June 03, 2016 - 12:15pm EST by
2016 2017
Price: 34.60 EPS 0 0
Shares Out. (in M): 51 P/E 0 0
Market Cap (in $M): 1,362 P/FCF 0 0
Net Debt (in $M): 3,128 EBIT 0 0
TEV ($): 4,490 TEV/EBIT 0 0
Borrow Cost: Available 0-15% cost

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Please note that what you read below are solely my own interpretations:

Concordia's business is best described by reading Nathan Vardi's article in Forbes: 

Nathan will do a much better job than I will in describing what Concordia does.

I am writing on this timely matter because of the news that came out yesterday.  You can read more about it from Amy Or's article in the WSJ: 

If you fully read Nathan's article, then it paints a clear picture of likely why Blackstone and Carlyle are not interested in being involved with a company like Concordia (per Amy, they did NOT even submit a bid).

Concordia's biggest business (~60% of sales) is ex-US and primarily based in the UK.  This business model is described by Nathan as:

RBC said “AMCo petitions the government to strip its brand name from the drug, which allows it to compete in the generic market.” In other words, RBC is saying that through a slight change in its branded drug, AMCo launches its drug at a lower price and gets it added to government formularies in the U.K. so that it can be easily accessible to users and easily reimbursed by the U.K. government payer. It then gets the drug classified as a generic. Once its drugs are on the formularies as generics in the U.K., AMCo appears to find opportunities to increase the price. RBC noted that 88% of AMCo’s drugs have two or less competitors.

My personal interpretation of what Nathan (and RBC sellside note) is describing is that the business model of Concordia's bigggest business (based primarily in the UK) is:

  1. Concordia creates very slight changes in drugs already on the market to make "new" branded drug [typically changes to formulation (tablets vs pills vs liquid gels, etc.) or dosage (5 mg vs 2 mg vs 1.5 mg, etc.)]
  2. It then sells this branded drug at a lower price!  This should strike everyone as odd!  So why would they do that?  The answer appears to be simply so that Concordia's branded drugs can be added to government formularies in the UK (i.e. if it's very cheap, the UK government won't push back on Concordia and Concordia's drug gets added to the formulary)
  3. Getting access to formularies is critical because then Concordia's branded drug will be used (by doctors/hospitals) and paid for (by the UK government, the bigggest payor)
  4. Here's the really cool twist: This is the what Nathan (who is quoting RBC's sellside note) appears to be saying: once Concordia gets its branded drugs on the formulary, Concordia immediately works on removing the brand name and makes it a generic!  Why would Concordia do that?  Because branded drugs are price-controlled and generic drugs are not price-controlled!
  5. In summary, my read of the section above from Nathan's article is simply: Concordia's business model is to jack up drug prices in the UK and the only way they can do this is by making their drugs generic drugs, where the UK government does not control drug prices!

The logical next question is, well, if generic drugs, by definition, are commodities with low BTE, then how can Concordia even raise prices?

Concordia's whole business model, according to Nathan's article, appears to suggest that Concordia is aware of this dynamic (i.e. LBTE in the generic business).  So what Concordia does is that 88% of their drugs have <=2 competitors.  It appears that Concordia is focused on niche drugs that others don't care about where there are few competitors, jack up prices when they can, and the limited competitors makes it whole business model possible.

2 reasons why the buy-out offer currently in the news is highly unlikely to happen:

1.  You assume that PE firms and strategics are rational.  If they do their diligence, I think they will also come to the conclusion that Concordia's business model (for their biggest business, which is ex-US), as described above, is not sustainable.  And to that end, rational PE firms will not be interested in buying Concordia.

After doing so quick digging, it looks like the business model is indeed unsustainable: UK government is actually already looking into almost this exact business model:

Go to Page 18: 3.39. We are aware of instances where a product has been marketed as a brand, and is subsequently marketed as a generic, either by the original supplier, or by the new supplier if sold on, and a large increase in price has been applied due to lack of regulatory control and lack of a competitive market for the product. This has an adverse effect on NHS budgets. We would welcome views on whether we should consider the options available to the DH such as Secretary of State’s powers to limit the prices of health service medicines, for generic medicines such as these where there is no competitive market to secure value for money.

