1 Undervalued Generic Producer and 1 Peer Stock With Momentum

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If the speculation involved with drug development and biotech is not for you, that’s no reason to bail out on the healthcare sector as a whole. Generic producers offer relatively strong safety by virtue of just targeting what has already been developed and accepted by the market. Some have still suffered in recent months, but it’s important to look towards the future: the pipeline, corporate strategy, and multiple expansion opportunities. Below, I review two stocks with very different trends over the last 12 months:

Why Teva (NYSE: TEVA) Is Undervalued

Teva is an Israeli generic producer that is seeking to rebuild itself in preparation for a major patent cliff. Their multiple sclerosis drug called Copaxone contributed as much as 20% of the company’s total sales, a level of dependency that the company’s CEO, Jeremy Levin, has tried to reduce. Their recent successful patent lawsuit against Momenta Pharmaceuticals, Sandoz and Mylan Laboratories has been one of the few catalysts to shareholder value in the last 12 months. It was reported that, as of 3Q12, Teva has more than 15 drug projects in development and all are in the finishing stages.

In addition to organic growth, Levin is also focused on strategic, smaller-scale takeovers, a strategy many see as reminiscent of his “string of pearls” strategy at Bristol-Myers. The specific goal is to bring in new patents, products and technologies that are capable of running independently of core operations. He is also turning the company’s focus towards the CNS and respiratory markets, hitting the two core markets. For the year 2013, the company is planning 10-15 NTEs (new therapeutic entities).

At 7.4x forward earnings, I believe that much of the stock’s patent cliff has been factored into the stock price–shares are down 17.1% from their 52-week high. With a free cash flow yield of 7%, a 2.7% dividend yield, and a beta of 0.36, however, Teva looks undervalued for considerable pipeline potential. Margins have been on the increase, and analysts are leaning towards a “buy.”

Mylan (NASDAQ: MYL): A Generic Producer With Momentum

Mylan, another generic producer, has had things a bit more rosy.The stock is near its 52-week high, having risen nearly 40% from the 52-week low. The FDA approved their Abbreviated New Drug Applications (ANDAs) for generics of Atacand HCT, AstraZeneca’s hypertension (high blood pressure) treatment. Their sales of the Ephienephrine Auto-Injector (EpiPen), has increased due to a growing amount of allergies, especially in schools–and the increase is 76% against last year’s sales. Moreover, sales are expected to continue to rise with Mylan investingover $15 million into advertising.

Mylan’s board has also shown signs of becoming more shareholder friendly. In 3Q12, the company granted a $500 million share buyback program. At the same time, S&P and Moody’s increased the credit rating of the company from BB+ to BBB- (from the 5th to 4th place on the credit rating table). Now Mylan is trying to move forward even more, as it’s searching for acquisitions to expand its geographical footprint. It is ready to acquire companies in deal over $4 million, especially those that can increase their range of operations. All of the companies are targeting emerging markets now, where Mylan is considering going directly for generic manufacturers in those markets.

At only 10x forward earnings, the stock looks like an ideal investment to make alongside Teva. While they both look undervalued, one has the momentum to hedge against any investor fatigue. It is forecast 11.1% annual EPS growth over the next five years. Assuming expectations are met, 2016 EPS will come out to $3.84. At a multiple of 13x, this translates to a future stock value of nearly $50. Discounting backwards by 10% yields a present value that is at a 10%+ premium to the current market assessment.

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