Financial Pacific: Demographic Dynamics (third party), August 16.2010


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Financial Pacific: Demographic Dynamics (third party), August 16.2010

  1. 1. August 4, 2010 Demographic Dynamics: A case study for equity investors Demographic shifts offer robust investment opportunities RELATED RESEARCH With the macroeconomic outlook still clouded, we turn investor attention Global Economics Paper No: 170, “The to one of our core long-term departmental themes – namely, identifying Expanding Middle: The exploding World and investing across demographic trends. We believe that we are sitting at Middle Class and Falling Global Inequality” the intersection of three powerful, once-in-a-lifetime population shifts, each by Dominic Wilson, et al. (July 7, 2008) of which holds material investment implications. GS SUSTAIN, “Crossing the Rubicon: Our investment framework for the next decade” Baby Boomers begin to retire by Anthony Ling, et al. (February 26, 2010) The approaching retirement of the Baby Boomers (born 1946-1964) will Global Markets Institute, “The Power of the significantly alter the spending, saving and leisure patterns of the largest Purse: Gender Equality and Middle-Class Spending” by Sandra Lawson and Douglas generational cohort in US history. The economic and financial effects will Gilman (August 5, 2009) be far-ranging; we examine the investable consequences across the healthcare, financial and consumer sectors. We pay special attention to Stock selections in this report are based on Allergan, Ameriprise, Brookdale Senior Living, Express Scripts, individual analyst criteria. Financial Engines, McKesson, Mylan, Pfizer, T. Rowe Price and Zimmer. Investing in the “middle” The Goldman Sachs economics team coined the notion of the “expanding middle” to describe both a global shift toward middle-income economies and the growth of the middle-class population within these economies. We see continued growth in consumer and infrastructure demand driven by Anthony Carpet (212) 902-6758 the expanding middle and highlight, Banco Bradesco, Goldman Sachs & Co. Bucyrus, Citigroup, Hypermarcas, Monsanto, News Corp., Petrobras, Teck Resources and Visa as key beneficiaries. Laura Conigliaro (212) 902-5926 Goldman Sachs & Co. Generational waves after the Baby Boom As Baby Boomers begin to exit the US labor force, generational dominance Robert D. Boroujerdi will shift in the United States for the first time in forty years. The rise of two (212) 902-9158 under-30 generational waves—the “Millennials” and “Generation Z”—to Goldman Sachs & Co. economic prominence will have significant consequences, particularly Thomas Craven, CFA within the Consumer and TMT sectors. Companies exposed include AT&T, (212) 902-6748 Crown Castle International, Disney, Hasbro, Juniper, Mead Johnson Goldman Sachs & Co. Nutrition, Progressive, Qualcomm and Urban Outfitters. Michael Chanin, CFA (646) 446-1777 Introducing GSRHDEMO Goldman Sachs & Co. We introduce a tradable basket of 42 names tied to these three demographic themes: Bloomberg ticker GSRHDEMO. Deep Mehta (212) 357-8419 Goldman Sachs & Co. The Goldman Sachs Group, Inc. does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. For Reg AC certification, see the end of the text. Other important disclosures follow the Reg AC certification, or go to Analysts employed by non-US affiliates are not registered/qualified as research analysts with FINRA in the U.S. The Goldman Sachs Group, Inc. Global Investment Research
  2. 2. August 4, 2010 Americas Table of Contents Portfolio Manager’s Summary 3  Retiring Baby Boomers 9  Opportunity #1: An aging population provides a tailwind for the healthcare sector 13  Opportunity #2: Financial services are needed to address both pre-retirement and post-retirement needs 17  Opportunity #3: Baby Boomer spending declines and shifts from discretionary items to necessities 22  The expanding global middle class 25  Opportunity #1: Emerging markets are THE story in consumer staples for decades to come 30  Opportunity #2: Food, feed and fuel to drive agricultural demand growth 34  Opportunity #3: Increasing discretionary income to drive incremental demand across the TMT universe 37  Opportunity #4: While prosperity is rising, the highest growth regions remain financially underserved 41  Opportunity #5: Global infrastructure growth and rising commodity demand 43  Generational waves after the Baby Boom 49  Opportunity #1: Millennials are tech-savvy and connected 52  Opportunity #2: Millennials consume media differently 55  Opportunity #3: Millennial consumers embrace e-commerce 57  Opportunity #4: As Millennials become parents, Generation Z looms 61  Appendix 63  Analyst contributors Stephen Graham Ingrid Chung Marc Irizarry +55(11)3371‐0831 | (212) 902‐2360 | (212) 902‐4175 | Goldman Sachs Brasil Bco Mult S.A. Goldman Sachs & Co. Goldman Sachs & Co. Robert P. Jones Chris Neczypor Noah Poponak, CFA (212) 902‐3336 | (212) 357‐8512 | (212) 357‐0954 | Goldman Sachs & Co. Goldman Sachs & Co. Goldman Sachs & Co. Andrew Sawyer, CFA Brian Singer, CFA Randall Stanicky, CFA (212) 902‐5488 | (212) 902‐8259 | (212) 357‐3292 | Goldman Sachs & Co. Goldman Sachs & Co. Goldman Sachs & Co. Michelle Tan, CFA John T. Williams (212) 902‐3099 | (212) 357‐3948 | Goldman Sachs & Co. Goldman Sachs & Co. Source: Goldman Sachs Research. Goldman Sachs Global Investment Research 2
