Valuation of Pfizer

21
Pfizer was founded in 1894 by Charles Pfizer and Charles Erhart. By the 1950s,
Pfizer was established in Belgium, Brazil, Canada, Cuba, Iran, Mexico, Panama,
Puerto Rico, Turkey, and the United Kingdom. The company is headquartered in
New York. The stock is listed in NYSE, LSE, Euronext, and Swiss exchanges.
During the 1980s and 1990s, Pfizer underwent a period of growth sustained by
the discovery and marketing of Zoloft, Lipitor, Norvasc, Zithromax, Aricept,
Diflucan, and Viagra. Pfizer has recently grown by mergers, including those with
Warner Lambert (2000), with Pharmacia (2003), and with Wyeth (2009).
Pfizer had the greatest number of blockbuster products in 2009 with 14, which
includes 5 inherited through the acquisition of Wyeth. The majority of Pfizer revenues
come from the manufacture and sale of biopharmaceutical products. In 2015, Pfizer
entered into a definitive agreement to acquire Hospira Inc., the world’s leading pro-
vider of injectable drugs and infusion technologies and a global leader in biosimilars,
for $90 per share in cash, for a total enterprise value of approximately $17 billion.
Revenues in 2014 were $49.6 billion, which represented a decrease of 4% com-
pared to 2013. The Research & Development (R&D) expenses went up by
$1.7 billion. The income from continuing operations in 2014 was $9.1 billion,
compared to $11.4 billion in 2013.
Pfizer has nine diverse healthcare businesses: primary care, specialty care,
oncology, emerging markets, established products, consumer healthcare, nutrition,
animal health, and capsugel. Pfizer has created two distinct research organizations.
The Pharma Therapeutics R&D Group focuses on the discovery of small molecules
and related modalities; the Bio Therapeutics R&D Group focuses on large-molecule
research, including vaccines (Annual Reports of Pfizer).
In 2010, products like Lipitor, Enbrel, Lyrica, Prevnar/Prevenar 13, and Celebrex
each delivered at least $2 billion in revenues. Products like Viagra Xalatan/Xalacom,
Effexor, Norvasc, Prevnar/Prevenar (7-valent), Zyvox, Sutent, the Premarin family,
Geodon/Zeldox, and Detrol/Detrol LA each surpassed $1 billion in revenues.
From 2014, Pfizer manages commercial operations through new global commer-
cial structure consisting of two distinct businesses—an innovative products business
and established products business.
In 2014, Pfizer entered into a collaborative agreement with OPKO to develop and
commercialize OPKO’s long-acting human growth hormone (hGH-CTP) for the treat-
ment of growth hormone deficiency in adults and children. In the same year, Pfizer
completed the acquisition of Baxter’s portfolio of marketed vaccines for $635 million.
Again in year 2014, Pfizer completed the acquisition of InnoPharma, a privately
held pharmaceutical development company, for an upfront cash payment of
$225 million and contingent consideration of up to $135 million.
Valuation.
© 2016 Elsevier Inc. All rights reserved.
410 Valuation

21.1 Growth perspective of Pfizer

Year Milestones
1849 1899 1849
With $2500 borrowed from Charles Pfizer’s father, cousins Charles Pfizer and
Charles Erhart entrepreneurs from Germany, open Charles Pfizer &
Company as a fine-chemicals business
Their first product is a palatable form of santonin—an antiparasitic used to
treat intestinal worms
1862
The first domestic production of tartaric acid and cream of tartar, products
vital to the food and chemical industries, is launched by Pfizer
1868
The company now has a substantially increased product line and 150 new
employees
1880
Pfizer soon becomes America’s leading producer of citric acid
1899
A leader in the American chemical business, Pfizer marks its 50th anniversary
1900 1950 1906
Company sales exceed $3 million
1928
Alexander Fleming discovers the antibiotic properties of the penicillin mold,
an event destined to make medical history and to change the course of
Pfizer’s future
1936
Pfizer becomes the world’s leading producer of vitamin C
1939
Pfizer is widely recognized as a leader in fermentation technology
1940
By the late 1940s, Pfizer will become the established leader in the
manufacture of vitamins
1944
Pfizer is successful in its efforts to mass-produce penicillin and becomes the
world’s largest producer of the “miracle drug”
1950
Terramycin (oxytetracycline), a broad-spectrum antibiotic that is the result of
the Company’s first discovery program, becomes the first pharmaceutical
sold in the United States under the Pfizer label
1951 1999 1951
Expansion throughout the different parts of world
1952
Pfizer establishes an Agricultural Division dedicated to offering cutting-edge
solutions to animal health problems
1953
After its acquisition, J.B. Roerig and Company, specialists in nutritional
supplements, becomes a division of Pfizer
(Continued)
Valuation of Pfizer 411

