Is it time to buy AstraZeneca?

AstraZeneca's first quarter results make for grim reading. Sales and profits were worse than analysts expected. On top of that the chief executive has decided to retire rather than face re-election at the annual meeting. It's not surprising that the market has hammered the shares.

But just how bad can things get for the company? Is there a price when you should be buying this stock? Or is it a business in terminal decline?

Given that a lot of our pension funds probably own this stock, it's an important question. Let's try to answer it.

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The loss of patents is starting to hurt

First quarter sales declined by 11%. This was mainly due to the loss of exclusivity on several of Astra's key drug brands, with schizophrenia drug Seroquel having a big impact.

As the table below shows, some of Astra's biggest selling drugs will lose their exclusivity in the next few years (sales are in $m). Without new blockbuster drugs to replace them, the outlook for Astra's sales and profits remains grim.

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But on top of this, the company seems to be making life difficult for itself. After putting some new IT into its supply chain, it found itself short of supplies on some products, which hurt sales. This problem will continue during the second quarter of 2012.

As if that wasn't enough to worry about, competition from generic drugs is more fierce. Cash-strapped governments are becoming even tougher on the prices they are prepared to pay for drugs.

Then there's the emerging markets story that's supposed to rescue the big pharma companies. Things don't look too good here either. Yesterday, Glaxo reported sales growth of just 2% from emerging markets. Astra's performance was even worse with growth of just 1%. Both companies talk about better fortunes later in the year. We'll see.

Is AstraZeneca now a distressed asset?

Not quite, but it's getting there. At just over seven times 2012 forecast earnings, there's a lot of pessimism baked into the share price.

But should you take the plunge and buy? Buying the right business at times of extreme pessimism can be a very good way to make money. But this is only true if the pessimism is overdone.

That depends on the company's strategy. And with the departure of the CEO, we don't know what Astra's strategy is anymore.

It seems to have two main choices. It can either hold its breath and buy another company with a promising pipeline of drugs. Or it can put up the white flag, slash its research spending and run the business for cash.

The first strategy is risky because Astra may have to pay too much, and fail to make a decent return. The second strategy is defeatist and a touch shameful, as it would involve making lots of intelligent scientists redundant. Yet Astra's sinking share price looks like the market is betting on the latter.

The dividend looks safe for now

The main attraction of Astra is unquestionably the dividend. At 2,700p a share, it offers a prospective dividend yield of 6.7% which is more than twice-covered by profits. This is why so many income funds continue to hold the shares. It doesn't look like it will be cut soon.

That said, a new CEO might have a different point of view. Cutting the dividend would free up cash for more aggressive investment in research, or an acquisition. So if you are thinking of buying the shares for income, you need to bear this in mind.

As it stands, we're not quite ready to buy the shares yet. Investors have not completely thrown in the towel. If it gets down to 2,500p, and trading has got no worse, it looks worth a gamble. This is one to put on your watch list.