Description
Glossary
ANDA Abbreviated New Drug Application that are the filings necessary to gain rights to a generic version of a branded drug. Because the safety and efficacy of branded drugs have already been established, the FDA only requires biovailability /bioequivalence studies be done. Abbreviated refers to the shorter research
regimen required.
NDA New Drug Application is the application required to bring a new drug to market. A pharmaceutical company must submit an NDA containing complete pre-clinical and clinical safety and efficacy data or a right of reference to such data.
APIs or active pharmaceutical ingredients are the chemical precursors of active drugs
Paragraph IV is a patent challenge, that if upheld, grants the generics company 6 months worth of exclusivity and can be worth hundreds of millions of dollars
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Teva Pharmaceuticals has been around for 100 years. They are now best known for their generic drugs. Teva's plants produced approximately 19 billion tablets and capsules in 2003. They manufacture solids, liquids and semi-solids, including dedicated facilities for penicillin and cephalosporin products, and sterile products (including plasma fractionation products).
They have recently entered the proprietary branded market with Copaxone for multiple sclerosis and in 2003, Teva achieved another milestone in the development of its central nervous system franchise, by successfully completing two Phase III studies with rasagiline, its compound for Parkinson's disease.
Some generics you may have heard or even be taking that Teva manufactures include:
Remeron,Nolvadex, Amoxil, Vicoprofen, Univasc,Daypro,Megace, Serzone, K-Dur, Bactroban, Monopril and Purinethol. They have tentative approval for Glucophage, Lamisil, Lotensin, Neurontin tablets and capsules, Oxycontin and Paraplatin. A "tentative approval" letter indicates that the FDA has substantially completed its review of an application. Most of these medications are big sellers for the parent companies and approval for Teva will keep revenue increasing.
The potential for revenue growth of generic products in the United States is closely related to a company's pipeline of pending ANDAs with the FDA, as well as tentative approvals already granted. As of February 13, 2004, Teva had 94 product registrations awaiting FDA approval, including 16 tentative approvals but not including the Sicor filings. Collectively, the brand-name versions of these products had corresponding U.S. 2003 sales exceeding $66 billion.
Branded product market size is a commonly used measurement of the relative significance of a potential generic product. Generic equivalents will sell for less and if not Paragraph IV will sell for a lot less.
In the third quarter 2004, Teva's U.S. generic pipeline is comprised of 120 product applications (including 14 tentative approvals), with total annual brand sales exceeding $75 billion. Of these product applications, 67 were submitted under Paragraph IV. Teva believes that in the case of 25 of these Paragraph IV filings, it may be "first to file", thereby potentially providing Teva with periods of exclusivity for products which, in the aggregate, have annual brand sales exceeding $20 billion.
Recent acquisition
In October 2003, Teva agreed to purchase Sicor, a generic pharmaceutical company based in California, with facilities in Mexico, Italy and Lithuania. The transaction closed on January 22, 2004 and cost $3.46 billion in a combination of cash and Teva shares. The transaction was accounted for as a purchase and began to impact Teva's results commencing in the first quarter of 2004. And in fact the impact was dramatic as Teva recorded a cost of $664 million for in progress R&D in the Mar 04 quarter. That was ten times the amount for December 03. They lost $0.72 per share. The current P/E reflects the lowered earnings stemming from the R&D expense.The TTM EPS gives them a P/E of 123.8. Using the guidance for 2004 of $1.44, the P/E is a more respectable 19. They sold off sharply in June on no news and the timing appears to be unrelated to the Mar 04 quarter.
This acquisition combines Teva's oral dose generic drugs franchise with Sicor's generic injectables business. The Sicor acquisition further provides Teva with new capabilities for the development and production of biological products. Sicor derives a large percentage of its sales from one product, propofol. Sicor's pipeline includes 18 ANDAs with a collective annual branded sales of approximately $2 billion.
The entire deal is now funded by the convertibles and the issuance of 23.3 million shares of stock. This deal is not included in the following 2003 results. The issuance of shares was dilutive.