(Continued)
Year Milestones
1955
Pfizer partners with Japan’s Taito to manufacture and distribute antibiotics
Pfizer acquires full ownership of Taito in 1983
1961
Pfizer begins a decade of substantial growth and establishes new World
Headquarters in midtown Manhattan
1967
Vibramycin, the company’s first once-a-day broad-spectrum antibiotic, is
introduced and quickly becomes a top seller
1971
Pfizer acquires Mack Illertissen, a prosperous manufacturer of
pharmaceutical, chemical, and consumer products oriented to the needs of
the German marketplace
1972
Pfizer crosses the billion-dollar sales threshold
Policy focus on R&D
1976
As America celebrates its 200th birthday, Pfizer celebrates over 125 years of
explosive growth
Pfizer introduces Minipress (prazosin HCI) in the United States for the
control of high blood pressure
1980
Feldene piroxicam becomes one of the largest selling prescription anti-
inflammatory medications in the world and, ultimately, Pfizer’s first
product to reach a total of a billion United States dollars in sales
1984
Glucotrol glipizide, for diabetes, is launched
1988
The agricultural division introduces several breakthrough products, including
Dectomax (doramectin)
1989
Pfizer launches Procardia XL extended release tablets, an innovative once-a-
day medication for angina and hypertension
1990
Diflucan fluconazole, a powerful antifungal, is launched in the United States
and 15 additional countries
1992
Pfizer has a triple rollout of major new medicines: Zoloft (setraline
hydrochloride) for treatment of depression, Norvasc (amlodipine besylate)
for control of angina and hypertension, and Zithromax azithromycin) for
respiratory and skin infections
1995
The Animal Health Division purchases SmithKline Beecham’s animal health
business, making Pfizer a world leader in the development and production
of pharmaceuticals for livestock and companion animals
(Continued)
412 Valuation

(Continued)
Year Milestones
1997
Fortunes magazine names Pfizer the world’s most admired pharmaceutical
company. Pfizer continues its reign as most admired in 1998
Discovered by Parke-Davis Research and introduced in 1997, Lipitor is the
largest selling pharmaceutical of any kind worldwide
1998
Pfizer’s roster of outstanding drugs grows with the launch of Viagras
(sildenafil citrate), a breakthrough treatment for erectile dysfunction
Pfizer invests more than $3.3 billion in R&D
1999
Pfizer celebrates its 150th anniversary as one of the world’s premier
pharmaceutical companies
Pfizer investment in research and development exceeds $4 billion for the first
time
20001 2000
Pfizer and Warner Lambert merge to form the new Pfizer, creating the
world’s fastest growing major pharmaceutical company
2001
Pfizer launches Geodon (ziprasidone), a new antipsychotic for the treatment
of schizophrenia
2002
Pfizer invests an industry leading $5.1 billion in R&D and launches Vfend
(voriconazole), an orally and intravenously administered antifungal
indicated for treatment of serious fungal infections
2003
Pfizer invests more than $7.1 billion in R&D. On April 16, 2003, Pfizer Inc.
and Pharmacia Corporation combine operations
2004
Pfizer Inc. is selected by Dow Jones and Co. to be included in the Dow Jones
Industrial Average, which is the best-known stock market barometer in the
world
2007
Pfizer launches Selzentryt (maraviroc) tablets, the first in a new class of oral
HIV medicines in more than 10 years
2009
On October 15, 2009, Pfizer acquires Wyeth, creating a company with a
broad range of products and therapies
2010
Pfizer announces a diversified R&D platform named Pfizer Worldwide
Research and Development, supporting excellence in small molecules,
large molecules, and vaccine R&D
Source: http://www.pfizer.com/about/history/timeline
Valuation of Pfizer 413

The present day Pfizer has resulted from the consolidation of the following
major companies: Warner Lambert; Pharmacia AB; Agouron, Monsanto (Searle);
Esperion Therapeutics Inc., and Viruron Pharmaceuticals. In 2009, Pfizer acquired
Wyeth. Table 21.1 provides the financial highlights of Pfizer during the period
2005 2014.
The average growth rate of revenues during the period 2006 2014 was
20.37%. The average net income growth rate was 1.36% during the 9-year period
2006 2014. The average growth rate of revenues during the period 2006 2009
was 3%, while the average growth rate of revenues during the period 2010 2014
was 20.16%. The average growth rate of operating income during the 4-year
period was 22.29%, while the average growth rate of operating income during the
5-year period 2010 2014 was 2.48%. The average growth rate of net income was
1.66% during the period 2006 2009, while the net income registered an average
growth rate of 1.13% during the period 2010 2014. The operating cash flow grew
by 3% on an average basis during the period 2006 2009, while the average growth
rate was only 0.35% during the period 2010 2014.

21.2 Performance analysis

The data for analysis were obtained from Morningstar.com and Annual Reports
of Pfizer. Table 21.2 highlights the profitability ratios of Pfizer during the period
2005 2014.

21.3 Stock wealth creation

The stock returns are analyzed for the period of 5 years (2010 2014) based on
weekly returns. The stock prices and DJIA index prices are obtained from yahoo
finance. The excess returns are computed by estimating the difference between the

Table 21.1 Ten-year operating highlights in millions of US dollars

Year 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Revenues 51,298 48,371 48,418 48,296 50,009 67,809 67,425 58,986 51,584 49,605
Operating 11,881 12,124 7519 11,726 10,827 9422 15,241 13,221 16,727 12,240
income
Net 8085 19,337 8144 8104 8635 8257 10,009 14,570 22,003 9135
income
Operating 14,733 17,594 13,353 18,238 16,587 11,454 20,240 17,054 17,765 16,883
cash
flow

The revenues improved from $51,298 million in the year 2005 to $49,605 million in the year 2014. The net income improved from $8085
million in the year 2005 to $9135 million in the year 2014. The revenues grew by 3.5% in the year 2009 compared to the year 2008 while the
growth rate of revenues was approximately 36% in the year 2010. The year-on-year comparison reveals that the revenue growth rate had been
negative during the period 2011 2014. The operating income grew by 56% in the year 2008 and 62% in 2011, respectively. The net income
grew by 139% in the year 2006 and 51% in the year 2013. The operating cash flow grew by 77% in the year 2011.
414 Valuation

stock and index returns. The cumulative excess returns are also estimated for the
5-year period based on weekly returns (Tables 21.5 and 21.6). The details of return
calculation are given in the worksheet stock return analysis of Pfizer.xlsx.

