American Home in Fat City Even as Charge Swells

American Home (AHP Quote - Cramer on AHP - Stock Picks) Thursday overshot its diet-drug litigation cost forecasts once again, but the market was in a forgiving mood, pushing the stock up 5%.

The New Jersey drugmaker, in announcing fourth-quarter operating earnings that were largely in line with analysts' forecasts, said it set aside an additional $7.5 billion to settle a blizzard of legal claims over negative health effects from two diet drugs withdrawn in 1997.

That comes just six months after officials said American Home wouldn't need more than $5 billion for the new legal reserve fund, which was already at $4.75 billion in 1999. And as they had in the past, American Home executives once again said they expect the total $12.2 billion fund would be enough to make the ligitation go away.

Grabbing the Bootstraps

Still, analysts and investors were loath to criticize American Home. These people say it's impossible to predict court cases these days, particularly since American Home acknowleged the two failed pills, Pondimin and Redux, caused health problems. To lawyers, that's basically an invitation to sue on behalf of as many clients as you can line up, through newspaper ads, fliers in drug stores, billboards and other common means in this ever-litigious society.

Resilient American Home bouncing back from setbacks

And American Home has demonstrated resilence in the face of the legal onslaught, continuing to push useful drugs through development and onto the market, a feat that accounts for its enduring support with some investors. The company said fourth-quarter income from continuing operations rose to 53 cents a share, or $794 million, from 46 cents, or $602.7 million, all before exceptional items. Revenue rose 16% to $3.5 billion in the quarter, boosted by a 17% increase in drug sales to $2.8 billion.

"They are still one of the best drug companies," says Sergio Traversa, an analyst with ING Barings, which has a buy on American Home and does no underwriting for it. "The products that are driving the company are doing very well." For a cash-rich drug company, a billion here or there "won't make much difference," says Traversa. The main objective is to "clean up the slate" and get on with the business of drug selling and development.

Need Some Scratch

Others marveled at American Home's ability to set aside so much cash. "I am impressed with that they can keep coming up with billions of dollars," says David Saks, portfolio manager with Gruntal Medscience fund, which holds drug and biotech stocks including Pfizer (PFE Quote - Cramer on PFE - Stock Picks) and Pharmacia (PHA Quote - Cramer on PHA - Stock Picks), but not American Home. "These companies have a safety deposit box with an enormous ability to withstand hits like this."

As if to assure investors it isn't facing financial ruin from the litigation, American Home said J.P. Morgan agreed to underwrite an additional $6 billion in credit to add to $2 billion in existing facilities. Even with added interest costs, it plans to meet its earnings goals, it said.

"Despite the increased interest costs ... from this additional financing, management remains confident that strong fundamentals will enable the company to achieve earnings per share in the range of $2.15 to $2.20 in 2001, which is consistent with previous estimates," it said.

Still some investors questioned the company's math. "Every billion dollars in interest is supposed to cost 3 to 4 cents in EPS," says one New York investor. "I don't see how they can make their numbers."