Royalty Pharma: An alternative way to invest in pharma.

Royalty Pharma is a different kind of company in the pharmaceutical world. Instead of making its own drugs, it buys the rights to earn money from drugs developed by others. This gives it a steady stream of income from some of the most successful therapies on the market—without the risks and costs of research, manufacturing, or sales. With a growing and diversified portfolio, including blockbuster drugs and new high-potential therapies, Royalty Pharma offers a way to invest in the pharma sector with less risk. The question is: Should this unique business earn a place in your portfolio?

This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me. 

For full disclosure, I should mention that I do not own any shares in Royalty Pharma at the time of writing this analysis. If you would like to copy or view my portfolio, you can find instructions on how to do so here. If you want to purchase shares or fractional shares of Royalty Pharma, you can do so through eToro. eToro is a highly user-friendly platform that allows you to get started on investing with as little as $50.

The Business

Royalty Pharma operates as the largest acquirer of biopharmaceutical royalties in the world. Instead of developing drugs itself, the company purchases royalty rights from innovators such as academic institutions, hospitals, biotech firms, and pharmaceutical companies. These royalties entitle Royalty Pharma to a percentage of top-line sales of specific therapies, allowing it to benefit from the success of leading drugs without incurring the costs or risks associated with research, development, manufacturing, or marketing. The company focuses primarily on acquiring royalties tied to approved drugs or those in late-stage development with strong proof-of-concept data, significantly reducing development risk. This capital-efficient model generates substantial and recurring cash flow, which Royalty Pharma reinvests into new royalty deals. Its portfolio is broadly diversified, with over 35 marketed therapies and 14 development-stage candidates spanning areas such as rare diseases, cancer, neuroscience, immunology, and cardiovascular health. No single product represented more than 28% of total receipts in 2024, and many royalties have long durations, with an average life of around 13 years. Royalty Pharma’s competitive moat is anchored in its unmatched scale, deep industry relationships, and focused expertise. It captured approximately 51% of all royalty transactions by value from 2020 to 2024, while the next largest player held just 13%. Of the 16 royalty deals valued over $500 million during that period, Royalty Pharma executed 11. The company has one of the largest and most experienced investment teams in life sciences, fully dedicated to identifying and evaluating royalty opportunities. Its global reach and disciplined due diligence process allow it to assess hundreds of potential deals each year and move swiftly when compelling opportunities arise. As drug development becomes more complex and capital intensive, an increasing number of companies are turning to royalties and synthetic royalties as a source of non-dilutive financing. This trend continues to expand Royalty Pharma’s opportunity set. Its leadership position, flexible investment approach, and ability to deploy capital at scale position it well to benefit from this structural shift. With cash flows tied directly to the revenues of blockbuster therapies marketed by top-tier pharmaceutical companies, Royalty Pharma offers resilient income streams and long-term growth potential.

Management

Pablo Legorreta is the Founder and CEO of Royalty Pharma. He established the company in 1996 with the goal of creating a more efficient way to fund innovation in the pharmaceutical industry. Under his leadership, Royalty Pharma has grown from a niche royalty investor into a central player in life sciences, with a portfolio spanning over 35 marketed therapies and a market share exceeding 50% of all royalty transactions since 2020. Prior to founding Royalty Pharma, Pablo Legorreta spent a decade as an investment banker at Lazard Frères, where he advised healthcare clients and developed deep expertise in structuring complex financial transactions. His background in both finance and healthcare investing led to the creation of a new asset class—biopharmaceutical royalties—as an institutional investment strategy. He is also the co-founder of Pharmakon Advisors, a healthcare-focused investment firm that manages BioPharma Credit, and serves on the boards of the New York Academy of Sciences and Epizyme, a clinical-stage biopharmaceutical company. Pablo Legorreta holds a degree in Industrial Engineering from the Universidad Iberoamericana in Mexico City. Beyond his corporate leadership, he is the founder of Alianza Médica para la Salud, a nonprofit organization dedicated to improving medical education and access to healthcare in Latin America. One of the standout moments in his tenure was Royalty Pharma’s acquisition of royalty rights to Humira from AstraZeneca in 2006 for $700 million—an investment that generated $499 million in cash receipts in 2018 alone. More recently, Forbes noted that under Pablo Legorreta’s leadership, Royalty Pharma has increased its cash receipts by 11% since 2021, while maintaining a capital-efficient model and expanding its pipeline of high-quality royalty assets. Though he maintains a low public profile and rarely gives interviews, Pablo Legorreta is widely respected in the biopharma and investment communities for his disciplined approach, long-term mindset, and deep knowledge of the industry. Given his track record of value creation, founder’s commitment, and industry expertise, I believe Pablo Legorreta remains the right person to guide Royalty Pharma into its next chapter of growth.