21.4 Estimation of cost of equity and WACC

The cost of equity is estimated using the CAPM.
Cost of equity 5 Risk-free rate 1 Beta  Risk premium
Risk premium 5 Return on market index 2 Risk-free rate

Table 21.2 Profitability trends

Year 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Net profit 15.75 39.97 16.81 16.78 17.27 12.18 14.84 24.7 42.65 18.42
margin
(%)
ROA (%) 6.7 16.64 7.08 7.16 5.33 4.05 5.23 7.8 12.3 5.35
ROE (%) 12.1 28.29 11.96 13.24 11.71 9.29 11.78 17.84 27.94 12.38
ROCE (%) 9.89 24.29 10.8 11.17 9.01 7.28 8.83 13.15 19.9 8.28

The net profit margin was highest in the year 2013. The profitability ratios of ROA, ROE, ROCE was highest in the year 2006. The average net
profit margin was 21% during the period 2005 2009, while the average net profit margin was 22.6% during the period 2010 2014. The period
2005 2009 registered an average ROA of 8.58% in the year 2005 2009, while the average ROA fell to 6.95% during the period 2010 2014.
The average ROE during the period 2005 2009 and 2010 2014 was approximately 15% and 16%, respectively. The average ROCE was 13%
and 11.5% during the period 2005 2009 and 2010 2014, respectively.

Table 21.3 Liquidity ratios

Year 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Current ratio 1.47 2.2 2.15 1.59 1.66 2.11 2.06 2.15 2.41 2.67
Quick ratio 1.14 1.76 1.65 1.24 1.12 1.51 1.78 1.9 1.79 2.07

The average current ratio during the period 2005 2009 was 1.81 which improved to 2.28 during the period 2010 2014.The average quick ratio
was 1.38 during the period 2005 2009 which improved to 1.81 during the period 2010 2014.

Table 21.4 Efficiency ratios

Year 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Payables period 104.8 101.4 69.6 90.4 125.6 94.1 95.1 130.4 142.7 127.1
Inventory 1.34 1.26 1.97 1.68 1.06 1.56 1.87 1.53 1.45 1.62
turnover
Fixed assets 2.89 2.87 2.99 3.33 2.77 3.24 3.74 3.76 3.84 4.11
turnover

The efficiency position for the firm has improved in the 5-year period 2010 2014 compared to the period 2005 2009. The payable period
improved from 98 days during the period 2005 2009 to 118 days during the period 2010 2014 on an average basis. On a comparative basis,
the average inventory ratio improved from 1.46 to 1.61. The average fixed assets turnover ratio during this period improved from 2.97 to 3.74.
Valuation of Pfizer 415

Beta is estimated by regressing the weekly returns of Pfizer on market index

DJIA returns during the 5-year period 2010 2014.
Beta 5 0.45
Average return on market index based on 5-year period 5 11.68%
Risk-free rate is based on the average monthly yield of 10-year treasury bond
rate during the period 2012 2014.
Risk-free rate 5 2.18%
Risk premium 5 11.68 2 2.18 5 9.5%
Cost of equity 5 2.18 1 0.45  9.5 5 6.46%

21.4.1 Cost of debt

The cost of debt is assumed as the yield to maturity on a long-term bond of Pfizer
maturing in the year 2038. The yield to maturity is estimated as 5.19%.
Corporate tax rate 5 35%
After-tax cost of debt 5 5.19  (1 2 0.35) 5 3.37%

Table 21.5 Average yearly returns in percent

Year Pfizer DJIA Excess returns
2010 25.0 5.6 210.57
2011 23.8 12.0 11.74
2012 18.8 5.7 13.11
2013 17.5 25.9 28.46
2014 3.6 9.2 25.58

The market index DJIA outperformed the stock in the years 2010, 2013, and 2014, respectively. The yearly average
returns of Pfizer was higher in the years 2011 and 2012, respectively. Pfizer generated 11.7% and 13% higher
returns than the market index during 2011 and 2012, respectively. The total cumulative weekly returns for Pfizer
stock during the 5-year period 2010 2014 was 59%, while the total cumulative weekly returns for market index
DJIA was 58% during the above period. The cumulative excess return during the period of analysis was 0.7%,
suggesting that the stock outperformed the index by a slight margin.