  3. 3. August 4, 2010 Americas Portfolio Manager’s Summary With the macroeconomic outlook still clouded, we turn investor attention to one of our core long-term departmental themes – namely, identifying and investing across demographic trends. We believe that we are sitting at the intersection of three powerful, once-in-a- lifetime population shifts, each of which holds material investment implications. In this paper we seek to leverage our own research with the work of our Goldman Sachs’s economists, Global Markets Institute and colleagues in GS SUSTAIN to prosecute this opportunity via single stock and sector selection. Specifically we identify three material population trends and seek to provide investors with a roadmap to help navigate the changing demographic landscape. The trends are as follows:  How retiring Baby Boomers will impact the economy and specifically companies in our healthcare, financial and consumer stock universes.  How a global shift toward middle-income economies and the growth of the middle- class population within these economies will impact consumption, energy and infrastructure.  How the rise of two under-30 generational waves—the “Millennials” and “Generation Z”—will have significant consequences within the TMT, financial and consumer spaces. While the list of names that are affected is far-reaching and ever growing, we identify the companies in Exhibit 1 as those for which we see the most pronounced positive and negative impacts over the next few years. Exhibit 1: Stocks impacted by key demographic themes Commodities &  Population shift Industrials Consumer Financials Healthcare TMT AMP, BKD, FNGN,  AGN, ESRX, MCK,  Retiring Baby Boomers (‐) CHS, HOG WBMD TROW MYL, PFE, SYK, ZMH BA, BRFS3.SA, BTU,  AMZN, CSCO, DTV,  CL, HYPE3.SA, MJN,  BBD, BLK, C,  The expanding global middle class BUCY, FCX, JOYG,  JNPR, MA, NWSA,  NKE, PEP, PM  CIEL3.SA MON, PBR, PCP, TCK QCOM, V (+) AMT, BRCM, CCI,  DIS, HAS, MJN,  CSCO, JNPR, QCOM,  Generational waves after the Baby Boom PGR URBN SBAC, T  (‐) CTL, FTR, Q, WIN Source: Goldman Sachs Research. Population shift #1: Retiring Baby Boomers The “Baby Boomers”, those born in the United States between 1946 and 1964 and currently accounting for 26% of the population, make up the largest and most influential generational cohort in American history. Their childhood catalyzed the rapid growth of suburbs and homeownership rates, while their adolescence and adulthood reshaped consumption preferences—as well as social and political values—throughout the economy. With the oldest Baby Boomers turning 65 in 2011, the next transformational economic change in the United States will be precipitated by their retirement. We expect the impact Goldman Sachs Global Investment Research 3
  4. 4. August 4, 2010 Americas to be felt throughout the domestic economy, especially within the healthcare, financial and consumer sectors, and note the following sub-themes to prosecute this view:  Opportunity #1: An aging population provides a tailwind to the healthcare sector that helps offset secular headwinds including a lack of innovation and an increasingly challenging reimbursement environment. We see significant opportunities for companies exposed to an aging population that can also successfully navigate the changing healthcare landscape, and highlight in particular Allergan, Brookdale Senior Living, Express Scripts, McKesson, Mylan, Pfizer, Stryker, WebMD and Zimmer.  Opportunity #2: Opportunities exist for select financial services companies that can help Baby Boomers meet their pre-retirement and post-retirement needs. We believe Ameriprise, Financial Engines and T. Rowe Price are particularly well positioned to meet increased demand for retirement savings solutions.  