The Numbers

The first number we will look into is the return on invested capital, also known as ROIC. We want to see a 10-year history, with all numbers exceeding 10% in each year. Royalty Pharma made its IPO in 2020. Thus, we only have the numbers from 2020 and onwards. The numbers are underwhelming in most years, as Royalty Pharma has only managed to achieve a ROIC above 10% in one year out of the five since going public. There are several reasons for this consistently low ROIC. One is that when Royalty Pharma buys the rights to future royalties, those purchases are recorded as intangible assets on the balance sheet. These assets are gradually written down through amortization - a non-cash accounting expense. While this reduces reported profits, it doesn’t reflect real cash outflows. Meanwhile, the full cost of the royalty acquisition still counts toward invested capital. This accounting dynamic makes ROIC appear lower than the company’s actual cash returns. Another factor is the timing of cash flows. Many of Royalty Pharma’s deals are tied to drugs in late-stage development or early commercial launch, so there’s often a delay between when capital is invested and when royalty payments begin to come in. During that period, capital is deployed but not yet generating earnings, which further weighs on ROIC. Finally, unlike traditional operating businesses that reinvest earnings frequently, Royalty Pharma only recycles capital as royalty streams are paid out. Since these payments often stretch over 10 to 15 years, capital turnover is slow. This also contributes to the relatively low return on invested capital when measured by standard accounting metrics. In short, the low ROIC is not necessarily a sign of poor performance but rather a reflection of the company’s unique business model and the way its investments are treated for accounting purposes.

The next numbers are the book value + dividend. In my old format this was known as the equity growth rate. It was the most important of the four growth rates I used to use in my analyses, which is why I will continue to use it moving forward. As you are used to see the numbers in percentage, I have decided to share both the numbers and the percentage growth year over year. To put it simply, equity is the part of the company that belongs to its shareholders – like the portion of a house you truly own after paying off part of the mortgage. Growing equity over time means the company is becoming more valuable for its owners. So, when we track book value plus dividends, we’re essentially looking at how much value is being built for shareholders year after year. Since Royalty Pharma went public in 2020, we only have a limited data set. Over this period, the company’s equity has remained relatively stable. This is not necessarily a red flag - it reflects how the business reinvests cash into new royalty deals while also returning money to shareholders through dividends and share buybacks. Equity hasn’t grown quickly, but the company has focused more on generating strong cash flows and deploying capital efficiently rather than expanding the balance sheet.

Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. I use levered free cash flow margin because I believe that margins offer a better understanding of the numbers. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. Royalty Pharma has managed to deliver positive free cash flow in all five years since it went public, which is encouraging. However, one thing that stands out is the consistently high free cash flow margin, which has even exceeded 100% in the past two years. This can be explained by the company’s unique business model. Royalty Pharma makes large upfront payments to acquire royalty rights, but once those rights are in place, they generate steady cash flows with minimal ongoing costs. In some cases, the cash coming in from these royalties can actually exceed the company’s reported revenue. This happens because accounting rules require non-cash charges like amortization, which reduce reported profits but do not impact actual cash flow. As a result, Royalty Pharma can report a levered free cash flow margin above 100%. The company also follows a flexible and disciplined capital allocation strategy that balances shareholder returns with long-term growth. It adapts its priorities based on market conditions. When the stock trades below what management believes to be its intrinsic value, the company prioritizes share buybacks to return capital to shareholders. When attractive royalty opportunities arise - especially those offering strong risk-adjusted returns - capital is directed toward those deals to support future growth. This dynamic framework allows Royalty Pharma to make the most of its cash flows by allocating them where they can have the greatest impact. If neither repurchases nor royalty deals are appealing, the company may choose to hold cash, reduce debt, or increase the dividend. As free cash flow continues to grow, investors can reasonably expect to be rewarded through both dividends and buybacks. The company’s free cash flow is currently at its highest level ever, and based on this, the shares appear to be trading at a very attractive valuation. However, we will revisit valuation later in the analysis.