Table 21.6 Excess value creation in millions of dollars

Year 2010 2011 2012 2013 2014
MV of equity 141,375.7 170,306.8 194,907.7 210,435.4 200,107.6
BV of equity 88,410.3 85,310.8 83,789.28 82,188.4 72,783.92
Excess value 52,965.44 84,996 111,118.4 128,247 127,323.7
BV as % of MV 62.54 50.09 42.99 39.06 36.37
The excess value created had been positive in all the years of analysis indicating that the market capitalization was
greater than the book value of equity in every year. The book value as a percent of market value have decreased
over the 5-year period. In 2010, the book value was 62.54% of the market value. By 2014, the book value as percent
of market value dropped to 36%. The market capitalization each year was estimated based on the closing price of
Pfizer stock on the last day of trading in the year. The year-on-year analysis reveals that market capitalization
increased by approximately 20%, 14%, and 8% during 2011, 2012, and 2013, respectively. The market capitalization
decreased by approximately 5% in the year 2014.
416 Valuation

The weights used for estimation of cost of capital are the market value weights
of equity and book value weight of debt.
Market value of equity in 2014 5 200,107.6 million
Book value of debt in 2014 5 36,682 million
Total value 5 236,789.6 million

21.4.2 Market value weights

Weight of equity 5 0.85
Weight of debt 5 0.25
WACC 5 0.85  6.46 1 0.15  3.37 5 5.98%

The weighted average cost of capital is 5.98%.

21.5 Valuation models

The detailed calculation for the valuation of Pfizer using different valuation models
is given in the excel file Pfizer.xlsx.

21.5.1 Dividend discount model (Tables 21.7 and 21.8)

Table 21.7 Dividend trends

Year 2009 2010 2011 2012 2013 2014
EPS 1.23 1.02 1.27 1.94 3.19 1.42
DPS 0.8 0.72 0.8 0.88 0.96 1.04
DPO 0.65 0.71 0.63 0.45 0.30 0.73
The average growth rate of EPS during the 5-year period based on geometric mean was 2.9%. The average growth rate of
DPS during the 5-year period based on geometric mean was 5.3%. The average DPO during the 6-year period was 58%.

Table 21.8 Estimation of growth rate from fundamentals

Year 2009 2010 2011 2012 2013 2014
Retention ratio 0.35 0.29 0.37 0.55 0.70 0.27
ROE 0.1171 0.093 0.1178 0.1784 0.2794 0.1238
Growth rate 0.04 0.03 0.04 0.10 0.20 0.03
Growth rate 5 Retention ratio  Return on equity
The average growth rate from fundamentals during the 6-year period 2009 2014 are calculated as 7%. The average
DPO obtained from historical estimates during the 6-year period is 58%. This value is taken as the average DPO
during the high growth period.
Valuation of Pfizer 417

21.5.2 Two-stage DDM

High growth period 5 10 years
Growth rate in earnings per share 5 7%
DPO 5 0.58
Cost of equity 5 6.46%. Table 21.9 gives the present value calculation for dividends in
the high growth phase.

5.2.1 Stable period inputs

The growth rate of US economy is assumed as the growth rate of earnings in the
stable growth period.
Growth rate in stable growth period 5 2.15%
Growth rate 5 Retention ratio  ROE of industry sector
ROE of pharma industry 5 16.4%1
2.15% 5 Retention ratio  16.4%
Retention ratio 5 2.15/16.4 5 0.13
DPO in the stable period 5 1 2 0.13 5 0.87
EPS at the end of high growth period 5 2.79
EPS at beginning of stable period 5 2.79  1.0215 5 $5.62
DPO 5 0.87
DPS in the stable period 5 5.62  0.87 5 $4.89
Terminal value of DPS 5 DPS/(Cost of equity 2 Growth rate)
4.89/(0.0646 2 0.215) 5 $113.45
Present value of the terminal value 5 $60.7
Value of Pfizer stock 5 PV of Pfizer in high growth phase 1 PV of Pfizer in
stable growth phase 5 60.7 1 8.47 5 $69.1
Value of Pfizer stock using two-stage DDM 5 $69.1

21.5.3 One-stage DDM

DPS in the year 2014 5 $1.04
Growth rate 5 2.15%
Value 5 DPS (1 1 Growth rate)/(Cost of equity 2 Growth rate) 5 1.04  1.0215/
(0.0646 2 0.0215) 5 $24.65

Table 21.9 Present value of dividends in high growth phase

Year 1 2 3 4 5 6 7 8 9 10
EPS 1.52 1.63 1.74 1.86 1.99 2.13 2.28 2.44 2.61 2.79
DPO 0.58 0.58 0.58 0.58 0.58 0.58 0.58 0.58 0.58 0.58
DPS 0.88 0.94 1.01 1.08 1.16 1.24 1.32 1.42 1.51 1.62
PV 0.83 0.83 0.84 0.84 0.84 0.85 0.85 0.86 0.86 0.87
Sum 8.47
Present value of dividends in high growth period 5 $8.47.

1
https://biz.yahoo.com/ic/510.html.
418 Valuation

Value of Pfizer stock using one-stage DDM was $24.65.

Pfizer was trading at $31.15 in NYSE on December 29, 2014.