Opportunity #3: According to the Bureau of Labor Statistics, US household consumer spending peaks between the ages of 55 and 64, dropping 17% after age 65. As the Baby Boomer cohort moves from peak spending years into retirement its total consumption will decline, and necessities will gain a greater share of expenditures relative to discretionary items. As a result, we believe that last decade’s “Boomer Buys” are this decade’s “Boomer Sells.” We expect companies like Chico’s FAS and Harley-Davidson to suffer as Baby Boomers retire. Population shift #2: The expanding global middle class The concept of the “expanding middle” was coined by Goldman Sachs economists to describe the global shift toward middle-income economies as well as the growth of the middle-class population within these economies. The developing world has spent the last fifty years industrializing, globalizing and westernizing, with the result that middle-income economies are now poised to take the mantle of global economic leadership from nations with higher per-capita wealth. The consequences across sectors are likely to be significant as higher standards of living drive increased consumer demand, and significant infrastructure and commodity investment is required to help meet that demand.  Opportunity #1: We see $10 trillion of potential growth between now and 2050 for the consumer packaged good industry alone due to increased household penetration in emerging markets. Consumer-facing multinationals exposed to rising middle-class wealth include Colgate-Palmolive, Mead Johnson Nutrition, Nike, Philip Morris International and in time PepsiCo. Local competitors are sure to compete for this market as well; we highlight Hypermarcas as a local franchise poised to grow in Brazil.  Opportunity #2: As global consumption increases, we see food, feed and fuel requirements combining to drive demand in the agricultural sector. We expect Monsanto, the global leader in agricultural biotechnology, to benefit from the need for increased yield as crop demand outpaces growth in arable land. Brasil Foods, the largest producer of processed foods, pork, and poultry in Brazil, is likely to profit directly from increased protein consumption as diets improve with higher incomes.  Opportunity #3: Higher discretionary income in emerging markets will similarly drive incremental demand across the tech, media and telecom universe. Companies poised to benefit include, DirecTV, News Corp. and Qualcomm.  Opportunity #4: We expect the world’s financially underserved population to increasingly move into the global financial system as wealth increases in middle- income countries. As a result, we see massive potential customer growth in banking, lending and asset management. Highlighted US stocks include BlackRock, Citigroup, Goldman Sachs Global Investment Research 4
  5. 5. August 4, 2010 Americas MasterCard and Visa; in Latin America we see opportunities for Banco Bradesco and Cielo.  Opportunity #5: Finally, global infrastructure growth and increased commodity demand will be necessary to facilitate the increased consumption spending of two billion additional middle class people aspiring to new standards of living over the next twenty years. The effects will be felt throughout the global industrial and commodity complex; we believe Boeing, Bucyrus, Freeport-McMoRan, Joy Global, Peabody Energy, Petrobras, Precision Castparts and Teck Resources are particularly well positioned. Population shift #3: Generational waves after the Baby Boom Less well understood than the Baby Boom but potentially equally important in the United States are population peaks in the 16-29 and 0-4 age ranges (which we are calling “Millennials” and “Generation Z,” respectively). While these generational waves are not as large as the Baby Boom in absolute terms, they are larger than the low birth years between 1965 and 1980. As a result, the Millennials are poised to assume the country’s first new demographic leadership in forty years as they enter the labor force and Baby Boomers retire. We expect this to have a profound impact on US companies, particularly within the TMT and consumer sectors.  Opportunity #1: Millennials came of age in the Information Era and are more tech- savvy and connected than prior generations. This creates opportunities for the enablers of connectivity, including American Tower, AT&T, Broadcom, Cisco, Crown Castle International, Juniper, Qualcomm, and SBA Communications.  Opportunity #2: Millennials also consume content differently than prior generations, creating disruptions for the media industry. We favor differentiated content producers that are able to navigate changing media habits, such as Disney.  Opportunity #3: Given a high degree of awareness of consumer choices (aided by online searches and reviews), preference for immediacy of service, and comfort transmitting payment electronically, younger generations are more likely than their forebears to make purchases online. We highlight apparel retailer Urban Outfitters and auto insurer Progressive as companies whose e-commerce franchises are particularly well positioned relative to evolving generational preferences.  