Sell Smith & Nephew / Buy Shire

Today, we are recommending our clients to sell Smith & Nephew Plc and switch into Shire Plc.

Smith & Nephew Plc has performed well since we added the stock as a ‘special situation’ in our model portfolio. We are now advising our clients to take profits as though the business is in reasonable shape, we see limited near-term scope for either higher earnings expectations or for further capital deployment to drive the share price much higher. Technically, the stock is at all-time highs and fundamentally, the risks are now to the downside with the consensus broker price target coming in at 741p, 5% below current levels. Indeed, trading on a 15.6x forward P/E multiple, Smith & Nephew’s prospects are by and large already reflected in the share price.

Shire Plc is a leading specialty pharmaceutical company, with a balanced portfolio of differentiated products focusing on life-altering conditions such as rare genetic diseases and behavioural health such as Attention Deficit Disorder and Depression.

A cheap valuation, both compared with its peers and its historical P/E multiple, indicates that the current share price represents a very attractive entry point to a long-term industry winner. Potential EPS upside in the form of clarity on legal challenges and positive developments in its pipeline could propel the stock further than expected, as indicated by Goldman Sachs’s optimistic 2675p price target (indicating 30% potential upside).

On top of that, Shire has been cited as a takeover target for many years. With improved clarity on the pipeline and the legal front, this scenario seems like a real possibility more than ever.