In August of last year I concluded that Merck (New York Stock Exchange:MRK) showed a “turbid no-keytruda” performance. Although the non-Keytruda sales are not that inspiring, I believed that the general valuations and expectations were low, which caused me to take a position in stocks with great conviction.
Since this time period, the stock is up 30%, which in itself is quite impressive, but certainly a great result considering the overall disappointing performance of the market since this time period.
Before the pandemic, Merck was a company that generated nearly $47 billion in sales in 2019, earning $5.19 per share. Being an $80 share, valuations weren’t too demanding with only 15-16 times earnings, certainly as the company targeted 2020 sales to rise to roughly $49 billion, with earnings estimated to be around $5.70. per action. The reason for the undemanding multiples was the fact and curse that Merck has Keytruda in its product line, a blockbuster drug, with investors clearly concerned about its growing reliance as well.
The pandemic slowed the company to a lesser extent. In the end, sales increased 2% to $48bn, though reliance on Keytruda increased as its sales rose 30% to $14.4bn that year. Guidance for 2021 was comforting, calling for sales to rise to nearly $53 billion with earnings seen at more than $6.50 per share. With stocks trading in the 1970s, the overall valuation was very low, no doubt because we were in a low interest rate environment at the time, forcing me to buy stocks in the 1970s as I kept increasing my stake.
The company updated guidance throughout the year, with sales of $47 billion if we remove the $6 billion revenue contribution from Organon (OGN) which was spun off, as earnings dipped to $5.50 per share. Additionally, the deal allowed Merck to reduce net debt to $18 billion, resulting in a very modest leverage figure. The only downside is that trust in Keytruda continued to rise, reaching 30-something percentages.
Despite this dependency and uninspiring growth outside of Keytruda, I turned to Merck given the strong balance sheet, full portfolio and undemanding valuation.
With stocks ranging around the $80 mark since August of last year, stocks have recently seen a big boost, trading as high as $100 at the moment, as stocks are finally breaking above their set highs around the 2000s.
Earlier this year, the company aware a very strong annual revenue figure of $48.7 billion (essentially $55 billion including Organon), up 17% from the prior year. Keytruda’s sales increased 20% to $17.2 billion, increasing its share to 35% of sales. Non-GAAP earnings came in at $6.02 per share, beating guidance by a comfortable margin.
Additionally, the company is headed for a very strong 2022 with sales estimated at a midpoint of $56.8 billion and earnings estimated at around $7.20 per share (on an adjusted basis).
The company started the year in spectacular fashion with a 50% increase in first-quarter sales to $15.9 billion, as the company road the guide’s full-year midpoint at $57.5 billion in sales. Keytruda’s $4.8 billion quarterly revenue contribution was a big driver behind this growth, up 23% from the previous year. The real contribution came from LAGEVRIO. This COVID-19 treatment drug generated $3.2 billion in sales in the quarter.
Second quarter sales rose 28% to $14.6 billion, including a much more modest LAGEVRIO revenue contribution of $1.2 billion. The midpoint of full-year revenue guidance rose to $58 billion, despite intensifying headwinds from a strong dollar.
Third quarter sales increased 14% to $15 billion, with LAGEVRIO sales down to just $436 million. Excluding this revenue contribution, revenue growth was 10%, but this included a 4% headwind due to the strong dollar. It’s reassuring that growth outside of Keytruda has accelerated into the high single digits, reassuring as a $5.4 billion revenue contribution from Keytruda (at $22 billion a year here) further increases reliance on this drug, buoyed by broader adoption and approvals, it must be said.
Full-year sales are now seen between $58.5 and $59 billion. This suggests fourth quarter revenue between $13.1 and $13.6 billion, which feels a bit light. This is also seen in earnings guidance as a non-GAAP earnings number of $5.86 per share year to date will only rise to $7.35 per share for the year.
So far, no Form 10-Q has been filed for the third quarter as net debt stood at $21 billion and changed during the second quarter of the year.
The reality is that the market’s shift from growth to value has resulted in a re-rating of Merck’s valuation, aided by strong year-to-date growth. A multiple of 12-13 times based on $6 a share earnings power last year has expanded to about 14 times earnings of just over $7 a share here. Therefore, growth is driven by a higher valuation multiple and earnings growth, driven by outperformance of the business. Of course Keytruda still drives it heavily, but non-Keytruda sales are starting to pick up again, although reliance on Keytruda continues to rise following the rapid growth in sales of this particular product.
Right now the situation is pretty stable and bullish around Merck here as the company is in full execution mode. The goal is to just run here, reduce leverage, and maybe look at additional deals. Of course, we have seen rumors about a Seattle Genetics (SGEN) deal this past summer, a potential massive deal in which the target could be valued at $40 billion. This is, of course, a staggering amount, although Merck’s valuation has risen to $270 billion.
Right now, given the outperformance and slightly higher multiple on a rapidly rising interest rate, I don’t see any reason to add to my position here, but I think it’s too early to take profit, leaving me cautiously sitting on my position. which generates very decent profits. .