Opportunity #4: As Millennials become parents, Generation Z (ages 0-4) looms as an emerging demographic wave. While the ultimate size and economic impact of this cohort remains unclear, the looming change in the under-18 demographic from a teen- dominated group to one where children under age 9 will greatly outnumber those ages 10-18 in the United States will have significant consequences for companies that target youth consumers and their parents. We expect Hasbro and Mead Johnson Nutrition to be among the names affected. Prosecuting the view For diversified exposure to stocks we believe are positively exposed to each of the three demographic themes outlined above, we introduce a 42-name tradable demographics basket, Bloomberg ticker GSRHDEMO (see Exhibit 2).1 1 Note: The ability to trade this basket will depend upon market conditions, including liquidity and borrow constraints at the time of trade. Goldman Sachs Global Investment Research 5
  6. 6. August 4, 2010 Goldman Sachs Global Investment Research Exhibit 2: Selected financial data for stocks mentioned in this report Shaded entries are viewed as negatively impacted. Prices are as of the market close of August 3, 2010 Ticker Company Name Rating GSRHDEMO Last Close Target Upside to Target Price EBIT CAGR Sales CAGR P/E P/B EV/EBITDA FCF Yield basket Price Price target (%) Period 2009-12 2009-12 2010 2011 2010 2011 2010 2011 2010 2011 Retiring Baby Boomers AGN Allergan, Inc. CL-Buy √ $63.48 81.00 28% 12 months 14% 9% 20.0X 17.3X 3.5X 2.9X 11.0X 9.8X 5% 6% AMP Ameriprise Financial, Inc. Neutral √ $42.82 50.00 17% 12 months 29% 13% 10.2X 8.6X 1.1X 1.0X 5.3X 4.7X 12% 12% BKD Brookdale Senior Living Inc. Buy √ $15.30 22.00 44% 12 months 50% 6% NM NM 1.7X 1.8X 11.8X 10.2X 18% 20% CHS Chico's FAS, Inc. CL-Sell $9.03 8.00 -11% 6 months 24% 7% 13.8X 11.9X 1.5X 1.3X 5.3X 4.8X 6% 10% ESRX Express Scripts, Inc. Buy √ $46.32 62.00 34% 12 months 28% 23% 18.7X 14.2X 2.9X 2.2X 5.6X 4.4X 17% 15% FNGN Financial Engines, Inc. Neutral $15.24 17.00 12% 12 months 56% 24% 48.9X 41.6X 5.6X 4.8X 35.5X 21.1X 3% 5% HOG Harley-Davidson, Inc. Sell $27.39 26.00 -5% 6 months 78% 4% 21.3X 12.1X 4.7X 3.3X 6.8X 4.7X 2% 9% MCK McKesson Corp. CL-Buy √ $62.10 86.00 38% 12 months 6% 4% 12.7X 11.3X 2.4X 2.3X 5.9X 5.5X 8% 11% MYL Mylan Inc. Buy √ $17.48 26.00 49% 12 months 10% 8% 10.9X 9.0X 2.1X 1.8X 6.5X 6.4X 16% 12% PFE Pfizer Inc. Buy √ $16.34 18.00 10% 12 months 7% 6% 7.8X 7.4X 1.5X 1.4X 5.4X 5.4X 6% 12% SYK Stryker Corp. Neutral √ $47.76 55.00 15% 12 months 11% 6% 14.8X 13.3X 2.5X 2.2X 7.2X 6.7X 10% 9% TROW T. Rowe Price Group, Inc. Neutral √ $49.70 45.00 -9% 12 months 21% 14% 21.9X 19.1X 4.1X 3.8X 11.8X 10.5X 5% 5% WBMD WebMD Health Corp. Neutral √ $46.68 47.00 1% 6 months 47% 17% 35.2X 29.6X 3.8X 3.6X 14.4X 11.9X 3% 4% ZMH Zimmer Holdings, Inc. Buy √ $54.19 67.00 24% 12 months 7% 5% 12.7X 11.3X 1.7X 1.5X 6.6X 6.2X 9% 10% The expanding global middle class AMZN Inc. CL-Buy √ $122.42 150.00 23% 6 months 35% 29% 35.7X 27.5X 7.6X 5.7X 19.6X 15.5X 4% 6% BA The Boeing Company CL-Buy √ $69.54 84.00 21% 12 months 51% 4% 17.8X 13.8X 12.5X 47.3X 9.3X 8.4X -2% 6% BBD Banco Bradesco (ADR) Buy $18.43 21.30 16% 12 months 28% 12% 12.3X 10.9X 2.7X 2.5X NM NM NM NM BLK BlackRock, Inc. CL-Buy √ $160.84 173.00 8% 12 months 43% 29% 16.8X 14.6X 0.4X 0.4X 10.3X 9.0X 5% 7% BRFS3.SA BRF-Brasil Foods S.A. Neutral R$24.26 25.70 6% 12 months 101% 12% 34.0X 17.4X 1.6X 1.5X 11.0X 8.3X 2% 5% BTU Peabody Energy Corp. Buy √ $48.06 55.00 14% 6 months 23% 11% 16.0X 11.0X 2.9X 2.3X 7.8X 6.1X 5% 6% BUCY Bucyrus International Inc. Buy √ $63.10 70.00 11% 12 months 23% 19% 15.3X 10.9X 2.7X 2.2X 9.4X 7.2X 11% 7% C Citigroup Inc. Buy √ $4.13 4.50 9% 12 months NM 3% 14.0X 9.3X 0.8X 0.7X NM NM NM NM CIEL3.SA Cielo Neutral R$16.02 18.80 17% 12 months -3% 3% 11.7X 12.8X 50.5X 36.5X 7.3X 7.8X 9% 7% CL Colgate-Palmolive Company Neutral √ $78.14 86.00 10% 12 months 6% 4% 16.2X 15.0X 13.3X 12.5X 9.9X 9.5X 6% 7% CSCO Cisco Systems, Inc. Neutral √ $23.82 25.00 5% 12 months 17% 12% 18.4X 16.0X 3.0X 2.9X 13.5X 11.7X 6% 8% DTV The DIRECTV Group, Inc. Buy √ $37.24 46.00 24% 12 months 23% 8% 15.0X 12.1X 30.0X NM 6.3X 5.7X 8% 10% FCX Freeport-McMoRan Copper & Gold Inc. Neutral √ $74.03 79.00 7% 6 months 13% 13% 9.8X 8.4X 2.9X 2.1X 3.7X 3.2X 11% 16% HYPE3.SA Hypermarcas Buy R$22.95 27.10 18% 12 months 36% 35% 29.4X 23.1X 2.5X 2.3X 16.9X 12.4X 2% 6% JNPR Juniper Networks, Inc. CL-Buy √ $28.02 32.00 14% 12 months 36% 20% 28.1X 20.8X 2.1X 1.8X 13.9X 10.6X 4% 7% JOYG Joy Global Inc. Buy √ $60.29 65.00 8% 12 months 7% 5% 14.5X 12.7X 5.1X 4.4X 8.8X 7.9X 8% 6% MA Mastercard Inc. Buy √ $200.91 250.00 24% 12 