21.5.4 Estimation of value using FCFE model

The average growth rate of revenues of Pfizer during the period 2004 2014 was
0.9%. The average growth rate of net income during the time period 2004 2014
was 8.01%. These averages were based on geometric mean.
Pfizer have huge investments in R&D activities. Hence, it is essential to adjust
R&D expenses as capital expenses instead of operating expenses.
Estimation of adjusted net capital expenditure 5 Net capital expenditure 1 R&D expenses
in current period-amortization of research asset 1 Acquisition costs
Adjusted net income 5 Net income 1 Current year’s R&D expense 2 Amortization of
research asset in current year
Adjusted book value of equity 5 Book value of equity 1 Value of research asset
Research assets are amortized linearly over time. The life of research asset
is assumed to be 5 years. The research assets are amortized 20% each year. The
value of research asset and amortization expense calculation for the year 2014 is
given in Table 21.10. For the rest of years calculation, see the work sheet FCFE of
Pfizer.xlsx. The details of R&D variables estimation for different years is given in
the Table 21.11.

21.5.5 Calculation of adjusted ROE

The adjusted net income and adjusted book value are estimated each year for the
estimation of adjusted ROE. The net income is adjusted by adding R&D expenses and
subtracting the amortized value of research asset from the net income. The value of
research asset is added to the book value of equity to get adjusted book value of equity.

Table 21.10 Amortization and value of research estimation in the

year 2014
Year R&D expenses Unamortized Million Amortization
portion (%) dollars in 2014
Current (2014) 8393 100 8393
21 6678 80 5342.4 1335.6
22 7870 60 4722 1574
23 9112 40 3644.8 1822.4
24 9413 20 1882.6 1882.6
25 7913 0 0 1582.6
Value of research asset 23,984.8
Amortization expense 8197.2
current year (2014)
The values are given in millions of dollars.
Valuation of Pfizer 419

Adjusted ROE 5 Adjusted net income in year t/Adjusted book value of equity in year t 2 1.

Table 21.12 gives the calculation of adjusted ROE. Tables 21.13 and 21.14
shows the estimation of adjusted net capex and change in non cash working capital.

Table 21.11 R&D highlights in millions of dollars

Year R&D expenses Value of R&D asset Amortization of R&D asset
2009 7913 24,991 8646.6
2010 9413 25,925.8 8478.2
2011 9112 26,495.8 8542
2012 7870 25,688.2 8677.6
2013 6678 23,789 8577.2
2014 8393 23,984.8 8197.2

Table 21.12 Calculation of adjusted ROE

Year Adjusted net income Adjusted book value of equity Adjusted ROE
2009 7901.4 103,542.75
2010 9191.8 114,336.1 0.088773
2011 10,579 111,806.6 0.092525
2012 13,762.4 109,477.48 0.123091
2013 20,103.8 105,977.4 0.183634
2014 9330.8 96,768.72 0.088045

Table 21.13 Estimation of adjusted net capital expenditure (in million

dollars)
Year 2009 2010 2011 2012 2013 2014
Net capex 1205 1513 1660 1327 1465 1583
R&D expenses in 7913 9413 9112 7870 6678 8393
current period
Amortization of 8646.6 8478.2 8542 8677.6 8577.2 8197.2
research asset
Acquisitions expenses 4337 3214 2934 1880 1182 250
Adjusted net capex 4808.4 5661.8 5164 2399.4 747.8 2028.8
Adjusted net income 7901.4 9191.8 10579 13762.4 20,103.8 9330.8
Net capex/Adjusted 0.61 0.62 0.49 0.17 0.04 0.22
net income
The net capex as a percent of adjusted net income improved from 61% in the year 2009 to 22% in the year 2014. The
average net capex as a percent of adjusted net income was approximately 31% during the 5-year period 2010 2014.
Adjusted net capital expenditure (Capex) 5 Net capital expenditures 1 R&D expenses in current
period 2 Amortization of research asset 1 Acquisition expenses.
420 Valuation

Tables 21.15 and 21.16 gives the estimation of reinvestment rate and growth rate
from fundamentals.

21.5.6 Two-stage FCFE model

The growth rate estimated from both historical and fundamental is approximately
3%. Two-stage growth scenario is assumed in which the net income will grow by
3% in the first stage for 5 years and then by the growth rate of the economy in the
stable stage period.

Table 21.14 Estimation of change in noncash working capital

(in million dollars)
2009 2010 2011 2012 2013 2014
Total current assets 61,670 60,468 57,728 61,415 56,244 57,702
Cash and cash 25,969 28,012 26,758 32,708 32,408 36,122
equivalents
Noncash current assets 35,701 32,456 30,970 28,707 23,836 21,580
Total current liabilities 37,225 28,609 28,069 28,619 23,366 21,631
Interest-bearing short- 5469 5623 4018 6424 6027 5141
term liabilities
Noninterest-bearing 31,756 22,986 24,051 22,195 17,339 16,490
current liabilities
Noncash working capital 3945 9470 6919 6512 6497 5090
Change in noncash 5525 22551 2407 215 21407
working capital
Noncash current assets 5 Total current assets 2 cash and cash equivalents.
Noninterest-bearing current liabilities 5 Total current liabilities 2 interest-bearing current liabilities.
Noncash working capital 5 Noncash current assets 2 noninterest-bearing current liabilities.

