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3 Generic Drug Stocks to Watch Amid Continued Pricing Pressure

Despite the easing of COVID restrictions, sales of generic drugs are declining in 2022 due to pricing pressures faced by the generic drugmakers in the United States. Nonetheless, product launches have been providing some top-line support. Approval of more biosimilar products will help generic drugmakers accelerate top-line growth, as it will likely have less competition due to development complexity leading to higher price realization.

Companies like Teva Pharmaceutical TEVA, Dr. Reddy’s Laboratories RDY and Sol-Gel Technologies SLGL are poised to beat the COVID-19 challenge on the back of continued demand for their existing products, product launches and other favorable macro factors

Industry Description

The Medical - Generic Drugs industry comprises companies that develop and market chemically/biologically identical versions of a brand-name drug once patents, providing exclusivity to branded drugs, expire. These drugs can be divided into 2 categories — generic and biosimilar — based on their composition. The generic segment is controlled by a few large generic drugmakers and generic units of large pharma companies. However, several smaller companies also develop generic versions of branded drugs. These drugs are significantly cheaper than the original drugs. Competition in this segment is stiff, which results in thin margins for manufacturing companies. A few companies in this industry also have some branded drugs in their portfolio, which help them to tap a higher-margin market.

3 Trends Shaping the Future of the Generic Drugs Industry

Loss of Patent Exclusivity of Branded Drugs:Generic drugmakers mainly rely on the loss of patent exclusivity of branded drugs. They apply to the FDA for the approval of their generic or biosimilar version of branded drugs, which have lost patent protection. Patent loss of blockbuster drugs like AbbVie’s Humira provides significant opportunities for generic drugmakers. However, these generic drugmakers may have to face litigation to market the generic version of these drugs. They may have to wait for several years before being able to launch an approved generic drug. A company may launch an authorized generic version of a branded product, gaining exclusivity for several months over other generic versions of the same drug. Although developing biosimilars is a complex process, the generic players have already launched a few.

Stiff Competition and Pricing Pressure:The generic drug industry faces stiff competition and pricing pressure. The market is already crowded and faster approval by the FDA will bring in more generic drugs. Although the pricing environment showed some signs of stabilization in the last two years, it continued to hurt sales of several players during the past few quarters. The trend is likely to continue in future quarters as well. The launch of generic/biosimilar products should strengthen the businesses of major generic drugmakers amid the coronavirus pandemic. With several biosimilar drugs set for launch over the next couple of years, the top line of the industry players is likely to improve greatly due to the potential of attracting higher prices.

Patent Settlements: The successful resolution of patent challenges continues to be an important catalyst for the growth of generic drugmakers, as these can lead to product launches. The settlement of these challenges accelerates the availability of low-cost generic products and removes uncertainties associated with litigation. However, active patent challenges require litigation, thereby leading to higher costs.

Zacks Industry Rank Indicates Sunny Prospects

The Zacks Medical – Generic Drugs industry is a small 17-stock group housed within the broader Zacks Medical sector.

The group’s Zacks Industry Rank is basically the average of the Zacks Rank of all the member stocks. The Zacks Medical – Generic Drugs industry currently carries a Zacks Industry Rank #97, which places it in the top 39% of the 251 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Against this backdrop, we will present a few noteworthy stocks. But before that, it’s worth taking a look at the industry’s stock market performance and current valuation.

Industry Underperforms S&P 500 and Sector

The Zacks Medical – Generic Drugs industry has underperformed the broader Zacks Medical sector and the S&P 500 Index in the past year.

The industry has declined 39.6% over this period compared with the broader sector’s 24.2% decrease. Meanwhile, the S&P 500 has declined 12.2% in the said time frame.

One-Year Price Performance

Industry's Current Valuation

On the basis of forward 12 months price-to-earnings (P/E F12M), which is a commonly used multiple for valuing generic companies, the industry is currently trading at 8.15X compared with the S&P 500’s 17.26X and the Zacks Medical sector’s 20.76X.

Over the last five years, the industry has traded as high as 13.61X, as low as 5.51X, and at the median of 9.58X, as the charts below show.

Price-to-Earnings Forward Twelve Months (P/E F12M) Ratio

 

3 Generic Drug Stocks to Keep an Eye On

Teva: The company is a leading generic drugmaker globally, generating the majority of its revenues from the United States and Europe. Teva commands a share of around 9% in the U.S. generic market. Teva is seeing the continued growth of its new drug, Austedo’s prescriptions and market share growth for another newer medicine, Ajovy. Generic revenues are improving in Europe and the United States. With improving operational efficiencies and significant debt reduction, the company may see better growth in a couple of years. In July, Teva reached a nationwide settlement to resolve most of its opioid-related litigation. The proposed nationwide settlement for the costly opioid litigations removes a significant overhang for Teva.

The consensus estimate for 2022 has improved from earnings per share of $2.47 to $2.55 over the past 60 days. The stock has risen 12.4% in the year so far.

TEVA carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank stocks here.

Price & Consensus: TEVA

Dr. Reddy's Laboratories: The company enjoys a strong position in the generics market. During the last few quarters, the company is estimated to have launched approximately 30 new products in North America. In the first quarter of fiscal 2023, Dr. Reddy's witnessed increased in market share for many existing products, which helped to partially mitigate the impact of pricing erosion. The company’s COVID portfolio and new product launches have been driving the annual growth. During this quarter, the company launched seven new products in North America. We expect the trend to continue going forward.

The consensus estimate for fiscal 2023 (year ending March 2023) earnings has improved from $2.48 to $2.65 over the past 60 days. The stock has declined 18.4% in the year so far.  Dr. Reddy's has a Zacks Rank #3.

Price & Consensus: RDY

Sol-Gel: It is a dermatology company engaged in developing generic topical drug products for the treatment of skin diseases. Sol-Gel recently received FDA approval for two proprietary skin treatment drugs. It also sold its rights to certain generic collaborative programs. The company believes that its cash resources will fund its operational and capital expenditure requirements through the end of 2023.

The consensus estimate for 2022 earnings has narrowed from 49 cents to 37 cents over the past 60 days. The stock has declined 22.2% in the year so far. Sol-Gel carries a Zacks Rank #3.

Price & Consensus: SLGL


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