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Reasons to Believe in Schering-Plough

For more than a year, analysts have been tempering their praise of Schering-Plough (SGP) with a warning that it must reduce its reliance on its cholesterol franchise of Zetia and Vytorin.

Events of the past few weeks, however, weren't what Wall Street had in mind. Schering-Plough's stock has skidded following the long-delayed publication of a Vytorin clinical trial , which produced disappointing results and legislators' calls for investigating how the results were revealed. Between Jan. 11 and Feb. 6, the stock was off by 26%.

Many analysts chipped away at their 2008 earnings predictions, but they haven't changed their mostly favorable view of Schering-Plough. Although the picture of the new company may not come into focus for several years, the key test for Schering-Plough depends more on drugs in development than on products in the market.

Despite the recent controversy, analysts expect Zetia and Vytorin, sold via a joint venture with Merck (MRK - Get Report), to maintain a prominent role for the near future. Vytorin combines Schering-Plough's Zetia with Merck's Zocor. The Merck drug lost U.S. patent protection in mid-2006.

Schering-Plough "still enjoys the most robust earnings growth outlook in the sector," says Roopesh Patel, of UBS Securities, even after he scaled back his 2008 earnings-per-share estimate to $1.47 from $1.62 in a recent research report.

The company "has a comparatively low-risk growth outlook," in part due to "limited patent exposure" until 2014. Although it's a bit early to predict how well experimental drugs will do, the company has a few promising compounds, adds Patel, who has a buy rating. He doesn't own shares. His firm has had a non-investment banking relationship.

"For investors with a multiyear time horizon, we believe Schering-Plough represents a compelling risk-reward ratio as the company's pipeline matures," says George Grofik, of Citigroup Global Markets, in a recent report to clients. " The pipeline is interesting, but visibility is still two to three years away."

Noting that Zetia and Vytorin account for more than 60% of Schering-Plough's earnings per share, Grofik says the recent drop in its stock price means "investors are paying virtually nothing" for the company's R&D prospects, "which is a comfortable position for investors." He doesn't own shares. His firm has had a recent investment banking relationship.

Grofik is neutral on Schering-Plough, which he considers a high-risk investment. According to Thomson First Call, 14 analysts have buy ratings while six are neutral. The buy-hold ratio was 10-to-7 three months ago. Analysts with hold ratings -- and even those with buy ratings -- are not sure how how deep or how long the impact of the recent Vytorin news will affect Schering-Plough.

More Than Cholesterol

Longer-term, Schering-Plough's fate depends on its homegrown R&D and its $15.7 billion acquisition of Organon BioSciences from Akzo Nobel (AKZOY). The deal, which closed in November, gave Schering-Plough an assortment of new drugs, enabled it to become one of the world's leading suppliers of animal health drugs and expanded its R&D pipeline. On Feb. 12, investors will get their first detailed look at the consolidated results when Schering-Plough issues fourth quarter results and, presumably, offers predictions for 2008.

The first crucial tests of the Organon deal will come later this year when the Food and Drug Administration is expected to rule on asenapine, for schizophrenia, and on sugammadex, which helps patients recover faster from anesthesia.

Asenapine has a complicated history. Pfizer (PFE - Get Report) had a marketing and development deal for the drug when Organon was still part of Akzo Nobel. Pfizer backed out in December 2006, shortly after Organon said it would delay submitting an application to the FDA due to mixed results from clinical trials. When Schering-Plough announced its plans in June 2007 to buy Organon, CEO Fred Hassan said "our R&D people were impressed with asenapine."

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