Gilead Stock: Could The FDA Warning Hurt Gilead Sciences Inc (GILD)?

  • The FDA has asked for a so-called black-box warning on the labels for Gilead Sciences' HCV drugs.
  • In my opinion, this shouldn't change the number of patients treated for HCV.
  • Considering its compelling valuation metrics, GILD stock is significantly undervalued.

After discovering twenty-four cases of reactivation of hepatitis B (HBV) in patients who are taking drugs for the treatment of hepatitis C virus (HCV), the Food and Drug Administration (FDA), on October 04, has asked for a so-called black-box warning on the labels for Gilead Sciences' (NSDQ:GILD) HCV drugs. The warning requirement is also for competing HCV drugs, Viekira by AbbVie (NYSE:ABBV) and Zepatier by Merck (NYSE:MRK). However, since Gilead's HCV drugs contribute a greater share of its revenues (about 52% of total revenues in the last quarter) as compared to its competitors, the warning could harm Gilead more than the other companies. In fact, Gilead stock has dropped 3.0% in the two days after the FDA's warning while AbbVie stock has decreased only 0.7%, and Merck shares were almost unchanged in this period.

Let us first try to find out the implication of the FDA's warning requirement. Since there is a risk of reactivation of HBV in patients who have suffered from or are still suffering from the disease, it will require screening for HBV before starting the treatment for HCV.  As I see it, this might delay the onset of the treatment for HCV, but should not, in the long run, change the number of patients treated for HCV. According to the World Health Organization, between 130–150 million people live with chronic hepatitis C infection. What's more, approximately 3.5 million of new diagnoses of the disease are discovered each year. Gilead's HCV drugs have achieved more than 90% complete cure of this life threatening infection. As such, the demand for Gilead's hepatitis C medicines should continue to be high. However, not as high as in the last two years due to the competition.

Gilead's HCV Product Sales vs. Total Revenues

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Gilead Is Developing Drugs for Hepatitis B

On April 15, 2016, Gilead Sciences announced detailed 48-week results from two large Phase 3 clinical trials using Tenofovir Alafenamide (TAF) for the treatment of chronic hepatitis B virus (HBV) infection. According to the company, the new Tenofovir Alafenamide drug is as potent against the hepatitis B virus as the current Tenofovir Disoproxil Fumarate (TDF). However, with less side effects.

As I see it, succeeding in developing drugs for the treatment of hepatitis B virus could open up a new large market for the company. This could be a significant growth driver for Gilead. According to the Centers for Disease Control and Prevention [CDC], globally about 240 million people have chronic hepatitis B virus infection. In the United States, the estimation is going from 850,000 to 2.2 million persons suffering from the disease. Moreover, according to CDC, worldwide, about 800,000 individuals die from the HBV-related liver disease every year.

What To Expect From Gilead's Earnings Report

Gilead Sciences is scheduled to report its third quarter 2016 financial results on Tuesday, November 01, after market close. According to 22 analysts' average estimate, Gilead is expected to post a profit of $2.88 a share, a 10.6% decline from its actual earnings for the same quarter a year ago. The highest estimate is for a profit of $3.11 a share while the lowest is for a profit of $2.63 a share. Revenue for the third quarter is expected to decrease 9.2% year over year to $7.53 billion, according to 19 analysts' average estimate. There was one earnings-per-share up revision and one down revision during the last 30 days. Since Gilead has delivered an earnings per share surprise in nine of its last eleven quarters, as shown in the table below, there is a good chance that the company will beat estimates also in the third quarter.

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Gilead Sciences Stock Performance

Since the beginning of the year, GILD's stock is down 27% while the S&P 500 Index has increased 4.5%, and the Nasdaq Composite Index has gained 4.8%. However, since the beginning of 2012, GILD's stock has gained an impressive 267%. In this period, the S&P 500 Index has increased 69.9%, and the Nasdaq Composite Index has risen 101.4%. According to TipRanks, the average target price of the top analysts is at $104.67, which indicates an upside of 41.8% from its October 11 close price, which appears reasonable, in my opinion.

Valuation

Considering its compelling valuation metrics, GILD stock, in my opinion, is significantly undervalued. Gilead's trailing P/E is very low at 6.50, the second lowest among all the 59 S&P 500 Healthcare companies, and its forward P/E is even lower at 6.39. The price to free cash flow ratio is very low at 6.79, and the Enterprise Value/EBITDA ratio is also very low at 5.17.

Conclusion

Although the FDA warning requirement for Gilead's HCV drugs might delay the start of the treatment for HCV on new patients, it should not, in my opinion, in the long run, change the number of patients treated for HCV. As I see it, succeeding in developing drugs for the treatment of hepatitis B virus could open up a new large market for the company. Considering its compelling valuation metrics, GILD stock is significantly undervalued. Moreover, the company generates strong free cash flow and returns substantial capital to its shareholders through stock buybacks and dividend payments currently yielding 2.55%. The average target price of the top analysts is at $104.67, which indicates an upside of 41.8% from its October 11 close price, which appears reasonable, in my opinion.

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  • I do not have any business relationship with the companies mentioned in this post.
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