AMERISOURCEBERGEN 1Q16 RESULTS
Results Versus Expectations: Stock Overreacts
AmerisourceBergen (ABC: $78, down $6) The stock experienced a sharp decline following the release of the March quarter results. There are two issues to address. Here is what happened in the quarter:
First, EPS came in at $1.68 per share a solid 16% gain and a full $0.09 above expectations. Revenues increased 9% to $36 billion and that was exactly what Wall Street expected. So from this standpoint, all well. Wall Street headlines called it “a revenue miss.” We strongly disagree.
Secondly, the company is cutting full year earnings guidance to $5.44-$5.54 a share from the previous range of $5.71-$5.82. They offered a 4%-6% increase in profit expectations for the September 2017 year-end.
Here is the source of the problem and what we will be watching closely. The mix of business between branded and generic drugs is shifting to a greater degree toward generics than we expected. In addition, price deflation in generics is taking place at a faster pace than in the past. Distributors benefit when new drugs come onto the market at higher prices or when prices are increased on existing drugs. In the past when the patent on a drug expired, there was a large price drop after which pricing on the generic was relatively stable. This new data is being taken into account in the revised earnings guidance.
The stock market typically overacts to the slightest earnings surprise, whereas traders act solely on headlines. This is where key fundamental news is ignored. Listen to this good news: during the quarter, the company extended its $400 billion long-term distribution agreement with its biggest customer Walgreens Boots Alliance. Recent acquisitions (see basic research report on the website for details) are integrating well and contributing to growth. The Company also announced it authorized stock repurchases of up to $750 million.
Stock Price Overreaction Creates Special Opportunity
The news on generics is disappointing and not the best situation should this worsen. We don’t believe it will but we will be watching generic pricing like a hawk from this point. The stock is selling at 14 times expected EPS for the September 2016 fiscal year. Even with lowered expectations, earnings growth is outpacing the economy while the stock is selling at a discount to a stock market valued at 21 times. The dividend was increased 17% last quarter and the current $1.36 offers a 1.7% yield. Altogether this represents the best value for AmerisourceBergen in many years.