In fact, there is a precedent of Flynn and Pfizer being potentially being fined (up to 10% of sales in this specific case) by the government due to a very similar business practices: 

2.  Below are additional reasons why a PE firm would not be interested in buying a company like Concordia:

  1. VRX has often been criticized for focusing on financial engineering (i.e. acquiring assets drugs/companies) without developing drugs through its own internal R&D. CXR spends <4% (of sales) on R&D and its peers are almost double that! CXR is just as bad an offender of financial engineering as VRX, which spends ~3%! Given the mainstream scrutiny of such practices, does any PE or strategic want to support this and risk reputational damage?
  2. A Senate committee has been investigating dramatic increases in drug prices imposed by VRX et al. Mike Pearson, VRX’s departing CEO, stated “it was a mistake to pursue, and in hindsight I regret pursuing” transactions such as Valeant’s acquisition of Isuprel and Nitropress, two cardiac‐care drugs that VRX acquired in 2015 and quickly boosted prices on by 525% and 212%, respectively. CXR is just as bad of an offender of price gouging as VRX: refer to Nathan's article. Again, given the mainstream scrutiny of such practices, does any PE or strategic want to support this and risk reputational damage?
  3. CXR has 60% Adj 2016E EBITDA margins, substantially higher than other spec pharma companies (~45%): what more can a private equity company do to cut out fat in a company that is already so financially optimized? Maybe cut out all of R&D?! If so, please refer to point #1 above.
  4. CXR trades at a ~7.7x EV/NTM EBITDA, which is in-line with comps still! Given CXR’s deteriorating fundamental businesses, does it make sense for a value‐focused investor or strategic to pay a premium for CXR's unsustainable business?
  5. CXR is ~5.5x levered: how can a private equity firm add more debt to make this investment work so that they can still obtain an a healthy double digit IRR given CXR’s already imploding fundamentals?
  6. If PE firms are interested in playing the “long” game and adding CXR to a strategic platform company and awaiting for the high drug price rhetoric to die down and then look to “optimize” prices opportunistically (i.e. jack up prices on those drugs that can withstand such actions), I will only say that we are aware of many advocacy groups and investors that are willing to use all of their resources to do that which is best for patients in both the US and elsewhere affected by high drug prices fostered by companies with egregious business practices.  Drug pricing scrutiny is not going to go away: this is the new normal.

So what does this all mean?  What is the trade?

Simply, if you believe the above is rational (and it is my personal interpretation of what I've read), then it would be unlikely for a PE firm to buy Concordia.  Amy Or's article suggests that this is already true: Blackstone and Carlyle did not even submit a bid.

And if no one buys Concordia, then the stock is substantially less because it will trade on fundamentals, which I think is highly unsustainable and may crack at any time.  To that end, given the fundamentals, the markets -- if efficient -- will cause Concordia to no longer be trading at 7.7x EBITDA but will likely trade closer to the bottom of the comps (closer to 5.5x).

But wait: Concordia is 5.5x levered.  Thus, if this happens, then all-or-most of the EV will be all debt.  Which means equity will get crushed!


Getting in front of Amy's article yesterday would have been ideal.  But Concordia's equity could very much be worth close to $0.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.


No rational PE firm will be interested in buying Concordia because they will recognize, upon quick diligence, that the business model of Concordia's biggest business is unsustainable and the reputational risk to their brand.  When the buyout offers are gone, then Concordia should trade on fundamentals, which should value it closer to the bottom of the spec pharma comps multiples.  If Concordia trades at the bottom of the spec pharma comps on a EV/EBITDA multiple basis, Concordia's entire EV will be all debt (5.5x levered) and the equity will be crushed: stock will be close to $0.

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