(By Michael Vodicka) After World War II there was a population explosion in the United States. Between the years 1946 and 1964, more than 80 million children were born, easily outpacing birth trends in previous and later periods of time. But now, 60 years down the line, these "babies" are heading into their golden years, set to cash in on retirement, social security and Medicare benefits.
While that population hump concentrated on people between the ages of 66 and 48 has many social implications, one of the most pronounced is its effect on the demand for healthcare services. That has many investors lining their portfolios with healthcare stocks in order to take advantage of an aging population that will need everything from pills, new hips and knees to in-patient care facilities.
But if it's generic drugs you are looking to invest in, it's time to check out Watson Pharmaceuticals, Inc. (WPI). Although most of the company's revenue comes from its generics operations, it also produces branded drugs and operates a vast global distribution network of third-party products in Europe, Canada, South America, Asia, Australia and South Africa. It primarily focuses on therapeutics related to the central nervous system, cardiovascular, hormones and synthetic substances, anti infectives and urology. With a market cap of $8.8 billion, Watson is a large mid cap with a nice combination of growth and stability.
The company's share price had been pretty flat for most of the year before strong Q1 results from late April send WPI into a new all-time high.
Record Q1 Results
Revenue for the period was up an impressive 74% from last year to $1.5 billion. Earnings also came in strong at $1.64, 2.5% ahead of expectations for the company's fourth earnings surprise in as many quarters. The good quarter was driven by Watson's generics division, where sales were up 86% from last year to $1.1 billion, comprising 73% of the company's total revenue. The company also saw big gains selling third-party products, with its Distribution sales up 66% to $299 million. But even though Watson has another good quarter in hand, looking forward, there are still reasons to be bullish on growth.
The first is the company's generics division, where a litany of patent expirations from big pharma companies is creating huge opportunities for less expensive replicas. That led Watson to launch 60 new generics products during the quarter and file applications for 28 more. Watson also continues to pursuit international growth, growing its presence in Australia and Asia during the quarter with the acquisition of Ascent Pharmahealth Ltd.
Its branded drugs division is also on the upswing, where Watson entered Phase III testing in the U.S. for Esmya, a drug for women with anemia caused by uterine fibroids, while also launching a new product portfolio in Canada. Branded drugs comprise a much smaller portion of the company's revenue, but the margins are sky high, with gross margin clocking in at 76% during the most recent quarter. So this is a very profitable business for Watson.
Watson also maintains a vast global distribution network that it uses to distribute third-party products to locations all around the world. That provides the company with additional product and geographic diversification to offset potential weakness in certain regions or products.
Estimates and Valuation
With plenty of good news in hand, the analysts were quick to upgrade earnings projections off the good quarter, with the full-year 2012 estimate adding 7 cents and climbing to $5.80, a bullish 22% growth projection from last year. The full-year 2013 estimate jumped 40 cents to $6.47, another solid growth projection of 11.5%.
That bullish movement in estimates is where things get really interesting, because it has pushed WPI's valuation close to an all-time low. As it stands, Watson's PEG ratio of .89X is well below the 10-yr. median of 1.23X, even further off the all-time high of 2.82X and just a pinch off the all-time low of .62X.
On the chart, Watson was flat for most of the year before strong Q1 results from late April sent shares soaring into a new all-time high. But in spite of those gains, rising earnings estimates have kept the valuation picture in check. Take a look at the bullish action below.
Watson Pharmaceuticals, Inc. (WPI) 2012 Daily Chart