months 16% 9% 15.5X 13.0X 5.4X 4.2X 8.3X 7.1X 4% 5% MJN Mead Johnson Nutrition Co. CL-Buy √ $53.30 61.00 14% 12 months 7% 9% 21.9X 19.0X NM NM 14.5X 12.9X 4% 5% MON Monsanto Co. CL-Buy √ $59.00 65.00 10% 12 months -5% 3% 22.8X 20.0X 3.0X 2.8X 11.5X 10.0X 5% 4% NKE Nike, Inc. CL-Buy √ $73.10 85.00 16% 6 months 10% 8% 16.6X 14.6X 3.4X 3.1X 10.5X 9.3X 6% 6% NWS__A The News Corp. (A) Buy √ $13.63 17.00 25% 12 months 15% 3% 14.0X 12.4X 1.3X 1.3X 7.2X 6.6X 6% 8% PBR Petroleo Brasileiro S.A. (ADR) Buy $38.18 47.00 23% 6 months 24% 18% 10.3X 8.4X 1.6X 1.4X 5.6X 4.5X -7% -2% PCP Precision Castparts Corp. CL-Buy √ $124.16 140.00 13% 12 months 15% 12% 16.8X 14.1X 2.5X 2.2X 9.8X 8.4X 6% 7% PEP PepsiCo, Inc. CL-Buy √ $65.77 76.00 16% 12 months 15% 14% 15.7X 13.9X 5.1X 4.8X 10.3X 9.4X 4% 6% PM Philip Morris International Inc. Buy √ $52.15 58.00 11% 12 months 10% 7% 13.8X 12.0X 42.3X 124.5X 9.4X 8.5X 7% 9% QCOM QUALCOMM, Inc. CL-Buy √ $38.46 44.00 14% 12 months 12% 11% 19.3X 16.6X 3.2X 2.9X 15.5X 13.5X 6% 7% TCK__B.TO Teck Resources Limited Neutral C$37.25 41.00 10% 6 months 25% 15% 14.6X 8.2X 1.3X 1.2X 6.5X 4.6X 4% 12% V Visa Inc. CL-Buy √ $73.00 93.00 27% 12 months 18% 15% 18.9X 15.3X 2.1X 2.0X 10.4X 8.9X 4% 6% Generational waves after the Baby Boom AMT American Tower Corp. Buy √ $46.46 53.00 14% 12 months 21% 11% 49.2X 38.1X 5.7X 7.9X 18.5X 16.1X 4% 5% BRCM Broadcom Corporation Buy √ $36.28 44.00 21% 6 months 93% 22% 16.9X 15.1X 3.9X 3.3X 13.6X 11.6X 6% 8% CCI Crown Castle International Corp. CL-Buy √ $40.76 46.00 13% 12 months 23% 9% NM 47.2X 5.0X 5.8X 15.9X 14.1X 2% 4% CSCO Cisco Systems, Inc. Neutral √ $23.82 25.00 5% 12 months 17% 12% 18.4X 16.0X 3.0X 2.9X 13.5X 11.7X 6% 8% CTL CenturyTel Inc. Neutral $35.87 38.00 6% 12 months 13% 10% 10.1X 9.9X 1.1X 1.1X 4.9X 5.1X 15% 13% DIS The Walt Disney Company Buy √ $34.21 42.00 23% 12 months 13% 4% 17.0X 13.7X 1.8X 1.7X 9.2X 7.7X 6% 8% FTR Frontier Communications Corp. Neutral $7.67 7.50 -2% 12 months 3% -6% 16.8X 14.5X 27.5X 35.3X 2.5X 2.5X 23% 23% HAS Hasbro, Inc. CL-Buy √ $42.43 55.00 30% 12 months 10% 4% 16.5X 12.1X 4.3X 4.2X 9.4X 7.9X 9% 9% JNPR Juniper Networks, Inc. CL-Buy √ $28.02 32.00 14% 12 months 36% 20% 28.1X 20.8X 2.1X 1.8X 13.9X 10.6X 4% 7% MJN Mead Johnson Nutrition Co. CL-Buy √ $53.30 61.00 14% 12 months 7% 9% 21.9X 19.0X NM NM 14.5X 12.9X 4% 5% PGR The Progressive Corporation Buy √ $19.61 23.00 17% 12 months -1% 4% 13.5X 12.8X 2.0X 1.9X NM NM NM NM Q Qwest Communications Intl. Neutral $5.65 5.75 2% 12 months -1% -3% 15.3X 15.4X NM NM 4.7X 5.0X 14% 21% QCOM QUALCOMM, Inc. CL-Buy √ $38.46 44.00 14% 12 months 12% 11% 19.3X 16.6X 3.2X 2.9X 15.5X 13.5X 6% 7% SBAC SBA Communications Corp. CL-Buy √ $36.03 43.00 19% 12 months 58% 12% NM NM 9.8X 11.6X 17.8X 14.9X -3% -1% T AT&T Inc. Buy √ $26.69 34.00 27% 12 months 8% 1% 11.3X 10.4X 1.5X 1.5X 5.4X 5.2X 8% 10% URBN Urban Outfitters Inc. Neutral √ $31.56 38.00 20% 6 months 25% 17% 18.9X 15.7X 3.4X 2.8X 8.8X 7.4X 5% 6% WIN Windstream Corp. Neutral $11.50 10.50 -9% 12 months 4% 1% 13.8X 13.5X 8.8X 14.6X 6.1X 6.1X 14% 14% Note: (1) For methodology and risks associated with price targets, please see analysts’ previously published research; (2) 2010 represents year ends from June 2010 to May 2011; 2011: June 2011 to May 2012. Americas Source: Goldman Sachs Research estimates. 6
  7. 7. August 4, 2010 Americas How to read this report For the benefit of the reader we note that this paper is broken down into three separate sections, each focused on one of the larger demographic trends we have described above. From there we frame each theme and provide several opportunity sets for investors to prosecute a view across sectors and single stocks. Goldman Sachs Global Investment Research 7
  8. 8. August 4, 2010 Americas Goldman Sachs Global Investment Research 8
  9. 9. August 4, 2010 Americas Retiring Baby Boomers Goldman Sachs Global Investment Research 9
  10. 10. August 4, 2010 Americas Retiring Baby Boomers The “Baby Boomers”, born in the United States between 1946 and 1964 and currently accounting for 26% of the US population, make up the largest and most influential generational cohort in American history. Their childhood catalyzed the rapid growth of suburbs and homeownership rates, while their adolescence and adulthood reshaped consumption preferences—as well as social and political values— throughout the economy. With the oldest Baby Boomers turning 65 in 2011, the next transformational economic change in the United States will be precipitated by their retirement. Over the next twenty years the percentage of the population over age 65 in the United States is expected to rise from 13% to nearly 20%, a net increase of 31 million retirement age people (see Exhibit 3). This is the result of both a demographic bulge—the Baby Boom—and increases in lifespan. The rapid growth in the number and proportion of the population over age 65 will have material consequences throughout the economy. We identify three investable opportunities in particular, highlighting companies affected in Exhibit 4:  Increased healthcare demand as the largest generation in United States history transitions into old age.  