- Although HCV sales are still falling meaningfully, I'm still backing the company's innovation to come up with solutions in this area.
- The issue of HIV patents on selective treatments expiring shortly have been overblown. Genvoya and others are now leading the way.
- Gross margins have remained intact despite the drop in sales over the past 12 months. HCV despite its woes remains a cash cow.
Gilead Sciences Inc. (NASDAQ:GILD) stock is up over 4% last week since its Q3 earnings on November 1st. The company was definitely helped by Donald Trump winning the presidential election as the biotech sector as a whole took off once Hillary Clinton was defeated. This stands to reason as Clinton had kept this sector subdued over the past few quarters due to her insistence on bringing in legislation (if elected) that drug prices come down. However and even more importantly, Gilead's share price didn't break down very much this time round even in the face of falling HCV sales. It closed at $74.62 on Friday, November 18th, only 1.27% down. I backed GILD stock when it was trading just above $71 a share a few weeks back and here's why I still feel it has plenty more upside.
The market was reading too much into the company's HCV division and wasn't concentrating enough on the improvements it was making in HIV division plus its strong pipeline of drugs. Personally, I feel HCV stabilization is on the way. Hepatitis C drug sales in the third quarter dropped to $3.33 billion which was $300 million short of analysts expectations for the quarter. However, the company's new entrant into this space (Epclusa) did very well and easily beat expectations generating $640 million in sales. The core issue of this complex is that HCV division is still a huge cash cow for this company. Furthermore, when doing due diligence on this company, I saw that this complex just needs sales to bottom over the next few years in HCV as long as gross margins are kept intact. Epclusa can replace to some extent the blockbusters such as Sovaldi and Harvoni and will need to, because of current fierce competition from Merck's Zepatier and also Abbvie's all oral offering.
R&D Is At Much Higher Levels Than Last Year Which Demonstrates Strong Commitment In Its Future
Nevertheless, I like Gilead stock because of its strong balance sheet, valuation and numerous competitive advantages. Its balance sheet for example boasted cash of $31 billion in the third quarter which is a strong cash-pile that can help with future acquisitions or can offset rising research & development costs at present. R&D is expected to spike to around $3.7 billion this year which will be a $700 million increase over last year but I see this elevated spend as a positive. Why? Because more capital being spent in this area increases the possibility of Gilead finding a blockbuster from one of its phase III trials. The bio-technology industry is basically a numbers game and over time, it is usually the strongest who survive. The development of drugs is a hugely costly business, which is why you see so many partnerships in this sector due to the sheer costs involved. Gilead's price to cash flow ratio of 5.9 looks really attractive from this standpoint against its 5 year average of 24. (Also Read: GILD Stock: New Revolutionary Drugs To Drive Gilead Sciences)
Market Too Bearish Concerning Future Earnings Growth
In terms of valuation, the company's earnings and sales multiples of 7.1 and 3.4 are still well below the industry averages. Many analysts believe the company needs robust earnings growth for the share price to rise and that's simply not true. Firstly, EPS is guaranteed to be lifted by constant share repurchases and secondly the earnings multiple (5 year average of 21) just needs to move a tad towards its mean for the share price to move. The market is pricing in a long-term negative earnings growth rate of just under 2%. (see below). I believe it is wrong for the following reasons. (Also Read : Gilead Sciences, Inc.: Why You Should Go Long On Gilead (GILD) Stock?)
Competitive Advantage That Will Drive Earnings Growth
Why is This Important
|On the HIV side, some analysts believe that the company will run out of time in switching customers over from the TDF range of drugs before the patents expire. I don't buy this, especially, when you see the growth of the TAF drugs (Genvoya for example). If Genvoya's growth rate slows down, I have no doubt that Gilead will increase prices once again on the older drugs in order to encourage faster shipping. Furthermore, Genvoya and its counterparts (Odefsey & Descovy) will now have patent protection for over a decade which cements Gilead's influence in this space for many years to come. On another note, Gilead is placing a lot of hope on Bictegravir because if it gets approved, it will be able to compete head on against Glaxo's Triumeq which is growing fast at present.||Gilead's TAF based regimens seem to protect the kidneys and bones better than the former TDF treatments. I believe the uptake for these drugs will be better than the market is pricing in at present|
|In this sector, it is all about leveraging the discoveries (molecules) in each respective sector. The company did this successfully in HIV division and I believe the same ingenuity will also come to the HCV space. In fact, we can see this already with the SOF/VEL/VOX compound (which is Solvaldi combined with other medications) producing excellent results in recent trials. I expect the robust research and development to continue which will one day lead to another blockbuster coming into the market.||Many analysts believe Gilead needs a strong acquisition to revive growth but this is not true. Its elevated R&D expense illustrates how active the company is in clinical trials. Furthermore, Gilead can easily afford these trials and will just need a small percentage of them to get approved to ensure we return to earnings growth.|
|Gross margins on a trailing twelve month setting have only dropped slightly over 1%. The current number is 86.5% which should illustrate to investors how well prices have held up recently despite the carnage we have seen in the HCV side of the business.||Because the last 12 months illustrated that Gilead is definitely a premium brand. With the exception of last year's blip, gross margins have stormed higher over the past 5 years (from 74.7% in 2011 to 86.5% this year). I expect margin growth will continue once HCV drugs negative sales growth bottoms out.|
I am still convinced that this stock has the potential to get back to $100 a share. It is being prudent with its money and has a stacked pipeline which is encouraging. I would ride this stock up to at least $90 to $95+ before selling.