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Can Gilead Double From Here?

This article is more than 9 years old.

Investors in Gilead Sciences (NASDAQ: GILD) have seen their investments grow 35% per year for the past five years, and 58% over the last 12 months. Since our conversation about Gilead with Eugene Groysman in June, the stock has appreciated 29%. After a stock has done this well, it is only natural to ask whether it can keep going, or whether it’s time to sell. To answer that question, I talked to 2 Marketocracy Masters, Eugene Groysman and Mike Koza, to discuss whether Gilead can double again.

Over the years, Eugene Groysman has averaged 17.53% (S&P 8.84%) and has a gain/loss ratio of 7.3. Likewise, Mike Koza has averaged 17.63% (S&P 12.24%) with a 60.9% accuracy. You can view Eugene’s and Mike’s portfolios for their top five holdings, and track their progress.

Ken Kam: Gentleman, thank you for getting together to talk about Gilead. I want to know why you think it has the potential for another double, since I’ve noticed that both of you have it in your top five holdings.

Eugene Groysman: Good evening guys.

Mike Koza: Ken and Eugene, I hope you are doing well.

Ken: I am always doing great. Who wants to start?

Eugene: I will. Gilead is doing well. All the press reports are positive. There are 24 “Buy” or “Overweight” estimates on the company, and no “Sell” recommendations. If one compares the first nine months of this year to last year, earnings are up 276%. That should eventually translate to the stock price, and it has.

Mike: I agree that the earnings were good, but for some reason, the market didn’t react well to the most recent report. There was a non-recurring charge for an Obamacare fee.

Ken: Mike, how much was the charge? Is it a big deal? I know you really study the earnings reports.

Mike: I have it right here, “Non-GAAP selling, general, and administrative (SG&A) expenses increased primarily due to a cumulative catch up of $337 million ($0.21 per diluted share) related to the non-tax deductible BPD fee for final regulations in the Affordable Care Act issued during the quarter.” I thought it was an overreaction, and it doesn’t look like it will happen again. Even with the charge, they’re crushing last year’s earnings, so the company is growing the bottom line.

Ken: I guess we have to ask if there is room for another double. What do you think?

Eugene: So far, this year has been good. The stock is up 41%. I have a colleague who is kicking himself for selling when it dropped last year. Right now, I have a target price of $117, based on my short equity model.

Ken: What measures are you using for your model, Eugene?

Eugene: I look at capex spending, depreciation, working capital, the market risk premium, debt, and book value. I also look at beta, the 10-year bond, and shareholder equity.

Ken: What are the numbers that caught your attention?

Eugene: First the debt is in line with the industry, so no alarm bells there. It’s their working capital that is really catching my attention, though. Right now, it’s sitting at $6.5 million. Last year, it was under $1 million. It’s building its liquidity, so it’s in a real healthy position. Essentially, it’s turning into a cash machine that can invest in other ventures. Equity has grown 18% and assets have grown 28%.

Mike: I think there’s more room for investors to profit again from Gilead.

Ken: Where do you see it, Mike?

Mike: It’s essentially from the bottom line, and what people are willing to pay for the company. Since Sovaldi was introduced this year, it has accounted for almost 50% of their revenue. It’s a profitable drug, where it has grown the top line revenue by 122%. This has definitely helped the bottom line. Earnings could easily increase to $7.80 per share. If one uses the current P/E ratio (18.9), that projects a $148 target price. The five year P/E average is around 20, so the potential is there for it to go over $150. The experts say $120, but I think that’s too conservative.

Ken: That’s almost a 40% increase in price. That certainly helps toward earning a double. From where does the future growth for Gilead come?

Mike: Right. I think it’s important to point out that over 3 million Americans have hepatitis-C. Well over 130 million people globally. There is a need for Gilead’s hep-C drugs, because there are a lot of patients, and their drugs work.

Eugene: I completely agree, Sovaldi will remain the main driver of their earnings. There might be some possible competition, but they would be fighting an uphill battle. The point of entry is too tough. It’s a boring story, but it’s a story that makes money. I’m up 93% so far, and I do see another potential 20%.

Mike: Eugene, they’re not a one drug company. We have to remember that.

Eugene: That’s true.

Ken: Tell me more, Mike.

Mike: They just received FDA approval for Harvoni, which is a cocktail drug combining Sovaldi and Ledipasvir. It’s also for hep-C. The 12 week treatment will cost $95,000, but it’s actually more cost effective than the $84,000 Sovaldi treatment schedule.

Ken: How is that?

Mike: If a hep-C patient is taking Sovaldi, the treatment still has to be supplemented with other drugs. Harvoni is a one drug course of treatment, so there will be a preference towards it in the future.

Ken: What other drugs are on the horizon?

Mike: They are also in the approval stages for an HIV combination drug called TAF. They believe that will be a more targeted way of treatment, but will be a 90% smaller dose than other drug therapies. By the way, I think it’s important to point out that Gilead is getting growth from their existing portfolio of medicines too.

Ken: What do you mean?

Mike: Their antiviral drugs are up 12.1% compared to last year, and their cardiovascular segment is up 11%. They’re growing because all of their drugs work.

Ken: Where do we go from here? What are you looking at in the future?

Eugene: I’m listening to sentiments from the commentators, not the analysts. When the commentators stop talking positively about the company, I will take a hard look at the fundamentals. So far, the buzz is positive.

Ken: What else is your strategy as things progress, Eugene?

Eugene: Right now, I’m taking things for what they are. I’m letting my model determine my next move. Normally, I let my rebalancing strategy do the work, but this time, I will let the target price determine my future strategy.

Ken: How about you, Mike?

Mike: I do want to keep it under 10% of my portfolio. It’s all about allocation. It’s a large cap, so there is less volatility. I might sell some if it goes to $120. It will be good to take some profits then.

Ken: Both of you don’t seem to be too concerned about risks. Why not?

Mike: There are risks. There always will be. Competitors might gain some traction. Some feel that Gilead will run out of hep-C patients, because the drug works almost too well. I feel there is a moral hazard, though, because I don’t believe that people will change their behaviors; there will always be hep-C patients. Besides, there are over 3 million patients in this country alone, and they’ve only treated a small fraction of them. Also, for drug companies, one pervasive risk is patent expiration. But it will be years before there’s a patent issue for Sovaldi.

Eugene: I agree, in that I don’t see much risk right now. It’s important to just let the market do it’s job with this company.

Ken: Gentlemen, it was great talking to you, and I’m glad we were able to get together. Good luck.

My Take

It is always interesting to see how people with different analyses arrive at the same conclusion. For Eugene, it is about using his short equity model where the numbers tell him that Gilead is a sound investment. For Mike Koza, it is about growing earnings, and discovering what will generate future growth. Mike is right. For now, Gilead’s story is about Sovaldi, but there are other medications that will generate future growth. What I find most interesting is that both have an eye out for a $120 price target. If that is their consensus, then they are anticipating 13% price growth for the near future. That certainly helps in one achieving a future double.

Connect with Ken Kam on LinkedIN.

Disclosure: I am the portfolio manager for mutual and hedge funds advised byMarketocracy Capital Management, an SEC registered investment advisor. Before relying on the opinions expressed in this article, you should assume that Marketocracy, its affiliates, clients, and I have material financial interests in these stocks and may hold or trade them contrary to these opinions when, in our view, market conditions change.