On April 4, 2016, Shire (SHPG) was trading at a multiple 11.84x of its forward earnings. It was trading at a discount compared to Alexion Pharmaceuticals (ALXN), Sanofi (SNY), and Biogen Idec (BIIB), which were trading at forward PE (price-to-earnings) multiples of 19.91x, 12.78x, and 12.71x, respectively.
Gilead Sciences (GILD) was trading at a discounted multiple 7.62x of its forward earnings.
Why forward PE?
Pharmaceuticals and biotechnology are growth-driven industries. Since forward PE takes into account future earnings, it captures a company’s growth potential and proves to be a better valuation metric. Trailing PE considers earnings over the past 12 months. So it doesn’t factor in future earnings growth potential.
Shire’s PE performance
Shire’s average forward PE ratio over the past one year stood at 14.81x and ranged from 10.0x–18.5x of the company’s forward earnings over the period. Its current forward PE multiple of 11.81x seems to be a reasonable level. With estimated double-digit sales growth and post-Baxalta-acquisition synergies, the company’s PE could rise in the near term and result in a rise in share price.
The graph above demonstrates how Shire’s valuation multiple started tumbling in August 2015. In the next part of this series, we’ll look at Shire’s recent acquisition of Baxalta and the rationale behind Shire’s falling share price after the acquisition announcement. For details about the deal, please refer to Basics and Conditions of the Baxalta–Shire Merger.
It’s often risky to invest directly in a pharmaceutical or biotechnology company, as any news release about the success or failure of their drug trials brings volatility to the stock price. So to remain on the safer side, investors can choose the iShares Nasdaq Biotechnology ETF (IBB), which holds 1.7% of its total holdings in Shire stock.