Table 21.15 Estimation of reinvestment rate

Year 2010 2011 2012 2013 2014
Adjusted net Capex 5661.8 5164 2399.4 747.8 2028.8
Change in noncash working 5525 22551 2407 215 21407
capital
Total reinvestment 11,186.8 2613 1992.4 732.8 621.8
Adjusted net income 9191.8 10,579 13,762.4 20,103.8 9330.8
Reinvestment rate 1.22 0.25 0.14 0.036 0.067
Total reinvestment 5 Adjusted net capex 1 Change in noncash working capital.
Reinvestment rate 5 Total reinvestment/Adjusted net income.
The reinvestment rate was 25% in year 2011. By the year 2014, the reinvestment rate fell to 6.7%. The average
reinvestment rate during the five year period 2010 2014 was 34%.
The growth rate of adjusted income was estimated for the 5-year period 2010 2014.The historical average growth
rate (geometric mean) based on the above period was 3.4%. The growth rate estimated from fundamentals was 3%.
Valuation of Pfizer 421

5.6.2 First-stage period inputs

Period of growth 5 5 years
Reinvestment rate 5 34%
Cost of equity 5 6.46%
Adjusted net income in 2014 5 9330.8 million
Growth rate in net income 5 3%
The present value calculation of FCFE in high growth period is given in
Table 21.18.

Table 21.16 Estimation of growth rate from fundamentals

Year 2010 2011 2012 2013 2014
Adjusted ROE 0.09 0.09 0.12 0.18 0.09
Reinvestment rate 1.22 0.25 0.14 0.04 0.07
Growth rate 0.11 0.02 0.02 0.01 0.01
Growth rate 5 Adjusted ROE  Reinvestment rate
The average growth rate was estimated as 3% during the 5-year period.

Table 21.17 Estimation of FCFE in million dollars

Year 2010 2011 2012 2013 2014
Adjusted net income 9191.8 10,579 13,762.4 20,103.8 9330.8
Adjusted net capex 5661.8 5164 2399.4 747.8 2028.8
Change in noncash working 5525 22551 2407 215 21407
capital
Net debt issued 31,379 25084 1489 2971 193
FCFE in millions of dollars 29,384 2882 13,259 18,400 8902
FCFE 5 Adjusted net income-adjusted net capex 2 Change in noncash working capital 1 Net debt issued.

Table 21.18 Present value of FCFE in first-stage period

Year 1 2 3 4 5
Net income 9610.7 9899.0 10,196.0 10,501.9 10,817.0
Reinvestment 3267.6 3365.7 3466.6 3570.6 3677.8
FCFE 6343.1 6533.4 6729.4 6931.3 7139.2
PV of FCFE 5958.18 5764.54 5577.19 5395.92 5220.55
Sum 27,916.38
The present value of FCFE in the first stage is estimated as $27,916.38 million.
422 Valuation

5.6.3 Stable period inputs

The growth rate in stable period after 5 years is assumed to be the average growth
rate of US economy.
Growth rate in stable period 5 2.15%
Growth rate 5 Reinvestment rate  ROE of pharma industry sector
ROE of pharma industry 5 16.4%1
2.15 5 Reinvestment rate  16.4
Reinvestment rate 5 2.15/16.4 5 13%
The reinvestment rate in the stable period is estimated as 13%.
Net income at the end of first stage of growth 5 10,817 million
Net income in stable period 5 10817  (1.0215) 5 11,049.52 million
Reinvestment 5 11,049.52  0.13 5 1436.44 million
FCFE 5 11,049.52 2 1436.44 5 9613.08 million
Terminal value 5 FCFE in stable period/(Cost of equity 2 Growth rate)
5 9613.08/(0.0646 2 0.0215) 5 223,041.34 million
Present value of terminal value of FCFE 5 163,099.66 million
Value of operating assets 5 PV of FCFE in first phase 1 PV of FCFE in stable period
5 27,916.38 1 163,099.66 5 191,016.04 million

Value of operating assets $191,016.04

Cash and cash equivalents in 2014 36,122
Value of equity of Pfizer in million dollars $227,138.04
Number of shares in million 6424
Value per share 35.36

The value of equity is estimated as $227.138 billion. The market capitalization

of Pfizer as on May 5, 2015 was $209.26 billion. Value per share is estimated as
$35.56.Pfizer was trading at $31.15 on December 29, 2014. The stock price of
Pfizer as on May 5, 2015 was $34.32.

21.5.7 Constant growth FCFE model

In this model, we assume that there is only stage, i.e., stable growth period. The net
income will grow at the US economic growth rate estimated as 2.15%.
Net income in 2014 5 9331 million
Reinvestment rate 5 0.13
Reinvestment 5 9331  0.13 5 1213.004 million
FCFE in the year 2014 5 9331 2 1213.004 5 8118 million
Value 5 FCFE in year 2014  (1 1 Growth rate)/(Cost of equity 2 Growth rate)
5 8118  1.0215/(0.0646 2 0.0215) 5 $192,397.42 million
Value per share 5 192,397.42/6424 5 $29.95
Value per share is estimated as $29.95
Valuation of Pfizer 423

21.5.8 FCFF valuation model

Adjusted operating earnings 5 Operating earnings 1 Current year’s R&D expense 2
Amortization of research asset
Adjusted book value of capital 5 Adjusted book value of equity 1 Debt
Adjusted book value of equity 5 Book value of equity 1 Research value of asset
(Tables 21.19 21.24).