Meaningful opportunities for asset managers, financial advisors and insurers as Baby Boomers look to self-fund the bulk of their retirement income.  Declining Baby Boomer consumption and a shift in household spending from discretionary items toward necessities. Exhibit 3: The over-65 age group is expected to grow steadily over the next 20 years Estimated number in millions and percentage of US population over age 65 80 25% 70 20% 60 50 15% 40 30 10% 20 5% 10 0 0% 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Population over age 65 (left axis) % of population over age 65 (right axis) Source: US Census Bureau International Data Base. Exhibit 4: Companies exposed to the retirement of the Baby Boomer generation Opportunity Impact Companies Increased healthcare demand + AGN, BKD, ESRX, MCK, MYL, PFE, SYK, WBMD, ZMH Retirement funding needs + AMP, FNGN, TROW Declining Boomer discretionary spending ‐ CHS, HOG Source: Goldman Sachs Research. Goldman Sachs Global Investment Research 10
  11. 11. August 4, 2010 Americas The relative size of The size of the Baby Boomer generation relative to adjacent cohorts is a function of the Baby Boomer moderating fertility rates through the 1960s and 1970s and increases in life expectancy generation is a over the past fifty years. function of fertility and longevity trends  Fertility. Total fertility in the United States, as defined by the average number of children per woman, fell from a peak of 3.7 between 1960 and 1965 to a trough of 1.8 between 1975 and 1980. This sharp decline was the result of changing social and economic trends, including urbanization and rising incomes throughout the 1960s and 1970s, and was sparked in part by the introduction of the combined oral contraceptive pill in 1960. Fertility rates in the United States have recovered over the past thirty years to an estimated 2.1 children per woman in 2010. This recovery has given rise to the Millennials and Generation Z discussed later in this report, though we note that fertility rates have consistently stayed more than 40% below peak Baby Boom levels and are likely to remain so for the foreseeable future (see Exhibit 5).  Longevity. Continuing advances in healthcare and living standards are contributing to a shift of mortality to older ages. In the United States, life expectancy at birth increased from 70 years in 1960 to an estimated 79 years in 2010. Life expectancy is forecast by the United Nations to increase further to 83 years by 2045, emphasizing the need for extended use of healthcare services and retirement planning. Exhibit 5: Declining fertility and increasing longevity contribute to an aging population Average number of children per woman and life expectancy at birth in the United States 4 100 3 80 2 60 1 40 1950‐55 1965‐70 1980‐85 1995‐00 2010‐15 2025‐30 2040‐45 Total fertility (children per woman) Life expectancy at birth (years) Source: United Nations World Population Prospects: The 2008 Revision (Medium Variant Projections). Immigration partially offsets aging trends In framing this reality of an aging population driven we note that the United States does not face a sharply declining workforce in absolute terms, as is currently the case in Japan, Russia and Western Europe. This is due to higher rates of immigration and a generational wave–the Millennials—now entering the workforce. In terms of immigration trends we show, in Exhibit 6, that the majority of persons obtaining legal permanent resident status in the United States are in the 20-44 age group. Goldman Sachs Global Investment Research 11
  12. 12. August 4, 2010 Americas Partly as a function of their age, these immigrants have higher labor-force participation rates than the broader domestic population, and for the first generation tend to have higher fertility rates as well. With more than a million new residents in this category each year and additional forms of immigration, legal and otherwise, new residents therefore have the potential to partially offset the aging of the labor force caused by declining fertility and increasing longevity (see Exhibit 7). However, the ultimate impact of immigration will depend on policy choices and relative economic growth. Exhibit 6: Most US immigrants are of working age Exhibit 7: Legal US immigration trends remain positive Persons obtaining legal permanent resident status (“green Persons obtaining legal permanent resident status in the card”) in the United States by age, FY 2009 United States, 1945-2009 60% 1,800,000  More than half of new  1,600,000  50% green card recipients  1,400,000  40% are between the ages  1,200,000  of 20 and 44. 30% 1,000,000  800,000  20% 600,000  10% 400,000  200,000  0% <20 20‐44 45‐64 65+ 0  1945  1948  1951  1954  1957  1960  1963  1966  1969  1972  1975  1978  1981  1984  1987  1990  1993  1996 1999 2002 2005 2008 Immigrants Total population Source: US Department of Homeland Security, US Census Bureau. Source: US Department of Homeland Security. Goldman Sachs Global Investment Research 12
