Is This Gilead Sciences' Biggest Mistake in 2016?
Enjoying windfall in revenue from its highly successful hepatitis C program in 2015, Gilead Sciences (NASDAQ: GILD) decided to return money to investors via a dividend and share buybacks. As a result, the company's handed back billions of dollars to investors through the first nine months of 2016. But given that Gilead Sciences' sales have fallen 10% and earnings per share have tumbled 14.5% in the past year, is this really the best use of its money.
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Billions of dollars...wasted?
In deciding to return money to investors, Gilead Sciences took a leap that few of its peers have taken. In fact, Amgen Inc. (NASDAQ: AMGN) is the only other big-cap biotech stock that pays its investors a dividend.
In a way, Gilead Sciences' decision to pay a dividend was a bold gambit to curry favor with investors less interested in growth and more interested in long-term income. The launch of antivirals Sovaldi and Harvoni in 2014 had already made Gilead Sciences a staple in growth investors' portfolios, but Gilead Sciences' lack of a dividend made it unloved by dividend-seeking investors.
Appealing to a new group of investors, many of whom embrace the buy-and-hold mantra, may have helped insulate shares from a steep drop once Sovaldi and Harvoni's sales plateaued, or so the thinking goes.
Unfortunately, the institution of a dividend has arguably done little to protect investors from a deluge of selling that's resulted from Sovaldi and Harvoni's maturing. After peaking north of $120 in the summer of 2015, shares have retreated into the mid-$70s, a horrible performance given that the S&P 500 has rallied to new highs during the period.
The sharp sell-off and slipping sales make it fair to ask if the billions spent on dividends and share repurchases ($10 billion on buybacks alone this year) should have been used to buy growth instead. After all, this is a zero-sum game. Money spent on dividends and buybacks can't also be spent on making acquisitions or funding research and development, at least not without the company taking on shareholder-unfriendly debt (which it has done, to the tune of an additional $241 million in interest expense in 2016).
Missing out?
There have been at least two acquisitions of high-profile biotech companies by competitors since 2015. I don't know if Gilead Sciences was a bidder, but snagging any of these companiescould have kick-started its growth and reignited investor enthusiasm.
Pharmacyclics, which owns 50% of the blockbuster cancer drug Imbruvica, was acquired byAbbVie Inc.(NYSE: ABBV) last year for $21 billion, and Medivation, which shares the rights to the blockbuster cancer drug Xtandi, gotgobbled up by Pfizer(NYSE: PFE) this year for $14 billion.
The prices paid to buy these companies weren't bargains -- at least not based on current price to sales or earnings. But both deals gave their acquirers the potential for billions of dollars in revenue growth courtesy of ongoing trials that could expand the medications' addressable patient populations. In Pharmacyclics' case, AbbVie has said that Imbruvica could potentially bring in $7 billion per year in sales someday. Over at Medivation, Pfizer thinks sales could climb meaningfully for Xtandi as it gets used earlier in patient treatment.
Gilead Sciences has long maintained that it wants to be conservative in its approach to M&A, and that's likely why it took a pass on these two deals, but waiting for the opportunity to pay the right price at the right time does come with risks, including the risk of sitting on the sidelines as peers make strides forward.
Gilead Sciences hasn't always been unwilling to bet big.Exhibit A: its $11 billion deal to buy Pharmasset and land Sovaldi in the first place. Undeniably, opportunities like that are few and far between, but nevertheless, there comes a point when investors are left wondering: At exactly what price would Gilead Sciences be willing to make a splash? Or, more to the point, would Gilead Sciences have been more willing to commit to a big deal like Pharmacyclics or Medivation if management had held on to its cash instead of promising it to investors?
Steady hand
The decline in hepatitis C revenue isn't surprising to anyone. AbbVie and Merck & Co.(NYSE: MRK) have both launched competing therapies that are driving down prices, and there's no longer pent-up demand from warehousing patients, like there was in 2014.
Nevertheless, hepatitis C sales could begin leveling off soon, and this market remains one of the most lucrative out there. Gilead Sciences is still a Goliath in the space, kicking off tremendous cash flow, so an argument can be made that easier revenue comparisons next year could help convince investors to return.
Assuming that case plays out, then the benefit of acquisitions could be even more needle-moving in 2017, and for that reason I, for one, would like to see management, instead of returning more money to investors -- especially via buybacks -- step up and buy some growth.
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Todd Campbell owns shares of Gilead Sciences and Pfizer.E.B. Capital's clients may have positions in the companies mentioned.Like this article? Follow him onTwitter where he goes by the handle@ebcapitalto see more articles like this.
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