Investment Insider: Pharmaceutical industry's best years lie ahead

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The Independent Online

I have heard many experts say that the best days of the pharmaceutical sector are behind it.

Drug developers are finding it harder to come up with new medicines – it is not easy to find a new statin or cholesterol-buster to compete with existing medications. Consequently, companies are forced to go to greater lengths to find new treatments as patents expire and me-too drugs appear.

That said, big pharmas such as GlaxoSmithKline boast a bulging pipeline of drugs in late-stage development. Many of these show promise and GSK expects a slew of drugs to gain regulatory approval in the next two years.

But for now, it has been a case of managing costs and generating cash from existing products. It is also keeping shareholders sweet by hiking its dividends. A prospective dividend yield of 5 per cent is welcome when stock markets are volatile. At 1,435p the shares are valued at around 11 times earnings, which is not too demanding.

AstraZeneca is going through similar patent-expiry pains. In the first quarter, revenues fell 11 per cent after it lost exclusivity on key brands. In fact, the fall for the year is likely to be in the mid-teens and the chief executive is to retire early. The shares are valued at eight times earnings which reflects the pessimism over future profits. But, there are no indications it intends to cut its dividend.

For investors with an eye on growth, Shire's business is founded on a strategy of buying young drugs from small biotechnology outfits and developing them. This has worked well with profits more than trebling in four years. The company does pay a small dividend, but rather than ratchet up its payout, Shire prefers to plough most of its earnings back into the business.

Hikma is another highly-rated growth company. It began as a one-product outfit with a bacterial infection-fighting drug. Today, it is a £1.3bn business that has doubled its sales and profits in four years . It is a good example of a Garp – Growth At a Reasonable Price – share, with a price/earnings to growth (PEG) ratio of 0.5. Ideally, you want a PEG ratio of less than one.

David Kuo is director financial website

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