Betting on Pfizer’s Rich Pipeline and Cadence’s Cheap Shares
Pfizer (PFE)
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Jim: Buy
Mike: Buy
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Jim: Now, Mike, our first stock today is Pfizer, and I want to make it clear from the outset that I don’t want any crude jokes about this company just because it’s the maker of Viagra. You know, remarks like, “It’s best to be long Pfizer these days.” This is a family paper, of course.
Mike: Fair enough. But what I would say about Pfizer is that it’s one of those companies whose products always sound like the names of characters from “Lord of the Rings.” Who are “Zoloft” and “Zithromax”--they’re the giants who attack the Hobbits in the woods, right? No, they are, respectively, an antidepressant medicine and an antibiotic.
Jim: Why do they come up with such esoteric-sounding names? Although the important thing is that many of these odd-sounding drugs are leaders in the pharmaceutical market. Pfizer has two other new drugs that are big hits--Lipitor for lowering cholesterol and Celebrex, which Pfizer is co-marketing with Monsanto as an arthritis treatment. It’s being talked up as maybe the most successful new drug in history.
Mike: In fact, Pfizer’s had a string of great successes, which is why this company trades at a price-to-earnings multiple that represents a rich premium over the P/E of the Standard & Poor’s 500.
Jim: The simple fact is that Pfizer is the quintessential blue chip in a very strong business. This stock has jumped eight times over in the last five years, compared with a 230% gain in the S&P; 500. It now trades for about $114 a share, or about 46 times earnings, and its 3-for-1 split due June 30 is likely to give it another kick.
Mike: And the question we always end up asking about stocks like this is: Has it gotten ahead of itself?
Jim: Not to me. I think regardless of the rich price, this is a fine addition to any portfolio and I would heartily recommend the stock for a lot of reasons.
Mike: One being its new drugs just now hitting the market . . .
Jim: . . . and then there’s the pipeline full of other drugs in the late stages of clinical testing.
Mike: Right, and I think in that last comment you really put your finger on the essence of this stock. As much as our editors would like us to disagree more, unfortunately for them, I have to agree with you on this stock.
Jim: I think you’d be crazy not to.
Mike: Well, sometimes that happens. But the pipeline is what makes this stock inviting for the future. Pharmaceutical companies run in and out of favor all the time. The reason is that every one of them on occasion will hit the drugstore lottery, coming up with a product that fills a crying need and is a year or so ahead of the competitive pack.
Jim: And then the thrill is gone.
Mike: Unfortunately, by the time a lot of these drugs get to the market, the government drug approval regimen has taken so long that only a few years remain before their patents expire, at which point you get 14 other forms of the same drug or cheap generics to cut into the original manufacturer’s swag.
Jim: So these companies are always on a treadmill. But what makes Pfizer stand out is that it’s got more promising medicines in the pipeline. That’s not all. It’s a very low-debt company, which is remarkable when you consider it spent over $2 billion a year on research and development to come up with new drugs. And Pfizer is an excellent play on the so-called graying of America.
Mike: The aging of the baby boomers.
Jim: Right. And finally, Pfizer is a favorite with medical and doctor groups because of its powerful marketing capability--it’s got what is widely thought to be the strongest sales force. That’s why Monsanto and others are happy to let Pfizer help them sell products in joint ventures.
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Cadence Design (CDN)
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Jim: Buy
Mike: Buy
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Mike: Jim, our next stock is Cadence Design Systems, which I regard as an outfit that poses the question: How many PhDs does it take to screw up a company?
Jim: Yeah, this is a Silicon Valley company that has fallen from its once-lofty orbit.
Mike: Perhaps the problem is too many Stanford high-tech graduates and not enough Stanford business-school graduates.
Jim: But first how about explaining what they do, if you can? Cadence may be the biggest company in its business, but it’s not a household name by any means.
Mike: Sure. Cadence’s business is the development of automated systems for the design of integrated circuits--”chips.” Why do you need a whole industry devoted to helping another industry design its products? It’s because as silicon chips get more complex and powerful, they get to the point where the tiny transistors etched onto the silicon are cheaper and less important to the chip’s functioning than the microscopic wires connecting them together. To make the most economical and fastest chips possible, you need to design them so those connections are as short as possible--and finding the right design requires sophisticated software, which Cadence and its rivals provide.
Jim: Well done, partner. And that’s why many big chip makers are customers.
Mike: Right. But while helping the chip industry organize its designs, Cadence has fallen into disarray. Upper management has been in absolute turmoil. There have been three CEOs in the last couple of years.
Jim: The latest one just quit and has been replaced by the chief financial officer. And just so our readers know this isn’t some dinky little Nasdaq stock that we plucked out of nowhere, this is in fact a billion-dollar company with 4,000 employees. But this stock got hammered recently after the company shocked everyone by forecasting that both its revenue and earnings would be flat for the rest of the year.
Mike: Now, it’s not unknown in high-tech or anywhere else for a company to tell investors, “Guess what, our results are going to be a lot worse than you thought.” But what bugged Wall Street is that Cadence has basically blamed its ills on industrywide problems--which, oddly, don’t seem to be affecting its competitors much. So, goodbye credibility. The harvest has been a free fall in Cadence’s stock.
Jim: Early this year this stock traded in the low $30s. It now trades around $11 or $12. That’s just 10 times Cadence’s expected earnings for this year, and this is a company that’s been accustomed to a P/E of more than 25 for several years running.
Mike: Care to name some of Cadence’s missteps?
Jim: One is that the company was focusing on the service industry and apparently selling as many servicing contracts as it could without regard to the profit margins each was generating simply in order to build market share. The new CEO says he’s going to focus on just those contracts that are profitable, but that means its service revenue will droop. That didn’t go over very well on Wall Street.
Mike: So the question now is whether Cadence will continue going down the slippery slope? Or is it time to buy?
Jim: This might surprise you, but I’d say buy it.
Mike: Rats! I thought we were going to have a split vote on this one. But you agree with me that this stock has fallen so far it looks like the only way is up?
Jim: Let me put it this way: Cadence is a real speculative buy. My inclination was to pass on this stock for at least a few quarters while it gets its act together. But I see this outfit as a sitting duck for a takeover. It’s in disarray. The stock is selling for dirt. Yet it’s the leader in its industry, and it’s got products that, assuming the chip business is having an up cycle, will definitely be in demand. So I’d take a flier on Cadence being takeover bait.
Mike: Right. I would also point out that, at the moment, this stock is absolutely vilified by professional investors and securities analysts. We know that when they’re all heading in one direction, the smart investor strikes off the other way.
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Write or e-mail with a stock you would like to see discussed in this column. Times staff writer James Peltz (james.peltz@latimes.com) covers the markets and corporate financial trends. Times staff writer Michael Hiltzik (michael.hiltzik@latimes.com) covers technology and entertainment and is the author of the new book “Dealers of Lightning: Xerox PARC and the Dawn of the Computer Age.” Either can also be reached at Business Section, Times Mirror Square, Los Angeles, CA 90053.
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Pfizer
Monday: $114.63
Cadence Design
Monday: $11.31
