J&J Lags as Pfizer and Merck See Gains

At the current levels, we believe Roche's ADR (OTCMKTS: RHHBY) is undervalued. The YTD -19% return for RHHBY marks an in-line performance with -21% returns for the broader S&P500 index since early January when its stock fell from $52 to $42 now. 

Looking at the longer term, RHHBY stock is up only 3% from levels seen in late 2019. This marks an underperformance compared to some of its peers and the broader markets, with Johnson & Johnson stock rising 22%,

The 3% increase in RHHBY stock since late 2019 can be attributed to 1. Roche’s earnings, which rose 7.0% to $2.72 in 2021, compared to $2.54 in 2019, on a per share and adjusted basis, partly offset by 2. the company's P/E ratio, which fell 4.1% to 15.3x trailing adjusted earnings currently from 16.0x

In addition to the increase in sales of its established drugs, including Perjeta, Kadcyla, Alecensa, Tecentriq and Actemra, Roche’s relatively new drugs also contributed to the company's growth. These drugs generated $24.4 billion in sales in 2021 which is an increase of 21% compared to last year. They are expected to be the key growth drivers as Roche fights against biosimilar competition for its top-selling products: Avastin, Herceptin and Rituxan whose combined sales fell by a significant 54% from $19.8 billion in 2019 to $9.1 billion in 2021.

The company’s top-line grew by 11% on a constant exchange rate basis in its latest quarterly results, with the diagnostics business seeing a 24% rise and pharmaceuticals up 6%. Covid-19 cases contributed to the surge in demand for testing from the company's diagnostics business.

This year, some of Roche's clinical trial findings were not favorable. Its Alzheimer’s treatment - Crenezumab - failed to slow or prevent cognitive decline in Alzheimer’s patients. The company's immunotherapy - Tiragolumab - could not meet its endpoint in a late-stage clinical trial for a lung cancer subtype. If successful, both of the above drugs would have been potential blockbuster drugs. Roche will continue to examine Tiragolumab while it has another Alzheimer's treatment - Gantenerumab - in the pipeline.

Roche will continue to face headwinds from biosimilar competition and is likely to see a sales decline from lower demand for Covid-19 testing. A slowdown in global economic growth due to rising inflation isn't good news, either. The S&P500 has entered the bear market territory with rising concerns of slowing economic growth, given the high inflation, Fed action, and supply chain disruptions.

But, most of these factors have already been priced in by the investors, given the drop in RHHBY stock's value. We estimate that at its current levels, RHHBY stock is trading at just 15x forward adjusted earnings, compared to the last three year average of 17x, making it attractive from a valuation point of view.

Peer Comparisons can be very helpful when you're looking at stocks in different industries and trying to find some valuable comparisons for companies across the board, as is the case with RHHBY stock right now. The Covid-19 crisis has created many pricing discontinuities that can offer attractive trading opportunities, such as IDEXX Laboratories vs Entegris.

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