Pfizer (NYSE: PFE) is engaged in the development, manufacturing, and marketing of pharmaceutical products. The industry is fiercely competitive with distinct attributes. One notable characteristic is the lengthy and costly drug development period, which can span up to ten years and incur expenses exceeding $100 million, contingent upon the drug’s nature and scope of clinical trials. To foster innovation, companies receive extended patent protection subsequent to obtaining regulatory approval.
Companies can recover their development costs by bringing products to market and benefiting from monopoly rents. On November 19, 2009, Pfizer’s share price was $18.11, showing a decrease in value compared to two years ago when it was valued at $27.49 (a decline of 34%). In the same period, the S&P 500 also experienced a decline of around 21%, as reported by MSN Moneycentral.
When comparing Pfizer’s performance to the market, it is evident that the company has underperformed significantly over the past two years. Despite a beta of 0.76, which should have resulted in a decline of only 16% when the market dropped by 21%, Pfizer’s actual drop was 34%. This disappointing performance means that shareholders are not receiving their expected returns from investing in Pfizer stock.
In addition to its poor performance, Pfizer’s liquidity situation has also worsened recently. While the company had a current ratio of 1.6:1 in 2005, which improved to 2.2:1 in 2006, it has since fallen back to 1.8:1. Although this ratio falls below the recommended benchmark of 2:1, it still surpasses competitors like Merck with a current ratio of only 1.38:1.
Further analysis reveals no signs of “window dressing,” indicating that Pfizer maintains good financial health compared to other companies in the pharmaceutical industry. However, the decrease in current ratio suggests that Pfizer’s working capital has decreased and implies a business slowdown when combined with declines in other liquidity metrics. Additionally, Pfizer’s quick ratio follows the same downward trend as its current ratio.
The quick ratio, which evaluates certain components of the current ratio that can be readily converted into cash (such as short-term investments and accounts receivable), serves two primary purposes. Firstly, it functions as a fundamental measure of liquidity. In comparison to Merck’s quick ratio of 1.19, Pfizer’s quick ratio in 2008 was 1.43, which is considered favorable within its industry. Although it has been higher in recent years at 1.9 for the past two years, the ratio of 1.43 is relatively close to the quick ratio in 2005. Secondly, when calculating the current ratio, inventories are not included in the quick ratio.
During economic downturns, an excess supply of inventory can cause the current ratio to be abnormally high. However, Pfizer’s quick ratio aligns with this trend and shows a decrease in solvency for the company in the past year. Nevertheless, both liquidity ratios are considered satisfactory. Turnover ratios can also help identify issues related to liquidity and solvency. The accounts receivable ratio measures how efficiently receivables are converted into cash. Last year, Pfizer’s receivables turnover increased from 5.03 times to 5.4 times. Additionally, the average collection period decreased from around 71.5 days to 70.1 days, while the end-of-year collection period dropped from 74.2 days to 67.7 days.
These changes indicate that Pfizer has reduced its collection period, which represents the time it takes to convert average sales into cash. Given the previously mentioned long collection periods, it is not surprising that Pfizer is tightening its receivables turnover.
In addition, Pfizer’s inventory turnover reflects how effectively their inventory is converted into cash.
Unsold inventory poses a risk for businesses and suggests inefficiency.
The inventory turnover metrics for Pfizer’s sales have decreased. The days’ sales in inventory have increased from 169.8 to 194.4, while the average inventory turn has declined from 2.0 to 1.68 and the ending inventory turn has declined from 2.12 to 1.85. These figures indicate that Pfizer’s inventory is accumulating instead of being sold as quickly as before, resulting in a decline in liquidity over the past year.
Despite the decrease, Pfizer’s current and quick ratios are still considered healthy. However, the company has taken steps to improve cash flow by tightening receivables due to their inventories experiencing rapid growth.
Pfizer’s inventory levels are presently higher compared to 2007 but considerably lower than those from four or five years ago. The debt ratio of Pfizer has risen from 42% to 48% between 2007 and 2008, indicating a restricted cash flow. Consequently, the company had to borrow funds for working capital purposes. Additionally, the debt-equity ratio increased from 0.77 in 2007 to 0.93 in 2008, illustrating a significant dependence on debt financing for expansion.
There has been a slight increase in the long-term-debt to equity ratio of only .02 from 2007 to 2008. The ratio of fixed assets to long-term liabilities was lower in 2008 (1.67) compared to 2007 (2.15), indicating a decline in the fixed asset base over the past year. Although there has been a decrease in long-term liabilities, it is not enough.
Pfizer’s current debt to total debt ratio is now at 51%, an increase from 44%. However, this metric has fluctuated significantly over five years, starting at 56% in 2005; therefore, the current level should not be seen as a cause for alarm.
Pfizer’s gearing ratio has increased to 12%, up from its usual level of10.1%. The times interest earned figure currently stands at16.9 compared with historic levels of over20; these figures imply that Pfizer’s debt management position is weaker than it was a year ago and weaker than its historic levels.
Although Pfizer is not facing significant difficulties with its debt, it is clear that the economic downturn has impacted the company evidenced by increasing debt, decreased liquidity and increased liquidities. The fact that the firm has taken steps to improve its receivable turn also indicates a deteriorating financial position.
Profitability Analysis The pharmaceutical industry has high margins due to monopolies granted to offset drug development costs. Pfizer’s gross margins were 83.2% in 2008, up from 76.8% in 2007, although lower than their historical average, it remains significantly higher than Merck’s 76.7%. The net margin holds greater importance for the pharmaceutical sector as expenses incurred during new drug development impact EBITDA.