  13. 13. August 4, 2010 Americas Opportunity #1: An aging population provides a tailwind for the healthcare sector As Baby Boomers live longer, they spend more on healthcare; as they spend more on healthcare, they live longer. This feedback loop is the continuation of a decades-long trend in the developed world, and is likely to continue as the massive Baby Boomer cohort moves into its peak healthcare spending years. The average life expectancy in the United States in 1945, when the first Baby Boomers were born, was around 66 years. These oldest Baby Boomers, now age 65, can expect to live an additional 18 years on average. This is a testament not just to actuarial survivorship, but also in large part to the advances of medicine. As these advances continue their decades-long trend of increasing life expectancy, younger Baby Boomers who reach age 65 will likely be able to expect to live even longer (see Exhibit 8). Exhibit 8: Life expectancy continues to increase US life expectancy at birth (left-axis) and at 65 (right-axis) 80 20 78 18 76 16 74 14 Medical advances over the lifetime of the Baby 72 Boomers have driven a 12 steady increases in life expectancy. 70 10 68 8 66 6 1950 1960 1970 1975 1980 1985 1990 1995 2000 2005 At birth (left-axis) At 65 (right-axis) Source: CDC/NCHS, National Vital Statistics System. Healthcare spending These increases in life expectancy come with a concurrent rise in medical costs, however. increases rapidly after As shown in Exhibit 9, healthcare spending increases rapidly after age 55, from an average age 55 of $2,930 per year in the 45-54 age group to $3,825 in the 45-64 age group and $4,605 for those older than 65. The increase is even more pronounced as a percentage of after-tax income, which more than triples from 3.7% for those ages between 45 and 54 to 11.9% for those older than the traditional retirement age of 65. At the same time, healthcare spending among those over age 65 has been increasing, and is very likely to continue to do so as the Baby Boomers move into this demographic. The number of treatment options available increases as medicine advances and previously untreatable ailments are targeted by expensive and specialized therapies. The steady increase in the average number prescriptions filled for Americans over age 65 is indicative of this trend, as shown in Exhibit 10. Goldman Sachs Global Investment Research 13
  14. 14. August 4, 2010 Americas Exhibit 9: Healthcare spending increases sharply after Exhibit 10: …and healthcare spending among the over-65 age 65… group has been increasing steadily over time Average annual dollar and % income spent on healthcare Per capita prescriptions filled by Americans over age 65 32 $5,000 14% 31 $4,500 30 12% On average, Americans over the  30 age of 65 filled 31 prescriptions  in  $4,000 2009, up 28% from 2003 10% 29 $3,500 28 28 $3,000 8% 26 $2,500 6% 26 26 $2,000 $1,500 4% 24 24 $1,000 2% $500 22 $0 0% 0‐25 25‐34 35‐44 45‐54 55‐64 65+ 20 Healthcare $ spent Healthcare % of after‐tax income 2003 2004 2005 2006 2007 2008 2009 Source: Bureau of Labor Statistics Consumer Expenditure Survey. Source: Kaiser Family Foundation. The positive demographic trend competes with secular headwinds in healthcare. While we remain positive on the impact of an aging population for the healthcare complex, we remind investors that the combination of an impending “patent cliff” in Major Pharma and a challenging reimbursement environment in the United States will provide near to medium term headwinds. The former, coupled with a lack of innovation, will pose the most significant challenge to the industry’s ability to grow organically. With that said, we do see unique opportunities for names leveraged to the impact of aging Baby Boomers in the areas of both products and services and facilities. Products  Within pharmaceuticals, companies with innovative drugs targeting diseases that affect the older population stand to benefit most. For 2010 we estimate that 43% of Buy-rated Pfizer’s sales are derived from drugs that target such diseases, including cardiovascular, arthritis, osteoporosis, glaucoma, erectile dysfunction and Alzheimer’s disease. This proportion will decline to 25% by 2015 as many of these drugs—including Lipitor, Celebrex and Viagra—lose patent exclusivity. However, the company is still clearly levered to an aging population over the long term, and its success will in large part be measured by its ability to execute on the demographic opportunity before it. The patent exclusivity drop-off is not a Pfizer-specific issue, but rather an industry-wide challenge (see Exhibits 11- 12).  