Our Top Picks in the Generic Drug Industry

Michael Waterhouse: The generic drug industry continues to face several challenges, including greater than expected pricing pressure, unfortunate capital-allocation decisions, high financial leverage, and concerns about collusion charges.

The historical growth and profitability this industry has witnessed over the last decade also looks difficult to sustain, in our view, thanks to the future decline in small-molecule patent expirations, increased competition in complex product categories, and increased drug distributor buying power. Although we think a number of these headwinds, including recent accelerated pace of price erosion, will begin to subside, we recently shifted our economic moat ratings for all the firms to none as the generic industry remains a low-barrier-to-entry market with relatively commoditized products and increasing competition from emerging-market players.

We advise investors to proceed with caution in the space, but long-term, patient investors might want to consider our top picks in the generics industry--Teva and Mylan--thanks to their more diversified operations, first-to-file pipelines, and more complex manufacturing capabilities. It's important to note that these two companies face some additional risk from generic entrants on their large branded products, Copaxone and EpiPen, respectively, which should both see limited competition thanks to each product's manufacturing complexity.