Seth Klarman, the billionaire CEO and portfolio manager of the Baupost Group, is arguably one of the greatest value investors of all time. It should come as no surprise that it has provided value-driven investors with many nuggets of wisdom over the decades.
One of Klarman’s most concise and meaningful quotes on value investing came when he said, “The efficiency of the stock market is an elegant assumption that bears a rather limited resemblance to the world. real. “
In other words, value investing is based on the belief that the market is not always right in valuing stocks. As proof of this belief, let’s take a look at some reasons why I think pharmaceutical stocks Merck (NYSE: MRK) one that value investors cannot afford to pass up.
An exceptional third quarter
Pharmaceutical giant Merck had a terrific quarter for its shareholders, far exceeding analysts’ forecasts for the period, which ended on September 30. The company generated total revenue of $ 13.2 billion for the quarter, a whopping 20.4% increase from the previous year. – and comfortably higher than analysts’ consensus estimate of $ 12.3 billion.
As you might expect, Merck’s flagship Keytruda featured prominently. The world’s best-selling cancer drug increased sales 22% year-on-year to $ 4.5 billion. This represents just over a third of Merck’s total sales in the third quarter.
Another third of revenue came from Merck’s vaccine and animal health business, which grew 27.7% to $ 4.6 billion in the quarter. Notably, these two segments taken together were able to grow faster than Keytruda, accounting for 45.1% of Merck’s overall revenue growth in the third quarter versus 36.8% for the anticancer drug.
Jumping above the bottom line, Merck produced $ 1.75 in non-GAAP earnings per share (EPS) in the third quarter – a 28% spike from the period last year – and it also beat analysts’ forecast by $ 1.55.
How did Merck so easily manage to beat profit in the third quarter? In addition to the company’s significantly larger revenue base, Merck’s non-GAAP net margin increased by around 190 basis points year-over-year to 33.8% in the third quarter.
Merck’s strong performance in the third quarter and year-to-date prompted management to raise its guidance. The non-GAAP forecast for non-GAAP EPS for this year has been raised from a midpoint of $ 5.52, forecast by the company in July, to $ 5.68 in last month’s report.
A secure dividend with room for growth
At its current price of around $ 83, Merck pays shareholders a 3.1% dividend yield, better than the market. But could this be too good to be true, given that the S&P 500 now pays less than 1.3%?
Based on Merck’s annual dividend per share of $ 2.60 and non-GAAP EPS forecast of $ 5.68, the stock’s dividend payout ratio of around 45% appears to be very sustainable. This not only provides Merck with a cushion to maintain its payout in tough times, but also gives the company the full capacity to increase the dividend.
With analysts expecting 14.5% annual profit growth over the next five years, Merck should be able to hand out at least single-digit dividend increases for the foreseeable future.
Is the market too pessimistic?
Merck is priced at a futures price-to-earnings (P / E) ratio of just 11.4, which is essentially the pharmaceutical industry average of 11.3. However, the stock arguably deserves a higher price tag, given that its expected earnings growth over the next five years is greater than all but three of the other 19 industry-average stocks.
The impending expiration of Keytruda’s 2028 patent in major markets could be one of the main concerns investors have with the stock. However, the company is more than its cancer drug, as evidenced by the healthy growth of its world-class vaccine and animal health segments. This is precisely why I think the fears about the future of Merck after Keytruda are overblown and that there is an opportunity for counter-current biotech investors to buy before the market wakes up and stocks. do not soar.
This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.