Pfizer: Still Limited Upside

At the current level, Pfizer Inc. (PFE - Analyst Report) is trading at 7.7x our 2009 EPS estimate of $1.91. Following the announcement of the planned Wyeth Pharmaceuticals (WYE) acquisition, we downgraded our recommendation on the shares from ‘Buy’ to ‘Hold.'

Our Hold recommendation is based on our reservations that Wyeth will provide the opportunity to grow revenue for the long-term, the significant reduction in the company’s net cash balance and the substantially lower than expected financial guidance for 2009. Pfizer’s decision to cut its dividend also contributed to our downgrade.

Management’s revenue guidance for 2009 of $44 billion to $46 billion implies a decrease of 5% - 9% as key drugs struggle to post positive revenue growth and foreign exchange negatively impacts results. Pfizer expects EPS in the range of $1.85 - $1.95 including lower interest income and a higher tax rate related to the proposed Wyeth acquisition.

We believe that Wyeth will not provide enough in the form of new products to grow Pfizer’s top-line due to the ever-increasing generic competition to key products of both companies. We believe Wyeth only makes Pfizer bigger and slower, and EPS growth will only materialize with further cost-cutting for the foreseeable future. We do not believe this is a model for long-term outperformance.

The acquisition will also significantly reduce the company’s net cash position in order to fund the $45 billion cash and debt portion of the purchase price. Repatriating funds from overseas will increase the company’s tax rate to about 30% in 2009 and likely longer as the company funnels cash back to the U.S. to pay down its debt balance. And while Wyeth will bring with it roughly $7 billion in net cash, Pfizer’s interest income will turn to an expense following the recent and future debt issuances.

While we do not believe Wyeth with provide the impetus needed to grow revenue long-term, the relatively cheap price of the shares and the potential to "manufacture" EPS growth in the form of cost-cutting make Pfizer worth holding. The dividend, while cut in half, will yield roughly 4.4% at today’s price. Our price target is $16.00, representing 8.4x our 2009 EPS estimate of $1.91.