Biotech Giant Gilead Sciences Goes on Sale

I’m pretty sure my reaction to big stock market swings is different from that of most other investors. When stocks are on a roll, as they were in 2013 and 2014, I get increasingly nervous. By the time most investors have reached a state of irrational exuberance, I’m practically paralyzed with fear. When the market slumps, as it did early this year, I become euphoric and immediately start dusting off my wish list of stocks that I want to own.

As a result, I’ve gone on a bit of a buying binge this year, snapping up shares of five companies for my Practical Investing portfolio. I already held two of them, Apple (symbol AAPL, $109) and American Capital (ACAS, $15), and added to my positions when I thought they had become too cheap. Since my recent purchases, Apple has gained 14% and American Capital has climbed 9%. (All share prices and returns are as of March 31.)

New additions to the portfolio this year are General Motors (GM, $31), Gilead Sciences (GILD, $92) and AV Homes (AVHI, $11). As I mentioned last month, I bought GM because I thought the stock, selling at 5.5 times projected 2016 earnings and paying a generous dividend, was too inexpensive to pass up. So far, so good. Including a dividend payment, I earned 11% on my GM purchase in a month.

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I bought the other two stocks for similar reasons: They’re good companies, and their stocks reside in the bargain basement. I’ll provide more details about AV Homes, the smallest firm in my portfolio, next month.

Gilead is not small. The world’s most valuable biotech company, with a market capitalization of $124 billion, Gilead has grown at a blistering clip in recent years. Revenues in 2015 soared 31% from the year before, and profits jumped a stunning 62%. The stock, however, was selling for a paltry 7 times estimated 2016 earnings when I snapped up 150 shares at $90.81 each.

Strangely, the remarkable success of Sovaldi and Harvoni, Gilead’s drugs for the treatment of hepatitis C, goes a long way toward explaining the stock’s absurdly low valuation. The hepatitis C virus—a blood-borne killer that can go undetected for years—is believed to affect as many as 5.2 million Americans. Harvoni, in particular, has a much higher success rate and fewer side effects than the drug cocktails that were used to treat hepatitis in the past.

Sovaldi and Harvoni are classic examples of what the drug industry calls blockbusters. They accounted for 60% of Gilead’s 2015 revenues of $32.6 billion. But the drugs have been so successful at curing hepatitis C that fewer patients are expected to need them. That, coupled with increased competition from other drugs, may suppress future sales and prices.

And speaking of drug prices, what Americans pay for meds has become a hot political issue. Lawmakers have criticized Gilead for the astronomical prices it charges for Harvoni and Sovaldi. That raises the specter of drug-price regulation, a serious threat for biotech companies.

Unfavorable ruling. Finally, a jury recently sided with Merck in a lawsuit that contended that Gilead infringed on two Merck patents related to a key ingredient in both hepatitis drugs. Gilead is appealing. But if the ruling stands, Gilead may need to pay royalties on past and future sales, which would likely cut into profits.

All of these factors are expected to stymie Gilead’s growth, at least temporarily. Analysts expect both sales and earnings to dip by 3% in 2016. But Gilead’s track record suggests that its days as one of the preeminent growth companies in health care are far from over. Gilead is developing other antiviral treatments and cancer drugs, and it has been a wise buyer of small firms that have promising products in development. Bottom line: At today’s valuation, Gilead is a risk worth taking.