Debt

Another important aspect to consider is the level of debt. It is crucial to determine whether a business has manageable debt that can be repaid within a period of three years. We do this by dividing the total long-term debt by earnings. Based on my calculations, Royalty Pharma has 7,79 years of earnings in debt, which is significantly above the three-year threshold. One reason for the high debt is that the company uses it as a tool to fund large, upfront royalty acquisitions. These deals are often substantial and long-term in nature, so financing them with debt allows Royalty Pharma to expand its portfolio without issuing new shares, which would dilute existing shareholders. Debt financing is also typically cheaper and less disruptive than equity issuance. Despite the elevated debt level, Royalty Pharma is committed to maintaining an investment-grade credit rating. It also benefits from a relatively low operational risk profile, as it doesn’t carry the heavy fixed costs associated with manufacturing facilities or in-house drug development. While the debt is high in absolute terms, the company’s strong and predictable cash flow generation allows it to support a higher level of leverage than many other businesses. Therefore, while the debt level is something to keep an eye on, it does not currently deter me from investing in Royalty Pharma.

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Risks

Using debt as part of its capital deployment strategy is a risk for Royalty Pharma. While borrowing allows the company to fund large royalty acquisitions without issuing new shares, it also exposes the business to several financial and operational risks. The most immediate is that interest expenses have been rising, and there is no guarantee that future cash flows from royalty deals will be sufficient to cover these costs. If the cash inflows fall short or are delayed, it could reduce the capital available for dividends, share buybacks, or new investments. Debt also reduces Royalty Pharma’s flexibility. The company is subject to financial covenants—rules written into its debt agreements—that can restrict its ability to take on more debt, pursue certain royalty transactions, or return capital to shareholders. In a scenario where the company is near its leverage limits, it may be unable to act on attractive opportunities even if they align with its long-term strategy. There’s also the risk of rising interest rates. As borrowing costs increase, the returns on new royalty deals must be even higher to justify using debt. This can make the company's capital deployment model more expensive and potentially less competitive. In short, while debt can enhance returns when used wisely, it introduces a layer of risk that depends heavily on cash flow predictability and interest rate conditions. Royalty Pharma’s model supports a higher debt load than most companies, but that doesn’t make it risk-free. The company must carefully manage its balance sheet to avoid financial strain and maintain access to new capital when needed.

Reliance on assumptions is a risk for Royalty Pharma. The company’s entire business model depends on projecting long-term cash flows from royalty agreements, many of which are based on uncertain or incomplete information. Each investment involves assumptions about future product sales, competition, patent duration, regulatory exclusivity, pricing, and commercialization timelines. If any of these assumptions prove to be inaccurate, the expected returns on a royalty deal could be lower than forecast - or fail to materialize altogether. This risk is especially pronounced for development-stage therapies, where approval, launch timing, and market adoption are far from certain. Even for approved products, factors like earlier-than-expected generic entry, litigation, or changes to patent protection can shorten the expected royalty term and reduce income. Another layer of risk comes from estimating the duration of royalty payments. When the term is not contractually fixed, Royalty Pharma must make assumptions based on intellectual property rights, regulatory frameworks, and competitive dynamics - all of which can change. A shorter-than-expected royalty period can lead to a decline in reported interest income and may trigger impairments under accounting rules. In short, small changes in key assumptions can have a large impact on the value of Royalty Pharma’s assets and its ability to deliver consistent returns. This reliance on forecasting introduces uncertainty that investors should be aware of, particularly as the company expands into newer or less-proven therapies.

