Big Drugmakers Need More M&A as Investors Turn to Smaller Peers

Wall Street has one word of advice for large-cap drugmakers: acquisitions.

That sentiment has been building because investors are bypassing established names like Pfizer Inc. or Eli Lilly & Co. as smaller biotechs curried favor in 2020.

The rotational shift in the markets from big to small has led the giants to trade at the lowest price-to-earnings discount against the broader market in a decade, according to an analysis by Goldman Sachs Group Inc. That’s left investors looking for the next big catalyst to drive a shift in sentiment.

Big Drugmakers Need More M&A as Investors Turn to Smaller Peers

With significant changes to how prescription drugs are priced in the U.S. unlikely to emerge next year as the Biden administration focuses on fighting the pandemic, the valuation discount to the group should narrow as biopharma companies use their rich balance sheets to backfill patent losses on key drugs, Goldman analysts led by Asad Haider wrote in a research note.

JPMorgan Chase & Co. analysts support the view that M&A could be the biopharma group’s saving grace, with large cap biotechs trading at a 39% discount to the S&P 500 based on estimated 2021 earnings per share. That discount has become “too big to ignore,” analysts led by Cory Kasimov wrote in a research note.

Next year will be rich with trial readouts for new medicines and that could spark a swing back for the sector, the JPMorgan analysts said. Even better though, would be companies using their large cash reserves to jump on more deals. A buyside survey from JPMorgan suggests M&A could pick up and “increased deal activity could act as a rising tide.”

Goldman Sachs echoed that idea earlier this week when it told investors that M&A was starting to pick up across the market. U.S. deal volumes have been ticking higher every month since July, with each month since the summer topping $100 billion.

Strategic buyers are “flush with cash” and driven by the need to diversify and adapt across sectors, the bank’s credit strategists found.

©2020 Bloomberg L.P.

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