CSL a falling star

If you're new to the stockmarket and are horrified at the treatment dished out to some of the popular stocks this year, then quietly thank yourself for the valuable lesson. If you're a shareholder in blood product manufacturer CSL, that lesson has, in all likelihood, been very costly.

When we first suggested subscribers sell in issue 88/Sep 01 (Sell - $43.02), it seemed that everyone, including the 'experts', were buying. Indeed, having floated at $2.50 in 1992, the share price rocketed past $50. Now that the price has since fallen to $21.10, no one wants to touch it.

The fall of glamorous high flyers is nothing new. As Horace, a latin poet and satirist said in Ars Poetica, 'Many shall be restored that now are fallen and many shall fall that are now in honour'. To explain how CSL has fallen we're going to compare it with another great biotech success story, Cochlear .

As with CSL, this bionic ear manufacturer was a glamour stock but is now losing that status. Still, over the past five years both companies have achieved impressive annual earnings per share growth of more than 20%.

Crucial difference

But there's one crucial difference. While Cochlear generates a return on equity of more than 50% (a truly great number - see Investor's College issue 87/Sep 01 ), CSL struggles to reach double figures.

That's because Cochlear enjoys a near-monopoly over the global market for inner ear implants, giving it incredible pricing power. But CSL has a number of formidable competitors and is finding current conditions tough.

As a result of the terrorist attacks on the US a huge number of people donated blood, many of whom wouldn't otherwise have done so. As a result CSL now faces an oversupply of intravenous immunoglobulin (IVIG) and a price war with its competitors. For the first time the company's profit margins are being squeezed. That's what has got the market spooked.

We can't say whether IVIG prices will fall further but we aren't going to discount everything that was good about CSL just six months ago either.

This remains a well managed, growing company going through a shaky patch. And we like its policy of expensing, rather than capitalising, its large research and development costs. This means that profits and assets are not overstated in the short term, which avoids the risk of a nasty writedown in the future.

So, is it good value? Alas, on a PER of 27 and a meagre 1.6% dividend yield, we aren't excited just yet. As we said in issue 111/Sep 02  (Steer Clear - $22.69), the value proposition, while far from compelling, is getting better.

But without a high return on equity to support its strong growth and a PER that remains high, CSL's stock price could easily fall further. Still, if you have hung on for this long it's probably not worth pulling the plug now. HOLD WHILE UNSTABLE .

Were the price to fall by a further 20% or so we'd be happy to review this recommendation but, at this stage, it's too early.