Competition is a risk for Royalty Pharma on two levels. The first involves acquiring royalty assets, and the second relates to maintaining the value of its existing portfolio. Competition for royalty deals is intense. There are only a limited number of high-quality royalty streams available for sale, and Royalty Pharma must compete with a wide range of buyers—including pharmaceutical companies, investment funds, pension funds, sovereign wealth funds, and other institutional investors. Many of these competitors may have deeper pockets, lower costs of capital, or closer relationships with licensors, allowing them to access opportunities earlier or accept lower expected returns. As a result, Royalty Pharma may struggle to secure attractive deals or may be forced to pay higher prices, which could reduce the returns on new investments and slow portfolio growth. Competition within the biopharmaceutical industry also presents risks to the value of the royalties Royalty Pharma already owns. The industry evolves rapidly, and drugs face constant pressure from newer, more effective treatments, alternative therapies, and lower-cost generics or biosimilars. A royalty-paying product may lose market share or become obsolete sooner than expected, especially if the manufacturer shifts resources to newer therapies. This can lead to a sharp decline in royalty income and negatively affect the company’s financial performance.

Reasons to invest

Expanding its portfolio is a key reason to consider investing in Royalty Pharma. The company’s ability to consistently deploy capital into new royalty deals—while maintaining high selectivity and discipline - is central to its long-term growth strategy. In 2024, Royalty Pharma added royalties on eight new therapies, including both approved and development-stage drugs. Many of these are first- or best-in-class, and some are forecast to become blockbusters. What makes Royalty Pharma’s portfolio growth compelling is not just the scale of capital deployed, but the quality of the assets acquired. The company reviews hundreds of opportunities each year and moves forward with only a small fraction - just 2% of those reviewed in 2024 - based on rigorous scientific, clinical, and commercial due diligence. Management prioritizes therapies with strong intellectual property, transformational potential, and experienced commercial partners. This disciplined yet active investment process gives Royalty Pharma access to an increasingly diverse and resilient royalty portfolio. The company is also broadening its global reach, including in markets like China where royalty-based licensing is accelerating. As biopharma innovation accelerates and more companies seek non-dilutive funding, Royalty Pharma is well-positioned to benefit from these long-term trends. Ultimately, its steady portfolio expansion not only boosts future cash flow but also improves diversification, reduces reliance on any single product, and supports durable shareholder returns.

Synthetic royalties are an increasingly important reason to consider investing in Royalty Pharma. While they have historically made up only a small portion of the company’s capital deployment, their role is expanding - and with good reason. Unlike traditional royalties, which involve purchasing the rights to a portion of future sales from an existing licensee (often after a drug is already on the market), synthetic royalties are created from scratch. In these deals, Royalty Pharma provides upfront capital to a biopharmaceutical company - typically to support late-stage development or commercialization - in exchange for a percentage of the drug’s future sales if it is approved. These agreements may also include milestone payments tied to regulatory or commercial success. This model offers several strategic advantages. For Royalty Pharma, synthetic royalties provide a way to access promising therapies earlier in their life cycle and often deliver better return profiles than traditional royalty deals. Management has noted that returns on synthetic royalties have historically exceeded those of traditional royalty acquisitions. In 2024, Royalty Pharma deployed a record $925 million into synthetic royalty transactions - more than double the level in 2020 - highlighting the growing demand for this funding model.

The opportunity to invest in the pharmaceutical sector with reduced risks is a reason to invest in Royalty Pharma. One of the most compelling aspects of the company is that it offers exposure to the long-term growth potential of the pharmaceutical industry - but with significantly less risk than traditional drug development companies. The pharmaceutical sector benefits from attractive structural features: long product life cycles, high barriers to entry due to intellectual property and regulation, and non-cyclical demand. However, investing directly in biopharma companies usually involves substantial risks, especially in early-stage R&D, where most drug candidates never make it to market. These companies also face heavy spending on clinical trials, regulatory uncertainty, and large fixed costs tied to manufacturing and commercialization. Royalty Pharma sidesteps many of these challenges. Rather than developing its own drugs, it acquires royalties on therapies developed by others - focusing primarily on approved drugs or late-stage product candidates with strong proof-of-concept data. This significantly lowers the risk of failed trials, delayed approvals, or sunk R&D costs. In addition, Royalty Pharma does not operate manufacturing plants or maintain sales teams. As a result, it avoids the fixed cost burden typical of pharmaceutical companies, making its business model more capital-efficient and less exposed to operational risk. Another important factor is diversification. Royalty Pharma holds royalties on over 35 marketed products, including 15 blockbusters - well above the industry average. These therapies span a wide range of therapeutic areas and are marketed by major pharmaceutical companies, reducing concentration risk and creating a resilient income stream. In short, Royalty Pharma provides investors with a rare combination: access to the upside of the biopharmaceutical sector, but with fewer of the traditional downsides.

