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Better Buy: Celgene Corporation vs. Merck & Co.

Over the past month, Celgene (NASDAQ: CELG) shares notched a gain of more than 20%, while Merck & Co. (NYSE: MRK) stock has risen about 17% year to date. Both drugmakers have exciting futures in the oncology space. With worldwide cancer medicine spending projected to rise from $107 billion last year to over $150 billion by 2020, investors are right to wonder which stock is best positioned to ride this trend into the clouds.

Image source: Getty Images.

Let's weigh their strengths and weaknesses to determine which is the better buy.

Ups and downs for Celgene

Since its first approval in 2005, Celgene has steadily expanded approved applications for its blood cancer therapy Revlimid, and sales of the capsules have steadily grown as well. Despite over a decade on pharmacy shelves, Revlimid sales rose 30.1% in the third quarter compared with the same period last year, to an annualized run rate of $7.56 billion.

While Celgene's ability to continue expanding Revlimid sales over the years is impressive, investors need to understand that it also comprised about 63.4% of the biotech's total revenue in the third quarter. That could be a problem once limited volumes of a generic version from Natco Pharma begin siphoning off the company's main revenue stream in 2022.

There's a good chance Celgene will be able to offset Revlimid losses once additional generic-drug makers begin racing each other to the bottom after it loses patent exclusivity around 2027. The blue-chip biotech deftly invested Revlimid's massive cash flows into a world-class development pipeline, with four mid- to late-stage clinical trials producing data during the last two months of 2016 alone. Further ahead, a staggering 11 late-stage studies under way will help it achieve a lofty goal of 20% annual earnings-per-share growth through 2020.

Image source: Getty Images.

In the present, the biotech's sophomore year in the anti-inflammatory space is a rousing success. Otezla earned its first FDA approval for treatment of psoriasis in 2014, and sales of the tablets finished the third quarter at an annual run rate of $1.10 billion. Third-quarter figures for its No. 2 cancer therapy, Pomalyst, are encouraging as well. Sales of this follow-up drug to Revlimid grew 33% over the previous year period to a $1.36 billion annual run rate.

Unlike Merck, Celgene doesn't pay a dividend, but it isn't plowing all its profits into growth opportunities. The company has already returned $2.0 billion to shareholders this year in the form of share repurchases, and another $4.9 billion left over from September's buyback authorization could reduce the outstanding share count by another 5% at recent prices.

Ups and downs for Merck & Co.

Investors looking for steady dividend income will appreciate the 2.9% yield Merck shares offer. Five-year earnings growth estimates around 6.48% pale in comparison with Celgene's surging bottom line, but they aren't bad for a big pharma.

The company's best-selling drug is a diabetes tablet called Januvia. It earned its first FDA approval in 2006, the year following Revlimid, but sales growth has ground to a halt recently. Lawsuits from 1,140 users that allege using the DPP-4 inhibitor caused pancreatic cancer and other diseases are in part responsible for a 1.4% contraction in third-quarter sales compared with the previous-year period.

Merck was able to keep Januvia on leading pharmacy benefit manager preferred formularies, but I'd be surprised if it will be able to grow its sales with steep price increases in the years ahead. Competition for America's estimated 27 million type-2 diabetics from drugs of the same class and from next-generation treatments is increasingly intense.

Image source: Getty Images.

For growth in the years ahead, Merck will lean heavily on Keytruda. The exciting cancer therapy prevents several types of tumor cells from evading immune system attacks and recently became the first chemo-free treatment option for many newly diagnosed lung cancer patients.

In the U.S., lung tissue malignancies are the leading cause of cancer death. Keytruda's biggest contender of the same class, Opdivo from Bristol-Myers Squibb, recently flopped in a late-stage trial as a solo-therapy for untreated patients. Its rival's failure should allow Merck to become entrenched in the chemo-free front line for this important group, helping peak annual Keytruda sales top out around $8 billion.

PEG ratios to the rescue

At about 20.9 times forward earnings, Celgene's shares are far more expensive than Merck's. With both companies growing profits at vastly different speeds, though, it's important to factor in expected earnings growth rates to judge their relative value.

CELG PE Ratio (Forward) data by YCharts

Price-to-earnings-growth (PEG) ratios are especially handy in situations such as these, and it appears Celgene has Merck beaten on this metric. Dividing the big biotech's forward PE by the ratio of this year's EPS estimates over last year's results gives us the 0.102 figure, and looking ahead another year expands its lead.

You might not enjoy a dividend, but it appears Celgene is the better buy.

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Cory Renauer has no position in any stocks mentioned. You can follow Cory on Twitter

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