Distracted Astrazeneca, only for now though

Unlike most Big Pharmas – which had a tough time post the COVID-19 outbreak, AstraZeneca witnessed a phenomenal run, with its share price hitting an all-time high in mid-July 2020. This euphoria was largely driven by the firm’s decision to develop a ‘low-priced’ and logistically easy to manage COVID-19 vaccine. Despite no major prior vaccine development experience, the JV with Oxford and sizeable R&D grants from various governments set the ball rolling for AstraZeneca.

Massive peer outperformance …

 … fizzled out H2 onwards

The fortune reversal materialised, despite stellar 2020 operational performance – with the group managing 10% CER sales growth vs. 1% and 3% for Roche and Novartis, respectively. Besides the benefit of a relatively less mature / newer product portfolio, the administration convenience of its key drugs – only two out of top-10 drugs requiring administration in a hospital setting – helped sustain sales momentum in a pandemic-marred year. Moreover, the much-needed profitability turnaround – ‘reported’ operating profit up 81% to $5.2bn – was overlooked. There were various reasons for the markets’ waning interest in AstraZeneca.

Rumours of Astra-Gilead union

Media reports suggesting AstraZeneca having informally approached Gilead for a possible merger in May 2020 never seemed right in the first place. Given the lack of business overlap between the two firms – and, hence, the absence of operational synergies, no rationale for Gilead’s shareholders to accept an offer – given Gilead’s 35% share price discount to all-time-high of July 2015, and potential diplomatic tensions between the US and the UK over the domicile of the combined firm, this merger rumour vanished quickly. But it brought to the fore the desperation of Astra’s management to speed up growth.

Joining the COVID-19 race

Even before the Gilead ambitions unfolded, Astra-Oxford, in April 2020, entered into an agreement to develop and distribute a COVID-19 vaccine. While being regarded as a front-runner in the beginning, Astra has gradually been losing momentum in this race. Besides a series of slip-ups in trials – resulting in various (regulatory) question marks being raised, lower efficacy vs. m-RNA-based candidates from Pfizer-BioNTech and Moderna, numerous supply delays – resulting in tensions with EU, and now growing (blood clot-related) safety concerns have jeopardised Astra’s vaccine efforts. Overall, these concerns highlight Astra’s lack of vaccine experience and, hence, again question management’s strategic decision making.

Then the mega Alexion deal

In December 2020, Astra announced the $43.5bn acquisition of the US-based Alexion, a rare disease specialist. While this would open doors to a growing therapeutic area and reduce the excessive oncology dependency at present (>40% of sales), the dilution risk (60% of deal to be financed through shares), $14bn cash payment warranting further leverage build-up (besides 2020-end gearing of 77%) and, hence, no scope for near-term dividend growth has possibly unnerved investors. With Astra’s shares crashing c.8% since the deal announcement – also due to vaccine fears, terms being sweetened for Alexion’s shareholders cannot be ruled out.

Hence, Astra’s shareholders should forget any near-term (cash flow) gratification, despite much-higher sales and profitability – in case this deal closes in Q3 21 (as guided by management). Remember, management has already ruled out dividend growth for 2021.

But critical greenshoots are underway

After material erosion, Astra’s operating margins have finally started to recover. Besides the top-line euphoria – supported by high margin oncology, operating expense optimisation via normalising R&D and SG&A (vs. past years and peers) should drive a meaningful margin progression (evident below).

Finally closing operating margin gap vs. peers

Another critical differentiator is Astra’s focus on high-potential Chinese market – accounting for 20% of 2020 sales vs. average 9% for AV Big Pharmas. This is an important head-start, especially when (risk of) pricing headwinds in mature markets are here to stay.

Above-discussed tailwinds, along with an impressive arsenal of oncology money-spinners like Tagrisso (2020 sales of $4.3bn; +36%; peak sales potential of >$10bn), Imfinzi ($2.0bn; +39%; >$4bn), and Lynparza ($1.8bn; +49%; >$5bn) – with numerous approvals lined-up through to 2022 across indications and geographies, and an overall oncology pipeline of >100 assets, translate into impressive average 30% EPS growth through to 2023 vs. 15% for Big Pharmas.

Worth a go at current levels

After trading in expensive territory for the best part of 2020, the sustained sell-off in AstraZeneca has opened an attractive window of opportunity. This is backed by healthy upside on fundamental metrics, i.e. both DCF (+17%) and NAV (+8%), respectively.

While Astra is definitely not for investors seeking conventional dividend safety net of Big Pharmas – average 4% dividend growth (2020-23) vs. ‘flat’ for Astra, its impressive cash flow/EPS growth comes at a compelling PEG of 0.8x vs. 1.8x for peers. 

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