Royalty Revenue Will Contract Amid Strict Pricing And Debt Pressures

Key Takeaways

• Political and regulatory pressures on drug pricing, along with weaker intellectual property protections, threaten future royalty streams and earnings stability.
  
• Rising interest rates and intensified competition for assets risk shrinking margins, slowing acquisitions, and eroding the company's historical returns.
  
• Durable growth, innovative investments, strong industry partnerships, and favorable sector trends position Royalty Pharma for robust, diversified, and expanding long-term revenue and earnings.

Catalysts

Operates as a buyer of biopharmaceutical royalties and a funder of innovation in the biopharmaceutical industry in the United States.

• Increased political and regulatory scrutiny on global drug pricing poses a major risk to Royalty Pharma's long-term revenue trajectory, as royalty streams are directly exposed to potential price caps, reimbursement reforms, and government negotiations, all of which could significantly compress future top-line growth and royalty cash flows.
  
• The persistent high interest rate environment and uncertainty around the cost of debt threaten Royalty Pharma's ability to profitably finance new royalty acquisitions, which risks slowing deal flow, driving up acquisition costs, and compressing net margins and returns on invested capital over the next several years.
  
• Broad acceleration in the loss of exclusivity for key blockbuster drugs in Royalty Pharma's portfolio could result in steep declines in recurring royalty receipts as biosimilars and generics capture market share, undermining both earnings visibility and portfolio durability.
  
• Intensifying competition from large alternative asset managers and newly capitalized funds threatens to inflate acquisition prices for royalties, eroding Royalty Pharma's historical margin advantage and dampening the company's ability to generate high internal rates of return on future investments, ultimately pressuring long-term net income.
  
• Heightened global scrutiny and variability in the enforcement of intellectual property rights, especially across emerging markets such as China, could undermine the value and duration of existing and future royalty streams, increasing legal risks, and undermining the reliability of expected earnings from international assets.

Royalty Pharma Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Royalty Pharma compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Royalty Pharma's revenue will grow by 15.1% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 44.3% today to 25.8% in 3 years time.
• The bearish analysts expect earnings to reach $905.7 million (and earnings per share of $2.13) by about August 2028, down from $1.0 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 22.6x on those 2028 earnings, up from 15.4x today. This future PE is greater than the current PE for the US Pharmaceuticals industry at 18.9x.
• Analysts expect the number of shares outstanding to decline by 3.53% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.78%, as per the Simply Wall St company report.

Royalty Pharma Future Earnings Per Share Growth

Risks

• The company's consistent track record of double-digit portfolio and royalty receipt growth, even during economic and market downturns, suggests durable earnings power and potential for long-term revenue expansion.
  
• Royalty Pharma's investments in innovative assets, such as the Revolution Medicines partnership and exposure to blockbuster and first-to-market drugs like daraxonrasib and Voranigo, could generate substantial and diversified recurring royalty streams, supporting robust net margin and cash flow growth.
  
• The company's scale, integrated investment platform, and low cost of capital provide competitive advantages, allowing it to pursue and win large, high-return royalty deals-potentially enhancing distributable cash flow and earnings per share over time.
  
• Strategic relationships and early access partnerships with biotech, pharma, and academic leaders, as well as active expansion into new geographies such as China, position Royalty Pharma to benefit from ongoing global innovation and growth in biopharma R&D, sustaining and possibly accelerating future revenue opportunities.
  
• The accelerating adoption of alternative funding models, an aging population, rising healthcare expenditures, and ongoing innovation in high-value therapeutic areas (oncology, gene therapies, orphan diseases) are long-term secular tailwinds likely to continuously enlarge Royalty Pharma's investable asset pool and support upward trends in both top-line and bottom-line performance.

Valuation

• The assumed bearish price target for Royalty Pharma is $32.19, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Royalty Pharma's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $55.0, and the most bearish reporting a price target of just $32.19.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $3.5 billion, earnings will come to $905.7 million, and it would be trading on a PE ratio of 22.6x, assuming you use a discount rate of 6.8%.
• Given the current share price of $36.35, the bearish analyst price target of $32.19 is 12.9% lower.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.