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August 22, 2005

Do you continue holding MRK? Mon., August 22, 2005, 5:15 PM

A reader asked a fair question, Should I continue to hold, or sell, MRK?" Apparently he liked my write-ups last year when I was bottom-picking. In any event, I didn't have much time to respond, but I did. And, for the record, here is my reply.

J: In my 1Q05 review, I wrote the following note re the healthcare sector:
http://www.billcara.com/archives/2005/03/end_of_1q05_equ.html

There were some good weeks for bullish investors in the 1Q05 for the healthcare stocks in spite of the continuing negatives re Pfizer (NYSE: PFE) and Merck (NYSE: MRK), mostly to do with litigation.

Still, net free cash flow for these companies is excellent, and they do represent good fundamental value, particularly PFE.

For the long-term (but not this quarter), I like AET, AMGN, GSK, JNJ, PFE, and UNH (alpha order). Recently, Amgen and GlaxoSmithKline both ran into regulatory issues, but like Pfizer and Merck, I think the long-run will work out.

Two things always seem to come into play when the economy is starting to look shaky. (1) Government starts to ratchet up the work (make-work?) of regulators, and (2) civil law suits seem to get popular. This is usually the ‘perfect storm' condition for attacking Healthcare companies, and some of the Consumer staples companies like the tobacco companies.

Whatever, it's a tough environment for investors."

So, yes, in the long-run I do think MRK will work out, but the near-term is a very dark one for the company.

I pointed out after the Texas award Friday, in the Week #33 in Review", to wit: IYH was down "0.88 pct W/W. As I wrote last week: I'd be surprised if the (IYH) cycle topping process does not unfold through August." But little did I know at the time of a Merck loss in a Texas courtroom, to the tune of -$253.4 million in the first of ("n" number of) trials over deaths alleged to be attributed to Vioxx. This Big Pharma situation is going to turn real ugly, and traders in the space have to exercise prudence and stand aside."

Therefore I don't think you keep it.

Also, I don't think the dividends are secure because if they lose their appeal on this single case, and lose some of the next 4,000 similar cases (some of which will have stronger evidence), then management and the board will be sued for failing to mitigate, by dividending out funds to shareholders that should have been set aside for successful plaintiffs.

The news of a pulled dividend will send MRK down even further.

I do believe there will be a flushing out (i.e., throwing away) of MRK, and that would be a good time to buy in.

That's because I happen to think Merck is a marvelous company, generating lots of cash from very good products, and will not go bankrupt. This litigation (4.000 separate claims) will take ten years or more to resolve, and the company will still be going like the Energizer Bunny for many years to come.

But, I do think investors need time to figure out the future of this company, and in the meantime, there will be more sellers than buyers.

Thanks for writing. I hope I have shed some light.

Cordially, /Bill"


Posted by Posted by Bill Cara on August 22, 2005 05:15:47 PM | Category: 35 Health Care