Table 21.19 Adjusted book value of capital (million dollars)

Year Adjusted BV of equity Debt Adjusted BV of capital
2009 103,542.75 48,662 152,204.75
2010 114,336.1 44,033 158,369.1
2011 111,806.6 38,949 150,755.6
2012 109,477.48 37,460 146,937.48
2013 105,977.4 36,489 142,466.4
2014 96,768.72 36,682 133,450.72

Table 21.20 Adjusted operating income and adjusted ROCE

Year EBIT R&D Annual Adjusted EBIT Adjusted
(1 2 T) expenses amortization (1 2 T) ROCE
2009 8120.25 7913 8646.6 7386.65
2010 8298 9413 8478.2 9232.8 0.061
2011 11218 9112 8542 11,788 0.074
2012 10,659 7870 8677.6 9851.4 0.065
2013 12421 6678 8577.2 10,521.8 0.072
2014 9120 8393 8197.2 9315.8 0.065
The adjusted operating income (EBIT (1 2 T) values are given in millions of dollars.
Adjusted EBIT (1 2 T) 5 EBIT (1 2 T) 1 Current year R&D Expenses 2 Annual amortization.
Adjusted ROCE 5 EBIT (1 2 T) in year t/Adjusted book value of capital in year t 2 1.

Table 21.21 Estimation of reinvestment rate from past data

Year 2010 2011 2012 2013 2014
Adjusted EBIT(1 2 T) 9232.8 11,788 9851.4 10,521.8 9315.8
Adjusted net capex 5661.8 5164 2399.4 747.8 2028.8
Change in noncash WC 5525 22551 2407 215 21407
Reinvestment 11,186.8 2613 1992.4 732.8 621.8
Reinvestment/Adj EBIT 1.21 0.22 0.20 0.07 0.07
(1 2 T)
Average 0.35
The adjusted EBIT (1 2 T) and reinvestment data values are in millions of dollars. The reinvestment rate is obtained
by dividing the sum of adjusted net capital expenditure and change in working capital by the adjusted operating
income (EBIT (1 2 T). The average reinvestment rate during the period 2010 2014 was 35%. The geometric mean
based average value during the above period was 30%.
424 Valuation

Table 21.22 Estimation of growth rate from historical

Year 2009 2010 2011 2012 2013 2014
Adjusted EBIT(1 2 T) 7386.65 9232.8 11788 9851.4 10,521.8 9315.8
Growth rate 0.25 0.28 20.16 0.07 20.11
The values of adjusted EBIT (1 2 T) are given in millions of dollars. The average growth rate for the five year
period 2010 2014 based on geometric mean was approximately 5%.

Table 21.23 Estimation of growth rate from fundamentals

Year 2010 2011 2012 2013 2014
Adjusted ROCE 0.061 0.074 0.065 0.072 0.065
Reinvestment rate 1.21 0.22 0.20 0.07 0.07
Growth rate 0.073 0.016 0.013 0.005 0.004
The average growth rate based on geometric mean is estimated as 2.2%.

Table 21.24 Estimation of FCFF 2010 2014

Year 2010 2011 2012 2013 2014
Adjusted EBIT(1 2 T) 9232.8 11,788 9851.4 10,521.8 9315.8
Adjusted net capex 5661.8 5164 2399.4 747.8 2028.8
Change in noncash WC 5525 22551 2407 215 21407
FCFF 21954 9175 7859 9789 8694
The FCFF improved from 21954 million in the year 2010 to 8694 million in the year 2014.

5.8.4 Two-stage FCFF model

High growth period 5 5 years
Growth rate in EBIT (1 2 T) 5 5%
Reinvestment rate 5 30%
WACC 5 5.98%
Adjusted EBIT (1 2 T) in 2014 5 $9315.8 million
Adjusted EBIT (1 2 T) in first year of high growth period 5 9315.8  1.05 5 $9781.59
million.
Present value calculation of FCFF in high growth period is given in Table 21.25.

5.8.5 Stable period inputs

The growth rate of FCFF in the stable period is assumed to be the growth rate of
the US economy, which is estimated as 2.15% as mentioned in Section 21.5.7.
Growth rate 5 Reinvestment rate  Average return on invested capital of the industry sector
Valuation of Pfizer 425

Table 21.25 Present value of FCFF in high growth period

Year 1 2 3 4 5
Adjusted EBIT 9781.59 10,270.67 10,784.20 11,323.41 11,889.58
(1 2 T)
Reinvestment 2934.48 3081.20 3235.26 3397.02 3566.88
FCFF 6847.11 7189.47 7548.94 7926.39 8322.71
PV 6460.76 6401.02 6341.83 6283.18 6225.08
Sum 31,711.87

The present value of FCFF in the high growth period 5 $31,711.87 million.

The average return on capital employed is estimated as 11.33% based on the

average ROCE of top 10 pharma companies in the year 2014.
Reinvestment rate 5 18.9%
Adjusted EBIT (1 2 T) at end of high growth period 5 $11,889.58 million
Adjusted EBIT (1 2 T) in stable period 5 11,889.58  1.0215 5 $12,145.21 million
Reinvestment rate 5 0.189
Reinvestment 5 12,145.21  0.189 5 $2295.44 million
FCFF in stable period 5 12,145.21 2 2295.44 5 $9849.77 million
Terminal value 5 FCFF in stable period/(WACC 2 growth rate) 5 9849.77/
(0.0598 2 0.0215)
5 $257,174.03 million
Present value of FCFF in stable period 5 $192,356.79 million.
Value of operating assets of Pfizer 5 PV of FCFF in high growth phase 1 PV of FCFF in
stable growth phase
5 31,711.87 1 192,356.79 5 $224,068.66 million

Value of operating assets $224,068.66

Add cash and cash equivalents 36122
Value of Pfizer $260,190.66
Subtract value of debt 36682
Value of equity $223,508.66
Value of equity per share 34.79
Number of equity shares 5 6424 million
Pfizer was trading at $34.12 in NYSE on May 6, 2015.
Value of equity per share based on FCFF was $34.79.

