Friday, September 14, 2012

TEVA Pharmaceuticals: Should I add it to the portfolio?

David Fish of Seeking Alpha publishes the Dividend Champions list and keeps it updated regularly.  You can download a free copy of his extensive spreadsheet here:

The spreadsheet, commonly called the CCC list, divides companies into three categories of dividend payers:  Champions: payers of increasing dividends every year for at least 25 consecutive years;  Contenders: dividend increases for 10-24 years; and Challengers: 5-9 straight years.  The CCC is an excellent source to find great companies for long term investing and building a successful dividend growth portfolio.

From the Contenders list, I found TEVA, an Israeli generic drug maker.  TEVA has been paying an increasing dividend for 13 consecutive years, and it's current yield is 2.45%.  TEVA pays a quarterly dividend;  they increased it this past quarter by 10%;  for the past 5 years, their dividend growth rate is 24.1%, and for the past 10 years, their DGR is 30%.  Current payout ratio is a safe 30%.  2012 revenue is up over 18% vs. 2011, and earnings are expected to be up around 24% vs. prior year, though through the second quarter TTM comparison shows growth in earnings of only 2.4%.

As you can see, their dividend track record is stellar.  Next, I'll look at valuation and earnings.

Above is a look at earnings and share price for the past 20 years.  The black price line follows the green EPS level very closely until about 2007.  Here, TEVA starts to fall below fair value.  The normal PE paid for TEVA the past 20 years is 23.2 (blue line), and at current prices, TEVA's PE is 8.0.  This shows a significant undervaluation.  Over this historical period, TEVA has grown earnings at a rate of 21.4%.

Per my investment guidelines, I like to look at PE for the past 6 years for a more recent snapshot of the what the market is paying for a stock, including during the "great recession."  The chart below shows a six year historical look:

While the PE that the market has given TEVA the past six years is lower, 15.1 over this period vs. 23.2 over 20 years, the current PE of 8 still looks very attractive and well below fair value.  (NOTE:  the yield today is actually 2.45%, based on the latest 2012 dividend data, the 1.9% in the FAST Graph above is based on the 2011 annual dividend, and is not up to date).

Another interesting metric for valuation is price/sales ratio.  See the chart below:

The price/sales ratio for this stock has been as high as 5.5; today it's at 1.75, an historically low level as indicated by the blue price/sales ratio line.

As mentioned at the top, the dividend performance of the firm has been great recently:

The chart above shows the recent dividend growth.  Not shown is their latest increase on July 31, 2012 from $0.89 to $0.98, an increase of about 10%.  An investment in TEVA back in 1998 would have returned an annualized 14.8% vs. an S&P annualized return of 4.1% over the same period.

Looking forward, the consensus of the 28 analysts covering the stock is a 5 year growth rate of 7.8%.

Based on estimated earnings this year of $5.36/share, and normal PE of 15.1, the price of TEVA should be around $80 (third orange triangle from the left).  Based on the above estimates for earnings growth, the stock should reach $117 over the next 5 years for an estimated return of 23.2% (last orange triangle on the right).  The black line shows that today's price is well below fair value, and due to rise more rapidly than the orange line that represents projected growth in earnings.

What are the analyst reports and others saying?
On a scale of 1-10, the average analyst ranking is a bullish 8.5/10, with some holds, some buys, but no sell recommendations.

Seeking Alpha, my favorite resource for stock information, has several relevant articles linked here:

Everything I'm reading points to continued strong performance for the long term.  The major short term concerns around this stock seem be focused on maintaining exclusivity for a drug call Copaxone until 2015.  Here is an update from TEVA's earnings call on August 2, 2012:

While a negative outcome around this exclusivity could impact financials over the coming year or two, the long term picture for the stock looks very positive, and I'm a long term value investor.

  • Great history of growth in revenue and earnings.
  • I like generics to combat rising healthcare costs, Obamacare, and aging baby boomers
  • They've been raising the dividend aggressively for 13 years
  • The stock is severely undervalued at today's price in the low $40s.
  • I'm going LONG TEVA!
9-21-12 ADDENDUM

Just a note on the dividend.  Because TEVA is an Israeli company, and 25% tax is deducted from the dividend before it's paid to share owners in the U.S.  Here is a statement from the company's most recent 20-F filed with the SEC:

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