3 Reasons to Avoid WST and 1 Stock to Buy Instead

West Pharmaceutical Services has been on fire lately. In the past six months alone, the company’s stock price has rocketed 43%, reaching $339.52 per share. This was partly thanks to its solid quarterly results, and the run-up might have investors contemplating their next move.

Is there a buying opportunity in West Pharmaceutical Services, or does it present a risk to your portfolio? See what our analysts have to say in our full research report, it’s free.

Why Is West Pharmaceutical Services Not Exciting?

We’re happy investors have made money, but we don’t have much confidence in West Pharmaceutical Services. Here are three reasons why WST doesn’t excite us, plus one stock we’d rather own.

1. Long-Term Revenue Growth Disappoints

A company’s long-term performance is an indicator of its overall quality. Even a bad business can shine for one or two quarters, but a top-tier one grows for years. Unfortunately, West Pharmaceutical Services’s 5.7% annualized revenue growth over the last five years was mediocre. This fell short of our benchmark for the healthcare sector.

2. Shrinking Adjusted Operating Margin

Adjusted operating margin is an important measure of profitability as it shows the portion of revenue left after accounting for all core expenses — everything from the cost of goods sold to advertising and wages. It’s also useful for comparing profitability across companies because it excludes non-recurring expenses, interest on debt, and taxes.

Analyzing the trend in its profitability, West Pharmaceutical Services’s adjusted operating margin decreased by 5.3 percentage points over the last five years. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability. Its adjusted operating margin for the trailing 12 months was 21.7%.

3. New Investments Fail to Bear Fruit as ROIC Declines

ROIC, or return on invested capital, is a metric showing how much operating profit a company generates relative to the money it has raised (debt and equity).

Unfortunately, West Pharmaceutical Services’s ROIC has decreased significantly over the last few years. We like what management has done in the past, but its declining returns are perhaps a symptom of fewer profitable growth opportunities.

Final Judgment

West Pharmaceutical Services isn’t a terrible business, but it doesn’t pass our bar. Following the recent rally, the stock trades at 36.4× forward P/E (or $339.52 per share). This valuation tells us a lot of optimism is priced in - we think there are better opportunities elsewhere. We’d suggest looking at the most dominant software business in the world.

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