21.5.9 Constant growth FCFF model

EBIT (1 2 T) in year 2014 5 $9315.8 million
Reinvestment rate 5 0.189
Reinvestment 5 $1760.69 million
FCFF in stable period 5 9315.8 2 1760.69 5 $7555.11 million
Value of operating assets 5 7555.11/(0.0598 2 0.0215) 5 $201,502.58 million
426 Valuation

Value of operating assets 201,502.58

Add cash and cash equivalents in 2014 36,122
Value of Pfizer 237,624.58
Subtract value of debt 36,682
Value of equity of Pfizer 200,942.58
Value of equity per share 31.28
Value of equity per share based on constant FCFF model is $31.28.

Summary of discounted cash flow valuation models

Two-stage DDM
Value of Pfizer stock using two-stage DDM 5 $69.1
One-stage DDM
Value of Pfizer stock using one-stage DDM was $24.65.
Two-stage FCFE model
The value of equity is estimated as $227.138 billion. Value per share is
estimated as $35.56.
Constant growth FCFE model
Value per share is estimated as $29.95.
Two-stage FCFF model
Value of equity per share based on FCFF was $34.79.
Constant growth FCFF model
Value of equity per share based on constant FCFF model is $31.28.
Pfizer was trading at $31.15 in NYSE on December 29, 2014. The market
capitalization of Pfizer as on May 5, 2015 was $209.26 billion. Pfizer was
trading at $31.15 on December 29, 2014. The stock price of Pfizer as on May
5, 2015 was $34.32. Pfizer was trading at $34.12 in NYSE on May 6, 2015.

21.6 Relative valuation

The peer pharma companies chosen for comparison are Johnson & Johnson,
Novartis, and Merck (Table 21.26 21.29).
The detailed step by step calculation involved in all valuation models is given in
the resources file Pfizer.xlsx.
Valuation of Pfizer 427

Table 21.26 Peer comparison highlights

Companies Market Net P/S P/B P/E Div. yield
cap income (%)
Pfizer 209,116 9135 4.4 2.9 24.2 3.1
Johnson & Johnson 275,918 15,916 3.9 4.1 17.8 2.8
Novartis 248,341 10,210 4.7 3.5 24 2.6
Merck 171,682 11,920 4.2 3.5 14.9 2.9
The market capitalization and net income of these companies are given in millions of dollars. Johnson & Johnson
has the highest market capitalization of $275.92 billion and net income of $15.916 billion among the peer
companies. Johnson & Johnson have the highest P/B ratio among the four pharma majors. Novartis have the highest
P/S ratio among the peer firms. Pfizer have the highest P/E ratio and dividend yield among the four companies.

Table 21.27 Pfizer price multiple trends

Year 2010 2011 2012 2013 2014
P/E 17.2 19.5 19.9 18.6 22.1
P/B 1.6 2 2.2 2.6 2.7
P/S 2.1 2.5 3.2 4.1 4
P/CF 12.3 8.4 11 11.9 11.8
The price-to-earnings (P/E) ratio have improved over the 5-year period. The P/E ratio has improved from 17.2 in
2010 to 22.1 in the year 2014.The price-to-book (P/B) ratio and price-to sales (P/S) ratio has also improved over
the 5-year period. The P/B ratio improved from 1.6 in 2010 to 2.7 in year 2014.The P/S ratio have improved from
2.1 in year 2010 to 4 in year 2014.The price-to-cash (P/C) flow ratio have been fluctuating over the 5-year period.

Table 21.28 Enterprise value and operating highlights

Firms Pfizer JNJ Novartis Merck
Market capitalization 200,107.6 299,488.48 224,793.16 166,281.1
Debt 36,682 18,760 20,411 21,403
Cash & cash equivalent 36,122 33,089 13,862 15,719
Enterprise value 200,667.6 285,159.5 231,342.2 171,965.1
Revenues 49,605 74,331 53,634 42,237
EBITDA 17,777 24,991 12,976 24,706
EBIT 12,240 20,959 11,089 5670
The values given are in millions of dollars. Enterprise value is obtained as sum of market capitalization plus debt
minus cash and cash equivalents. Johnson & Johnson had the highest market capitalization among the peer
companies.
428 Valuation

Table 21.29 Enterprise value multiples

Multiples Pfizer JNJ Novartis Merck
EV/Revenues 4.0 3.8 4.31 4.07
EV/EBITDA 11.3 11.4 17.8 7.0
EV/EBIT 16.4 13.6 20.9 30.3

Lower the multiples, the more undervalued will be the stocks. Pfizer and JNJ have the lowest EV/Revenue multiples.

Reference
Annual Reports of Pfizer.