Biopharma Forecast: 3 Bulls and 2 Bears

We view the large-cap biopharma group as the most undervalued industry in the healthcare sector.

We believe the market is underappreciating pipeline innovation that should support 5% compound annual earnings growth over the next five years, complemented by almost 50% dividend payout ratios.

The market appears overly concerned by potential U.S. drug policy changes, drug development threats from China, and patent losses. Conversely, an underappreciation exists for growing pipelines, solid capital allocation (including mergers and acquisitions), and improving patent strategies.

In looking at our forecasts in aggregate, no major macro trends permeate our out-of-consensus calls. Most of the support for the differentiated calls is based on drug-specific data.

Several of our differentiated calls support our valuation differences from the market, including several bullish calls on drugs from Gilead GILD, GlaxoSmithKline GSK, and Roche RHHBY. Conversely, we are bearish on several drugs from AbbVie ABBV and Pfizer PFE, putting downside pressure on our valuations for those firms.

Where We're More Bullish Than the Market

Gilead Morningstar Rating: ★★★★ Morningstar Economic Moat Rating: Wide Fair Value Estimate (as of Feb. 4, 2022): $81

We agree with the broader market that Gilead's HIV business is getting harder to refresh. But while the consensus view is skeptical of Gilead's ability to fill this gap by differentiating as a newcomer in oncology, we see opportunity for growth in this suite of drugs.

Non-Hodgkin lymphoma treatment Yescarta is continuing to improve, and we aren't convinced that other convenient, off-the-shelf therapies will be able to meet its high efficacy bar. We also see solid potential for Trodelvy, which is used to treat breast and bladder cancers and is in testing in lung cancer.

Plus, we're optimistic about Gilead's partnership with biosciences innovator Arcus, which could lead to development of differentiated immuno-oncology combination treatments.

GlaxoSmithKline Morningstar Rating: ★★★ Morningstar Economic Moat Rating: Wide Fair Value Estimate (as of Feb. 4, 2022): $48

We're bullish on GlaxoSmithKline's HIV platform and believe the potential for respiratory drug Trelegy has gone underappreciated. We also think anemia drug daprodustat looks well positioned. Overall, though, more pipeline advancement is needed.

The divestment of GlaxoSmithKline's consumer healthcare division, which was announced last summer, could also unlock major value. Consumer companies are trading at P/E multiples in the mid-20s. And though the market is concerned about the resulting dividend change, we think the new dividend price is durable.

Roche Morningstar Rating: ★★★★★ Morningstar Economic Moat Rating: Wide Fair Value Estimate (as of Feb. 4, 2022): $60

Pressure from the biosimilar market has been more rapid in the United States than we anticipated, but Roche has demonstrated a strong ability to tackle this headwind with a growing portfolio.

In particular, we see ample opportunity for oncology drug Tecentriq, which is seeing strong uptake in small cell lung cancer and liver cancer. It's also promising that it was the first approved adjuvant lung cancer immunotherapy (an additional treatment after surgery and chemotherapy that aims to prevent future recurrence).

Furthermore, though the market is wary of growth amid the maturation of Roche’s current suite of drugs, our forecast is buoyed by promising expected launches in the 2022-23 time frame in oncology, neurology, and ophthalmology.

Where We're More Bearish Than the Market

AbbVie Morningstar Rating: ★★ Morningstar Economic Moat Rating: Narrow Fair Value Estimate (as of Feb. 4, 2022): $114

Though AbbVie's dividend looks secure, we have more concern about the impact of the Humira patent loss on the firm's growth than the broader market does.

We also caution investors around the forecast for immunology drug Rinvoq. The market is pricing in an expectation that the drug will position AbbVie to reach $7.5 billion by 2025, but we think that the FDA decision to restrict the drug to patients that did not respond to treatment by TNF blockers limits Rinvoq's potential.

We're also hesitant to forecast too much growth from additional acquisitions, as we think the lingering heavy debt from the Allergan acquisition will slow further deals.

Pfizer Morningstar Rating: ★★ Morningstar Economic Moat Rating: Wide Fair Value Estimate (as of Feb. 4, 2022): $48

As discussed previously, we expect COVID-19 vaccines to bring about windfalls in 2022 but see more long-term potential in treatment. That said, Pfizer's vaccine Comirnaty and oral antiviral treatment Paxlovid look very well positioned through 2023, but we expect their sales to fall significantly by 2024 as the pandemic recedes.

Furthermore, because of regulatory and other issues, we're skeptical that Pfizer can move as quickly with future drug development as it did with the COVID-19 vaccine.

Finally, Pfizer will soon be facing patent losses for blood clot treatment Eliquis and breast cancer hormonal therapy Ibrance in the second part of the next decade. While we expect innovation to offset these losses, we do think it will slow growth.