As a record number of branded drugs go off patent in the next few years and pressures to contain healthcare costs continue to mount, generics become an increasingly important driver of revenue and earnings growth for a number of companies. We expect Buy-rated industry leader Mylan to benefit from greater prescription drug usage as the population ages, and see the company’s positioning in follow-on biologics as providing another avenue of growth to address the growing need for expensive biotech drugs at reduced costs. Goldman Sachs Global Investment Research 14
  15. 15. August 4, 2010 Americas Exhibit 11: 51% of current branded sales are poised to go Exhibit 12: The next three years should see the greatest generic within five years generic launch activity Estimated % of current branded sales to go generic $ billions $150 56% $15 % of 2009 non- Branded revenue of drugs subject to patent expiration (in the quarter of launch) $140 biotech pharma $14 HISTORICAL PROJECTED 52% market branded $13 $130 spend going 48% $12 $120 44% $11 $110 40% $10 $100 Over a third of 36% $9 $90 current branded spend will be 32% $8 $80 generic in 3 years 28% $7 $70 24% $6 $60 20% $5 $50 $4 16% $40 $3 $30 12% Cumulative expiring branded spend $2 $20 8% % of 2009 branded pharma market $1 $10 4% $0 4Q09E 1Q10E 2Q10E 3Q10E 4Q10E 1Q11E 2Q11E 3Q11E 4Q11E 1Q12E 2Q12E 3Q12E 4Q12E 1Q13E 2Q13E 3Q13E 4Q13E 1Q14E 2Q14E 3Q14E 4Q14E 1Q15E 2Q15E 3Q15E 4Q15E 1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 $0 0% LAUNCHES BY QUARTER (ANNUAL SPEND under exclusivity) LAUNCHES BY QUARTER (multi-sourced) 4-quarter rolling average Source: IMS, company data, Goldman Sachs Research estimates. Source: IMS, company data, Goldman Sachs Research estimates.  CL-Buy rated Allergan’s story is unique within specialty pharmaceuticals, offering compelling long-term growth within a sector that has been squeezed by poor long- term visibility. The company is not only exposed to an aging population via its ophthalmology and medical aesthetics segments, but also to the secular trends of rising obesity via its Lap-Band product and growth in emerging markets across its franchise. These attributes position Allergan to succeed as a standalone company, but also potentially make it a strategically valuable asset for other companies seeking exposure to these positive trends.  For medical device manufacturers the biggest beneficiaries of people growing older and living longer are the companies most exposed to artificial joints. Buy- rated Zimmer is the market leader in the orthopedic device manufacturer market with 73% of revenues concentrated in artificial hips and knees. The combination of an aging population, increased prevalence of obesity (estimated at 30% in the United States by the Centers for Disease Control) and demand by younger patients to maintain activity levels should support accelerating volume growth. Neutral- rated Stryker, the number three company in the space, is also positively exposed to growth in the orthopedic device market. Services and Facilities  Within the supply chain we believe that all of the major drug wholesalers stand to benefit from increased volumes of drugs and medical supplies associated with the aging population. We see CL-Buy rated McKesson as best positioned for this trend given its concentrated exposure as the largest buyer of generics in the world. The company has a diverse distribution network that covers both pharmaceuticals and medical supplies and a sizable presence in the Healthcare IT sector that is set to become increasingly important as the government becomes more involved in reimbursement.  Buy-rated pharmacy benefit manager Express Scripts should also benefit from increased prescription use driving both drug volumes and the need to manage cost trends. In the context of the natural shift to greater volumes, Express Scripts is poised to enjoy greater profitability as generics become more prevalent. Increasing use of more complex and expensive specialty drugs to treat diseases common among the elderly also increases the need to manage cost trends and drive demand throughout the pharmacy benefit management industry. Goldman Sachs Global Investment Research 15