The patent cliff has been causing a major shake-up within Big Pharma over the last few years. Companies have drastically reduced work forces, pursued massive mergers, and invested heavily in the next generation of potential blockbuster medicines.
Some companies, though, have been missing the mark in their quest to safely transverse the patent cliff landscape. Pfizer, GlaxoSmithKline plc , and Sanofi , for example, have all struggled to generate growth lately, and their stocks have handily underperformed the broader market as a result:
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Without much to speak of on the growth front, the huge dividend yields offered by these three companies may be their saving grace among investors. At current levels, for instance, Sanofi offers a yield of 4.09%, Pfizer comes in at 3.25%, and Glaxo isn't to be outdone with a stellar 5.32% yield.All three stocks top the present average among major drugmakers of 3.08%, and they seriously outshine the sector-wide mean of a mere 2.19%.
These rich yields, however, may be at risk. Here's why.
Pfizer must do something big soonPfizer has already signaled its intent to pursue a major deal via its overture to AstraZenecaearlier this year. Since the deal fell through, this giant in the drug business has reportedly approached Actavis plc, as well, although nothing concrete has come from those talks thus far.
Pfizer's problem is simple: The company is so large that its newer growth products, like Prevnar, can't move the needle much in terms of EPS. To solve this problem, Pfizer will either need to break itself up to unlock this latent value, or acquire a host of newer products via a buyout.
Under either scenario, I think a dividend cut will be necessary in order to meet the challenges of such huge moves. Specifically, a breakup could lead to a significant reduction in free cash flow, especially if all its legacy products are sold off in one fell swoop. On the acquisition front, I think Pfizer has its eyes set on a mega merger that could soar into the hundreds of billions, which would obviously require the company to free up some cash.
Since losing patent protection for its lung drug Advair, Glaxo has had to repeatedly scale back expectations, and even its operations. In its latest cost-cutting measure announced last week, the British biopharma decided to eliminate 17,000 jobs in the U.S. next year, mainly because payers have been slow to cover the company's newer respiratory medicines Anoro and Breo Ellipta. Making matters worse, Glaxo has been unable to unload its legacy product portfolio this year as planned. According to recent reports, potential buyers simply weren't willing to meet Glaxo's price for the aging portfolio.
With its pipeline unable to deliver the next generation of blockbusters due to several high-profile failures like MAGE A-3, and more fines likely coming down the pike from the numerous ongoing bribery investigations, I have trouble believing management's statement in the third quarter that the dividend would remain unchanged for 2015. Something has to give at this healthcare giant, and it looks, to me, like it'll be the dividend.
After its stock got walloped for the poorly timed termination of CEO Chris Viehbacher, Sanofi tried to assuage investors' concerns about the future by announcing that its pipeline is expected to launch 18 new drugs by 2020, increasing sales by a whopping $37.6 billion. While I appreciate the sentiment, I think investors would be wise to realize these estimates are based on projections for mostly experimental-stage drugs that could fail at any point in the clinical testing process. In fact, failure is the norm, not the exception.
What management appears to be trying to do with such an optimistic announcement, though, is get investors' collective attention off the looming 2015 patent expiration for Lantus, the company's long-acting insulin that makes up about a quarter of total revenue. With top-tier competitors like Novo Nordiskand Eli Lillyexpected to launch newer long-acting insulins soon, Sanofi appears set to lose its dominant position in this growing market. In short, I think Sanofi's cash flows will take a big hit next year with Lantus coming off patent, meaning that management will probably have to eye a reduction in the dividend to shore up its balance sheet.
Should investors dump their shares?Pfizer's share price looks fairly valued at current levels, and considerably less risky than either Glaxo or Sanofi. So I wouldn't necessarily sell off Pfizer now, especially with a potential merger or breakup on the horizon. Glaxo and Sanofi, though, haven't laid out compelling plans to handle their core problems. If they're forced to reduce their payouts, these two stocks could plummet.
The article 3 Stocks That Might Slash Their Dividends in 2015 originally appeared on Fool.com.
George Budwell has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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