AstraZeneca: Buy This Blue-Chip Bargain For A Richer Retirement

Regardless of your investing strategy, one thing is for certain: Everybody's goal is to earn enough money from investing to secure their financial future. After all, a life without constant financial worry and pinching pennies is a life that all of us want.

With that in mind, the question is as follows: How do we get from wherever we may currently be financially to the promised land? Depending on risk tolerance and investing preferences, the answer is going to vary person by person.

But for the most part, the audience that reads my articles tends to focus on investing in remarkable dividend (and occasionally non-dividend-paying) stocks at reasonable to cheap valuations. How do you measure the quality of a stock?

There are many ways, but in my opinion, the buck stops at the total returns that said stock generates for shareholders. AstraZeneca (NASDAQ:AZN) is one stock that has made shareholders a bundle over the last 10 years: A $10,000 investment in the stock made in October 2013 would now be worth $38,000 with dividends reinvested - - a 14.4% compound annual growth rate. That far exceeded the $30,000 that the same investment amount in the SPDR S&P 500 ETF Trust (SPY) would be valued at today with dividends reinvested - - an 11.6% CAGR.

The past is all well and good. But we've all heard the past performance is no guarantee of future results disclaimer. However, I am confident that AstraZeneca is a strong buy and can maintain its reputation of outperforming the broader market in the years ahead. Let's dig into the company's fundamentals to get a clearer picture of why I believe this is the case.

Though less than the current risk-free rate of 4.9%, AstraZeneca's 2.2% yield is superior to the S&P 500 index's 1.6% yield. Considering that the company's EPS payout ratio is 55%, this dividend is also quite secure. That is because the payout ratio is below the 60% that rating agencies like to see from pharmaceutical companies.

As if that weren't enough, AstraZeneca's balance sheet situation is ideal. The company's debt-to-capital ratio of 0.4 is in line with what rating agencies consider safe for its industry. This is good enough to earn an A- credit rating from S&P. That puts AstraZeneca at a measly 2.5% chance of going bankrupt in the next 30 years. For these reasons, the company enjoys a perfect 5/5 rating for dividend and balance sheet safety.

AstraZeneca is also a compelling value at the current $65 share price (as of October 18, 2023) relative to its $94 historical fair value. That implies the stock is 30% undervalued and could have a 43% upside from the current share price upon reverting to fair value.

• 2.2% yield + 12.7% FactSet Research annual earnings growth consensus + 3.7% annual valuation multiple expansion = 18.6% annual total return potential versus ~10% annual total returns for the S&P 500 index

A Diversified Pharmaceutical With Growth Opportunities

Tracing its roots back to its founding in Sweden in 1913, AstraZeneca is among the more well-established pharmaceuticals on the planet. This is reflected by the strength of its existing drug portfolio. Through the first half of 2023, AstraZeneca had 12 medicines that are on pace to surpass $1 billion each in revenue this year. Its top-selling drug, Tagrisso, accounted for just 13.1% of the company's first-half revenue.

Of AstraZeneca's blockbuster products, rare disease drug Soliris was the only product that recorded a decline (16%) in its constant currency revenue to $1.6 billion in the first half. That was only because of the cannibalization of its patient share to its newer and less expensive rare disease drug, Ultomiris. Every other meaningful drug recorded constant currency revenue growth rates between 1% and 64%.

Due to this exceptional portfolio, AstraZeneca's total revenue grew 6% year-over-year to $22.3 billion during the first half. Adjusted for unfavorable currency translation, revenue rose by 9% for the period.

AstraZeneca's higher revenue base and improved profit margins pushed core EPS up by 13% over the year-ago period to $4.07 in the first half. Thanks to its Alexion Pharmaceuticals rare disease business that was acquired a couple of years back and the 170 projects overall in its pipeline, the future is bright for AstraZeneca. Looking forward, FactSet Research anticipates that the company can deliver 12.7% annual earnings growth over the long haul - - similar to earnings growth during the first half of 2023.

That is because of the sizable unmet medical need within the rare diseases space. There are approximately 400 million people throughout the world who are impacted by a rare disease. Of the more than 7,000 rare diseases that are currently known to exist, 90%+ don't have an approved treatment option.

Superb growth prospects aside, AstraZeneca also has one of the better balance sheets in its industry. The company's interest coverage ratio was respectable at 13.6 for the first half of 2023. This builds in a nice buffer against a temporary downturn in profits. That is why AstraZeneca possesses an A- long-term credit rating (earnings info and interest coverage ratio calculation sourced from AstraZeneca H1 2023 earnings press release).

The Dividend Is Safe

AstraZeneca comfortably covers its dividend from earnings. But earnings are only part of the story. What matters the most is free cash flow. That's because either a company has the cash flow to pay its dividend or it must resort to debt, the latter of which is unsustainable.

AstraZeneca posted $8.7 billion in free cash flow in 2022. Against the $4.4 billion in dividends that were paid during the year, that equates to a 50.1% dividend payout ratio (details according to page 143 of 228 of AstraZeneca Annual Report). This is a Goldilocks payout ratio, which suggests the company should have no problem maintaining its current dividend while also repaying debt and executing strategic acquisitions.

Risks To Consider

AstraZeneca is a business with robust operating fundamentals and a solid financial position. Like all businesses, though, the company has its risks. Here are the two most relevant to AstraZeneca and its industry.

AstraZeneca's deep and balanced pipeline gives it the best shot of maintaining its immense success. But given that the vast majority of drug candidates do fail to make it to the market, there is no guarantee the company will grow profits at a double-digit rate annually in the future. If AstraZeneca's drug candidates don't live up to the hype, it could fall well short of the annual earnings growth consensus.

Another risk that all pharmaceuticals face because of the lucrative nature of the industry is pricing pressure from world governments and health insurers. If efforts from these entities are successful, AstraZeneca and its peers could experience a reduction in profitability.

Summary: AstraZeneca Offers Vastly Superior, Buffett-Esque Total Returns Versus The S&P

AstraZeneca's tremendous product portfolio, pipeline, financial strength, and dividend safety (there's just a 2% risk of a dividend cut in a severe recession) earn it a 12/13 quality rating. This certainly makes the stock worthy of a place in the portfolio of investors concerned with quality.

Better yet, the valuation is appealing enough that it makes sense to buy AstraZeneca at $65 a share. Along with high growth potential, the considerable margin of safety at the current share price is what puts the stock over the top as a table-pounding buy for investors.

AstraZeneca's base-case annual total return potential is 18.6% for the next decade. Just how good is that? It's close to the roughly 20% annual total returns that Warren Buffett has averaged throughout his investing career. Such returns can turn $1 into about $5.50 in 10 years, which is volumes better than the $2.60 into which the S&P 500 index could parlay $1 during that time.