The net margin is a measure of how well a company can generate enough marketable products to cover the costs of developing future products. In the case of Pfizer, their pre-tax net margin for 2008 was 20.1%, which was higher than the previous year’s margin of 19.2%. The after-tax net margin is more complicated because it includes tax incentives paid to the pharmaceutical industry, like orphan drug development credits. Managing the after-tax net margin is important for pharmaceutical companies.
Despite this, Pfizer’s after-tax net margin in 2008 remained unchanged at 16% compared to previous years, except for an unusually high figure in 2006. However, Pfizer has not experienced any revenue growth in the past five years. Sales were $48,296 billion and $48,418 billion in 2008 and 2007 respectively, while they were $48,988 billion in 2004.
This lack of revenue improvement indicates that Pfizer is a mature business and only developing successful new products at a rate that replaces patent expiries.
In terms of earnings per share (EPS), Pfizer reported $2.04 EPS in 2008 and $1.48 EPS in 2007 (MSN Moneycentral, 2009).
In 2008, Pfizer’s earnings per share (EPS) showed a return to shareholders, which was a positive change after years of fluctuation between 1.45 and 1.75. The company’s price/earnings ratio (P/E) at the end of that year was 14.7, compared to 19.3 in 2007 and 17.8 five years ago.
The P/E ratio indicates market sentiment towards a company’s growth prospects.
Despite the decrease in Pfizer’s stock value in 2008, its earnings per share increased. This decline caused the drop in Pfizer’s P/E over the past two years; however, such a decrease is reasonable for long-term considerations.
Pfizer has faced financial difficulties in the last five years, with a lack of revenue growth, declining liquidity, and rising debt levels. However, despite these challenges, the company has consistently raised its dividend per share. In 2008, the dividend increased to $1.28 from $1.16 in 2007, and it was $0.68 in 2004. The increasing dividend paired with a decreasing share price indicates that Pfizer has recently raised its payout ratio. This suggests that even though the company is not expanding, it remains profitable.
Pfizer has shifted its focus from investing in new product development to paying dividends to shareholders as it enters a more mature phase. The company’s return ratios have been mixed over the years. Last year, the return on equity was 14.1%, compared to 12.5% in 2007 and 27.1% in 2006. Pfizer’s return on equity ratio has consistently been lower than the industry average of 17.3% for the past two years, suggesting less efficiency in generating profits from shareholder investments within the pharmaceutical industry.
Regarding return on assets, Pfizer recorded a rate of 7.2% last year, slightly higher than the previous year’s rate of 7.1%. However, these figures still fall behind the company’s rates of 16.7% in 2006 and 16.5% in 2007.
Overall, these numbers indicate that despite a strong performance in 2006, Pfizer’s returns are somewhat below the industry average now. The company has experienced a significant decline in managerial efficiency since then.
The current data does not show any long-term trend of improved returns on either equity or assets for Pfizer over the past five years, leaving its performance uninspiring.
The firm’s revenues have remained steady, suggesting that their business is entering a mature phase. This can be seen through the consistent rise in the company’s dividend. However, Pfizer has had to boost the dividend to prevent a decrease in stock sales since it lacks substantial growth to attract investors. It is noteworthy that Pfizer’s stock has declined more than what would normally be anticipated based on the firm’s beta. This raises concerns due to two industry factors: firstly, pharmaceuticals have a demand that is not highly influenced by price changes or economic fluctuations.
Despite the financial crisis, it is crucial that the demand for these drugs does not decrease. These drugs greatly impact people’s quality of life. Interestingly, Pfizer has managed to maintain steady revenues throughout this crisis. Therefore, the decline in their stock price cannot be attributed to overall market conditions. Instead, likely contributing factors are concerns within the industry about healthcare reform and stricter FDA guidelines leading to increased drug trial costs. Additionally, specific issues affecting Pfizer have had a negative impact on its stock performance.
Over the past five years, the company has struggled to increase revenue and has experienced declines in operating income, asset base, and book value of equity during that time period. Pfizer is either maintaining stability or shrinking at worst; hence there is no growth in its stock value.
In an effort to compensate for this lack of growth, management has raised dividends by 88% over five years. While this may benefit investors somewhat, it fails to fully offset Pfizer’s absence of economic growth in its model.
Although there have been improvements in overall financial performance in the past year for Pfizer, certain key metrics have declined.
The current and quick ratios of Pfizer have decreased. The level of inventory has increased and the inventory turn has decreased. Although the receivables turn has also decreased, it is not uncommon for a struggling company to put pressure on its customers for faster payment, especially considering that Pfizer took about 2 -month range to collect payments in 2007. Recently, Pfizer has raised its debt levels after maintaining a steady capital structure for years in order to fulfill its cash flow requirements. This will heighten the company’s risk during a stage when its business is becoming more established, which does not inspire optimism.
Despite the occurrence of challenging moments and Pfizer’s leverage being considered as not uncommon or risky in the broader business cycle, it is important to remember that difficult times do occur. Based on this analysis, I would opt against investing in Pfizer stock, a decision I would have made even a few years ago. The stock has demonstrated underperformance compared to expectations, which can be attributed to significant structural factors. The company’s growth has stagnated, and the increases in dividend yields have not offset the decline in potential growth. To conclude, there are underlying problems impeding Pfizer’s advancement.
Despite uncertainty and rising costs in the pharmaceutical industry, Pfizer’s healthy margins still make it a worthwhile business. However, the company has not performed well in challenging circumstances. Recent returns have been poor, with no indication of improvement in top line revenues. Additionally, the short-term bottom line improvements in 2008 may not be sustainable, potentially resulting in reduced performance and increased debt for Pfizer. Therefore, I would not recommend purchasing Pfizer stock.
