps to mitigate its effects, which are paying off and the pharma sector should perform strongly.

For starters, patent expiry does not need to be all bad news for the pharma sector. S&P equity research has a buy recommendation for Novartis, the Swiss pharmaceuticals giant, due to its strength in generic drug manufacturing. Sho Matsubara, an equity analyst for Standard & Poor’s, says that even the production of lower margin generic drugs can be profitable for big pharma companies due to their economies of scale.

Pharma is traditionally a defensive sector, which should cause it to outperform, says Matsubara, when the financial markets experience periods of volatility as they are now. And it also has relatively high dividend yields, for example Roche’s dividend yield for 2009 was 3.25 per cent and this year GlaxoSmithKline’s is expected to be nearly 6 per cent. This is attractive for traders of contracts for difference (CFD) since holders get a dividend just as if they held the actual share.
It is also worth noting that pharma revenues are not dependent on an economic upswing – people will always get ill and need medicine. Another factor that could boost the sector is that healthcare reform in the US has lost steam in the Senate, which reduces the regulatory risk for now.

So, while other sectors are looking ill or even moribund, healthcare looks relatively healthy.