One Good Idea: Paladin Labs Inc.
The source: Jeff Mo, analyst at Mawer Investment Management Ltd.
The idea: Since it started up in 1994, this Montreal-based pharmaceutical company has grown in size from $1-million in initial capital to a market cap of $315-million today, Mr. Mo says. That's 15 per cent a year compound growth - "very impressive."
Unlike its riskier peers, Paladin does no research and development, but rather buys the rights from drug companies to distribute their drugs in Canada.
Each time Paladin wins a new contract, the company's sales force goes into action, visiting doctors in their offices and asking them to prescribe the drug. Meanwhile, its lobbyists go to work on provincial health authorities, trying to make sure the drug is covered by provincial health plans.
The model works, Mr. Mo said. "Once you buy the rights to distribute drugs, there are very little costs associated with it." Paladin focuses on niche drugs with relatively small markets rather than blockbusters so that when the drug goes off-patent, generic drug companies usually don't bother to create their own version. This gives the company a steadily growing stream of cash flow with "little or no competition," Mr. Mo notes. Paladin's top-selling drug, Dexedrine, has been off patent since 1946, he adds.
With the stock recently trading in the $17 range, Paladin's price-earnings multiple is about 25 times trailing earnings, but a better measure is price to EBITDA, which is about 7 times, Mr. Mo says. Drug purchases are written off against earnings over a number of years because drugs are deemed to have a finite life as an asset, which affects net income, he points out.
"The return on capital once you take into account this amortization could be somewhere in the range of 17 per cent to 18 per cent."
The company has no debt and $80-million of cash on its balance sheet, which gives it credibility when negotiating drug purchases with pharmaceutical giants such as Pfizer Inc.
In a nutshell, "management has been doing what they said they would do, which is very important to Mawer."
The payoff: Exceptional long-term growth - "something in the mid-teens is not out of the question." Meanwhile, Paladin's strong return on capital will be reflected in the stock price over time, Mr. Mo says.
The big risk: No one big risk awaits Paladin, although the company has talked about expanding into other countries, where "they may not have operational expertise or might pay too much," Mr. Mo says. And as with any small company, there is "key man" risk - the risk something might happen to the CEO and founder, Jonathan R. Goodman.
Why listen to Jeff Mo?: Mr. Mo is quick to point that Martin Ferguson is the portfolio manager of the Mawer New Canada Fund, which holds Paladin shares. The fund has returned about 12 per cent a year for the past 10 years with below-average risk, putting it in the top 9 per cent, performance-wise, of funds in its class. The New Canada Fund was closed to new investors in 2005, but won Lipper awards three years running - 2002, 2003 and 2004 - for the best fund in its category. "We know how to identify great companies," Mr. Mo said.
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