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Valuation

Now it is time to calculate the share price. I perform three different calculations that I learned at a Phil Town seminar. If you want to make the calculations yourself for this or other stocks, you can do so through the tools page on my website, where you have access to all three calculators for free.

The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 1,91, which is from the year 2023. I have selected a projected future EPS growth rate of 10% as management expects to grow the topline by a 10% compounded growth over the next decade. Additionally, I have selected a projected future P/E ratio of 20, which is double the growth rate. This decision is based on Royalty Pharma's historically higher price-to-earnings (P/E) ratio. Finally, our minimum acceptable rate of return has already been established at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $24,49. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Royalty Pharma at a price of $12,25 (or lower, obviously) if we use the Margin of Safety price.

The second calculation is known as the Ten Cap price. The rate of return that a company owner (or stockholder) receives on the purchase price of the company essentially represents its return on investment. The minimum annual return should be at least 10%, which I calculate as follows: The operating cash flow last year was 2.769, and capital expenditures were 0. The tax provision was 0. We have 444,3 outstanding shares. Hence, the calculation will be as follows: 2.769 / 444,3 x 10 = $62,32 in Ten Cap price.

The final calculation is referred to as the Payback Time price. It is a calculation based on the free cash flow per share. With Royalty Pharma's free cash flow per share at $6,23 and a growth rate of 10%, if you want to recoup your investment in 8 years, the Payback Time price is $78,37.

Conclusion

I find Royalty Pharma to be a very intriguing company with strong management. It has built a moat through its unmatched scale, deep industry relationships, and focused expertise. While the company has historically reported a low ROIC, this is largely due to its unique business model and the accounting treatment of its investments. For that reason, the low ROIC is not a concern for me. The company has consistently delivered positive free cash flow with very high levered free cash flow margins and follows a dynamic capital allocation strategy that should benefit investors over the long term. Using debt to fund royalty acquisitions allows Royalty Pharma to avoid shareholder dilution, but it also introduces financial risk - especially if future royalty cash flows fall short or interest rates rise. Debt can limit flexibility, reduce capital available for shareholder returns, and increase sensitivity to changing market conditions. Reliance on assumptions is another risk, as the company’s investment returns depend on long-term forecasts related to product sales, patent life, and regulatory timelines - many of which carry uncertainty. If these assumptions prove incorrect, particularly for development-stage therapies, expected cash flows may fall short, impacting financial performance. Competition is also a risk for Royalty Pharma, both in acquiring new royalty deals and in protecting the value of its existing portfolio. The company faces stiff competition for a limited pool of attractive royalty assets, and it must also navigate a fast-moving biopharma landscape where generics or new therapies can reduce royalty income. On the other hand, expanding the portfolio is a key reason to invest in Royalty Pharma. The company consistently adds high-quality, high-potential therapies through a disciplined process, enhancing diversification and long-term cash flow. Synthetic royalties are also a growing opportunity. These allow Royalty Pharma to fund promising therapies earlier in development - often with higher return potential than traditional royalty acquisitions. Finally, Royalty Pharma provides exposure to the pharmaceutical sector with significantly reduced risk. By investing in royalties rather than developing its own drugs, and by avoiding the high fixed costs of R&D, manufacturing, and sales, the company offers a more stable and capital-efficient way to benefit from biopharma innovation. I believe Royalty Pharma is one of the most misunderstood companies in the market. But to invest, you need a long-term outlook. If you do, buying shares around $31 offers what I estimate to be a 75% discount to intrinsic value based on the Ten Cap method.

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