Royalty Pharma: Stock with stability during bear market volatility

Solskin

A stock that is likely to hold up better than average during the bear market is Royal Pharma plc (NASDAQ:RPRX). The company is the largest buyer of biopharmaceutical royalties. Royalty Pharma is also a leading company that provides funding for innovation throughout the biopharmaceutical industry. The company’s strong growth and reasonable valuation may lead the stock to outperform over the next year and hold up well during the bear market.

Royalty Pharma is focused on acquiring biopharmaceutical products that are early in their life cycle. Royalty works with innovators from non-profit organizations, academic institutions, and biotech and pharmaceutical companies of various sizes (small to large capitalization).

The company holds a royalty portfolio that provides RPRX with payments for the sales of many flagship products. Examples of drugs Royalty receives payments from are: Biogen’s (BIIB) Tysabri, AbbVie (ABBV) and Johnson & Johnson’s (JNJ) Imbruvica, Astellas (OTCPK:ALPMY) and Pfizer’s (PFE) Xtandi, Gilead’s (GILD) Trodelvy, and Januvia from Merck (MRK).

Growth prospects

Royalty Pharma’s recent Q3 2022 earnings call revealed a success the company can build on moving forward. Net cash increased 15% to $539 million while adjusted cash flow increased 26% to $441 million. The increase in adjusted cash flow was primarily attributed to differences in the size of orphan development milestone payments in Q3 2022 compared to Q3 2021.

The company has completed $3 billion in transactions since the start of the year. This includes an R&D funding collaboration with Merck. RPRX has 40 projects in late-stage development, which positions the company well for future growth.

Royalty has significantly increased its adjusted cash revenue forecast for the full year. The company now expects adjusted cash inflows to grow 29% to 32% for the full year, compared to a previous forecast of just 7% to 10%. This increased focus should help catalyze the stock over the coming months as investors anticipate strong fourth quarter results.

The RPRX expects two Phase 3 results by the end of the year for the following drugs: cabometyx in combination with immunotherapy and gantenerumab for Alzheimer’s disease. The company also expects phase 3 results for up to 7 drugs in 2023: examples include: Xtandi for non-metastatic prostate cancer, seltorexant for major depressive disorder, zavegepant for migraine prevention and aficamten for hypertrophic obstructive cardiomyopathy.

The following FDA decisions are expected in 2023: Trodelvy for HER2-negative third-line hormone receptor breast cancer, Omecamtiv for heart failure, and intranasal zavegepant for migraine. PT027 just received FDA approval on November 9, 2022 for the treatment of asthma in people aged 18 and older. The newly approved drug and if other pending approvals are cleared by the FDA, the company will have new sources of royalties.

Royalty earns high margins, which helps drive its earnings growth. RPRX has a gross margin of 61.6%, an EBITDA margin of 42.5% and a net profit margin of 22.6%. This is above the GM industry median of 54%, EBIDTA margin of 3% and net income margin of -4.3%.

Royalty Pharma is expected to grow earnings at an average rate of around 11% per year over the next 3-5 years (consensus). This double-digit growth should help push the stock higher in the long term if it is achieved successfully.

Evaluation

RPRX is trading with a low forward PE of 12.5 and a PEG of 1.14. The forward PE is based on an expected EPS of $3.49 for 2023, while the PEG is based on the estimated average annual EPS growth of 11% for the next 3-5 years.

The royalty valuation is below the biotech industry’s forward PE of 30.1 and PEG of 1.3. Royalty Pharma is also trading below the S&P 500 (SPY) forward PE of 17.4 and PEG of 1.5. So, I see RPRX as a good deal in today’s market with room for PE expansion as the company continues to grow.

Technical outlook

Royalty Pharma Stock Chart Rising Crossover RSI MACD

stockcharts.com

The weekly royalty chart above looks positive. The stock rose from the support in the $30s. The RSI indicator broke above the 50 level, showing bullish price strength. The green MACD line is about to cross above the red signal line, indicating a possible trend change to positive. The positive price action is likely to continue as the company recently raised its guidance for 2022 in the latest earnings call.

The balance sheet

Fitch has assigned RPRX a rating of BBB- with a stable outlook. Fitch noted that this reflects the company’s strong portfolio of high-quality royalty streams and cash flow. The rating note also pointed out that these strengths were partially offset by the sales risks associated with the portfolio’s biopharmaceuticals. He also pointed out that there is uncertainty for products in development that have not yet been approved by the FDA.

Royalty has total cash and cash equivalents of $992 million, total debt of $7.1 billion and net debt of $5.6 billion. The balance sheet shows 2.4 times more total assets than total liabilities for shareholders’ equity of $10.4 billion. These numbers put the company in a good position to effectively manage short- and long-term debt.

Royalty’s positive cash flow also allows the business to run efficiently with the flexibility to accomplish several things such as paying dividends and growing the business. RPRX had $2 billion in operating cash flow over the past 12 months.

Royalty Pharma long-term outlook

RPRX has some stability to weather the bear market. The company is diversified with many royalty-producing drugs in its portfolio. As a result, the stock should hold up better than average during market declines. This is evident in the stock’s low beta of 0.34 compared to the S&P 500’s beta of one. Betas below one indicate that the stock has experienced less volatility than the broader market. This puts Royalty Pharma shares in a good position during the current market volatility.

The low valuation of the stock leaves room for greater price appreciation. The increase in royalty forecasts for the full year provides a positive catalyst for the coming months. The Company’s pipeline of potential FDA approvals has the potential to drive future growth through increased royalty payments.

Analysts have a one-year price target of $54 for the stock. This is 24% higher than the current price. The price target of $54 would take the PE to 15.5 based on an expected EPS of $3.49 for 2023. Sounds reasonable to me.

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