The Stock Market Jungle

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1. In a rising interest-rate environment, which I expect now that the election has been decided, the financially weakest companies in every industry will begin to seek mergers and the strongest, like Pfizer in the drugs industry, will pick up bargains. The major pharmaceutical manufacturers need to acquire new proprietary product to fill their pipeline, and 2005 is likely the best time to do it for several years to come.
2. Short-term technical indicators have turned south, but could easily reverse direction if the drug stocks start to participate in the current rally. Having been depressed, the long-term (monthly data) indicators could start pointing upward as well in the next month or two. Technically, PFE is in a long-term accumulation zone.
3. PFE, at the depressed price of $27.45 is 21.6 percent under my present ‘fair value’ estimate of $35. The stock is well positioned for the next three years as the worry over class-action product liability claims start to meet the reality of the courts under a President Bush administration. The GOP platform, which ridiculed courtroom lawyers seeking high class-action damages, was given political capital, and GWB says he is going to use it. I anticipate early introduction of tort law reform, which would have an immediate impact on investor sentiment for the pharma industry.
4. My EPS and PE estimates for PFE are $2.12/17x (2004), $2.40/16.75x (2005), $2.70/16.5x (2006) and $3.00/16.25x (2007). With my accumulation target of $25.75-$25.80 on PFE (which is the current $27.45 enhanced by writing puts, less cost of calls), my price targets are $36.00 (+28.3%) within 6 months, $40.25 (+50.2%) by year-end 2005; $44.50 (+72.5%) by year-end 2006; and $48.75 (+89.0%) by year-end 2007. These estimates are based on normal earnings growth as well as an overall declining market PE in a rising rate environment; however, I foresee Pfizer will also grow via acquisitions, which could increase these projections. (Note that my Oct 31 long-term forecast for INTC was slightly more positive than for PFE today.)
5. The corporation is financially very strong as attested to by the outstanding Value Line Rating of A++ and Safety=1. It’s Current Ratio (1.3), Quick Ratio i.e., acid test (0.9), Liquidity Ratio i.e., cash (0.51) are strong for the drug industry – not as good as JNJ, but a little stronger than MRK. The Debt Ratio at 44.0 is quite acceptable and compares to MRK at 61.6, IBM at 73.3 and BA at 84.7.
6. Altman’s Z-score Ratio, which is another solvency test, is at 3.01 versus 7.19 for JNJ, 3.17 for MRK, 2.62 for IBM and 2.34 for HPQ (all comfortably over the 1.80 test). Compare this to GE at 0.74 and BA at 1.65 and you begin to see which companies are going to suffer relatively more if, as and when interest rates increase.

1. Wall Street’s sell-side says they are neutral on the industry, but the drug stocks are not participating in the current rally. Privately I think Wall Street is pushing institutional clients out of healthcare/drugs and into tech and financial groups that typically lead a market rally. The product liability scenario arguments would be extra fodder for their fear-greed based reports. Maybe class-action lawsuits will destroy this industry, do you think? The fact is that many of you do think that way.