Ill drug stock sector seen recovering by year-end
Friday June 11, 4:26 pm Eastern Time
By Daniel Bases
NEW YORK, June 11 (Reuters) - The saying that time heals all
wounds may be the medicine needed to pull drug stocks out of
their recent slump, but the short-term pain persists for big
pharmaceutical companies such as Merck & Co Inc. and Pfizer
Inc.
Analysts blame the drop on sky high valuations ripe for profit picking, earnings and safety warnings, talk in Washington of a Medicare drug benefit, and investors shifting focus and money to a resurgent manufacturing sector.
On the positive side, the long-term outlook for drugs remains strong, despite a few bumps in the road.
Analysts see a partial rebound in prices to pre-springtime levels by the end of 1999 due to consistently solid earnings performance, and an aging population in need of more drugs to stay healthy and live longer.
Since reaching a 52-week high of 424.94 on April 12, the American Stock Exchange Pharmaceutical index, which includes major drug makers such as Merck and Pfizer, has tumbled nearly 17 percent.
''The share prices of these companies have gone up about 30 percent a year in the last three to four years but earnings have not gone up at the same pace, at about 13 to 15 percent,'' said Sergio Traversa, drug analyst at Mehta Partners.
''At a certain point the gap (between price and earnings) was too large, but now I think there has been overselling,'' Traversa added.
On a stock-by-stock basis, certain blue-chip drug companies have clouds hanging over their prices.
The U.S. Food and Drug Administration issued a health advisory to doctors over Pfizer's (NYSE:PFE - news) widely prescribed antibiotic Trovan because it was ''strongly associated'' with liver toxicity and 14 cases of acute liver failure.
On June 9 the FDA urged doctors to limit their prescriptions of the widely used drug.
Several analysts lowered their opinion on the stock, including Salomon Smith Barney's Christina Heuer who wrote in a research note that the news could cut Trovan's ''sales potential to $100 million from over $1 billion.''
Pfizer's stock is down 36 percent from its high of $150 on April 12.
In addition to Pfizer, Eli Lilly and Co. (NYSE:LLY - news) and American Home Products Corp. (NYSE:AHP - news) issued earnings warnings.
For Eli Lilly, generic competition to its antidepressant Prozac, starting in 2004, is expected to shrink its earnings.
At AHP, a warning that second quarter and full year 1999 earnings would be below market forecasts due to anemic sales of crop-protection and livestock-health products, contributed to its continued weakness.
Eli Lilly's stock is down 27 percent from its high of $97.44 on March 5 and AHPs stock is off 24 percent from the April 12 high of $70.25.
As for the largest U.S. drug maker Merck (NYSE:MRK - news), the question of patent exploration hounds its future. Merck's stock is down 21 percent from its March 22 high of $86.37.
However, Vioxx, its new arthritis and pain drug, outsold Monsanto Co's (NYSE:MTC - news) Celebrex in initial 10 day sales, according to IMS, a company that tracks filled prescriptions.
Adding additional uncertainty is talk of a prescription drug benefit for U.S. senior citizens under a new White House Medicare proposal to be unveiled later this month.
Last week, White House Chief of Staff John Podesta said President Bill Clinton's plan would require seniors to pay a ''modest premium'' in exchange for prescription drug benefits.
''The drug prescription benefit program has been a cloud over these drug stocks because there is a fear a drug benefit program will have price caps,'' said Timothy Chiang, drug analyst at Warburg Dillon Read.
Calling the market choppy, he said, ''It could trade like this until a decision is made on price caps, which could be seen as early as this year, but I think it will be an election issue.''
Chiang expects drug volume to rise by 10 percent under a drug prescription program. In total, Medicare could account for 40 percent of drugs sold in the market.
A springtime resurgence in the U.S. manufacturing sector stole away investor attention and money from high-flying drug stocks and placed it in the depressed heavy industry sector.
While drugs are still considered a growth area, one analyst sees its premium versus the S&P 500 declining.
''The drug sector will trade at a 23 percent premium to the S&P 500 in 1999 and at a 13 percent premium in 2000,'' Mike Krensavage, analyst at Brown Brothers Harriman said.
Despite the decline, Krensavage is bullish, saying the sector ''is still poised to outperform the market because of solid earnings growth.''
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