December 17, 2010 / 5:33 AM / in 7 years

Analysis: Pfizer investors debate shake-up, break-up

NEW YORK (Reuters) - Barely two weeks on the job, Pfizer Inc’s (PFE.N) new chief executive is already hearing calls to take dramatic action, including potentially breaking up the world’s largest drugmaker.

People walk past the Pfizer World headquarters in New York, February 3, 2010. REUTERS/Brendan McDermid

But some investors want CEO Ian Read to make more measured moves to get Pfizer’s house in order first to help its long-floundering stock.

Fund managers — including those who own Pfizer shares and those looking for a reason to — want Read, a 32-year Pfizer veteran, to cut costs, raise the company’s dividend and make smarter acquisitions.

“Investment banks may want to break the company up, but I don’t see that as a solution right now,” said Tom Villalta, lead portfolio manager for Jones Villalta Opportunity Fund, 2 percent of which is invested in Pfizer shares.

“Before starting to eliminate parts of the company, I’d like to see Pfizer on a firmer path, so it’s not acting from a position of weakness.”

Read took over last week after the abrupt resignation of Jeffrey Kindler, a lawyer who said he was worn out after nearly five years as CEO.

Pfizer on Thursday disclosed that it raised Read’s base salary to $1.7 million from $1.21 million and boosted his target annual incentive to about $2.6 million from about $1.2 million. Chief Financial Officer Frank D’Amilio also got a raise to a base salary of $1.2 million, up from $1.1 million.

Pfizer shares had lost more than a third of their value since Kindler took over in July 2006 and have the lowest forward price-to-earnings valuation of all large drugmakers except Sanofi-Aventis. (SASY.PA)

And Pfizer’s biggest challenge is still to come. Next November, the company faces U.S. generic competition to its Lipitor cholesterol treatment, the biggest selling drug in the world at $11 billion a year.

Some analysts have argued that selling some of Pfizer’s businesses would allow it to better capture the value of those assets and make the drugmaker easier to manage.

Goldman Sachs analysts said in a September research report that Pfizer’s individual businesses add up to a valuation of $24 per share, about 40 percent above current trading levels. They argued that the market is not recognizing the value of some of Pfizer’s non-pharmaceutical divisions, namely animal health, consumer health and nutrition products.

Goldman Sachs estimated a boost of up to 16.5 percent in 2010 earnings per share if those non-pharma divisions were split off.

WHEN BIGGER ISN’T BETTER

Pfizer became the world’s biggest drugmaker by sales after buying U.S. rival Warner-Lambert for $114 billion in 2000. It bulked up further with the $60 billion purchase of Pharmacia in 2003 and the $67 billion merger with Wyeth in October 2009.

“Pfizer has been an acquirer and has put together the largest drug company in the world,” said Jordan Schreiber, senior investment officer for Princeton Capital Management Inc, which does not hold Pfizer. “But the base is now too large for them to show any accretion and growth.”

Read, formerly global drugs chief and a consummate Pfizer insider, might seem an unlikely choice to tear apart his employer of the past three decades.

    “I think he is going to be causing evolutionary change ... Read’s job is: Get the company’s credibility back in the marketplace for the long-term holder,” said Scott Richter, who oversees the Fifth Third Disciplined Large Cap Value Fund.

    Richter is encouraged by Read’s experience in international markets, which could be key to future growth.

    “He’s got the potential to earn this credibility back,” Richter said. “I haven’t owned it (Pfizer) in a long time and I’m looking at it.”

    Like many rivals facing major patent losses, Pfizer has been unable to develop enough new medicines to replace Lipitor and other drugs. In Pfizer’s case, investors are particularly irked by that shortcoming, given that the company spends nearly $9 billion annually on research and development.

    “The biggest issue ... is we have poured billions upon billions of dollars down into an R&D pipeline that just hasn’t produced much of anything,” said David Heupel, portfolio manager of the $2 billion Thrivent Large Cap Growth Fund. “So let’s figure out a better way of doing this ... Something has to change here.”

    Under Kindler, Pfizer’s most significant strategic move was buying Wyeth, but the stock has not budged since.

    Investors are optimistic Read may exceed Pfizer’s cost-cutting goal from the Wyeth deal, largely through sales force layoffs, and that his extensive experience may allow him to find savings in many other corners.

    Bill Smead, portfolio manager of the Smead Value Fund, said Pfizer might need to take a scalpel to its R&D budget, the largest in the industry.

    “My guess is they could have more success with a smaller research budget” and by also selling off assets outside Pfizer’s core pharmaceuticals focus. “They shouldn’t choose rabbit trails that aren’t beneficial.”

    Peter Jankovskis, co-chief investment officer of OakBrook Investments, has considered buying Pfizer shares but remains concerned about the company’s “lack of a drug pipeline” and believes it needs more acquisitions to grow.

    Heupel said he would “like to see them make some bigger splashes” in buying products in new development areas.

    “They have bought things that are like $1 billion or so that were early stage,” Heupel said. “I’m not saying that’s not a wise use of cash, but it’s not going to incite any new shareholder base.”

    Pfizer’s deal-making track record is not without blemishes, notes Schreiber, who cites the company’s licensing deal with Medivation Inc MDVN.O involving an antihistamine that failed to prove an effective treatment for Alzheimer’s disease.

    “Pfizer’s drug output has been awful and they’ve had a lot of bad deals,” Schreiber said. “Investors would also react favorably to a series of dividend increases, share buybacks and acquisitions that are not seriously dilutive.”

    Pfizer took a step in that direction this week when it raised its dividend by 11 percent. Read has also started to make his mark, reorganizing his executive team to eliminate a layer of management under the CEO.

    “It’s too early to answer the question whether they will turn around,” Schreiber said. “I don’t see it happening quickly.”

    Additional reporting by Bill Berkrot; Editing by Michele Gershberg and Matthew Lewis

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