Two branded drugs
Branded drugs are an important source of revenue. With a brand name comes a much longer period of patent protection
Copaxone, for multiple sclerosis, was first launched in Israel in December 1996, and in the United States in March 1997. In 2003, in-market global sales of Copaxone amounted to $720 million, of which $495 million was in the United States, where Copaxone reached a market share of 28.4% by year-end. Global sales of Copaxonein 2003 grew by 34% over those of 2002, a rate of growth that exceeded the growth of the global market of MS products. They lost orphan drug exclusivity in 2003.Global in-market sales of Copaxone third quarter 2004 amounted to $242 million, an increase of 34% over the comparable quarter of 2003.Total prescriptions in the U.S. reached their highest quarterly market share of 30.5%.
Rasagiline addresses a significant unmet need in the treatment of Parkinson's disease. Over two million patients are affected by this chronic disease worldwide, and although many therapies are available, there is still a high level of dissatisfaction with many of these treatments, both in terms of their efficacy and tolerability. In October, Teva's met with the U.S. Food and Drug Administration (FDA) and the European Medicines Association (EMEA) to discuss rasagiline in the US in Europe. In these meetings, Teva responded to questions, and provided additional information and analysis. In the case of the FDA, Teva intends to submit a written response to the approvable letter in the next several days. The FDA has up to six months to review Teva's submission, while the EMEA may respond even earlier.If approved, this will give Teva their seconded branded drug.
Active pharmaceutical ingredients division
In addition to its production and sale of pharmaceutical products, Teva manufactures and sells active pharmaceutical products(APIs). Teva's API division facilitates their entry into new drug markets and offers a cost-effective source of raw materials. The objective of the API division is to provide Teva with the benefits of vertical integration while maintaining and growing a significant third party business. Teva's recent acquisition of Sicor added complementary API operations to Teva's existing capabilities.
The active pharmaceutical ingredients business is run independently from Teva's finished pharmaceutical product businesses and sells products to third parties in a competitive market for APIs intended for generic products. Additionally, sales to other Teva units are on an arm's-length basis, fulfilling Teva's generic and proprietary manufacturing needs.
API sales to third parties totaled $146 million, an increase of 54% over the third quarter of 2003. API sales, including internal sales to Teva's pharmaceutical businesses, were $263 million, an increase of 65% over the comparable quarter in 2003. This substantial growth is mainly attributed to sales of Gabapentin raw material, as well as the inclusion of Sicor's API sales and the increased demand for API products worldwide. The API division currently offers 188 products.
Teva is a global business
Sales are increasing in all geographic areas. They are increasing most rapidly in Europe although the US remains their biggest market.
In 2003, pharmaceutical sales in North America amounted to $1,827 million, representing an increase of 26% over 2002. The increase in sales was attributable to:
(1) products that were launched during 2003, including the generic equivalents of the following products (listed in the order of their launch during the year): Remeron, Nolvadex, Amoxil, Vicoprofen, Univasc, Daypro, Megace, Serzone, KDur, Bactroban and Monopril
(2) continued growth in sales of Copaxone, which reached a market share of 28.4% of total U.S. MS prescriptions by year-end
(3) the sales of Purinethol
In 2003, the pricing environment for generic products in the United States continued to be relatively stable. While during 2003 practically all the increase in sales over 2002 were the result of organic growth, in the future Teva anticipates that its recent acquisition of Sicor and joint ventures will have a positive impact on supplementing its growth in North America.
Pharmaceutical sales in Europe in 2003 amounted to $751 million, an increase of 47% compared to 2002, primarily due to the launch of new products by Teva in Europe during 2003, including the generic versions of Neurontin, Zocor and Diflucan, the continued penetration of Copaxone in Europe and the 20% revaluation of the Euro against the US dollar.
Teva's pharmaceutical sales to markets outside of North America, Europe and Israel amounted to $64 million, an increase of 17%. This increase represents a turning point in the trend Teva faced in the previous year of decreasing sales to countries where financial conditions were unstable, such as Latin American and the CIS countries, and also reflects increased sales of Copaxone.
Income statement ratios
2003 2002 2001 2000 1999
gross margins 46% 43% 41% 40% 40%
operating margins 27% 21% 18% 14% 15%
net margins 21% 16% 13% 8% 9%
growth revenue 30% 21% 19% 36% --
growth gross 39% 29% 22% 34% --
growth operating 67% 43% 46% 30% --
growth net 68% 47% 87% 26% --
growth COGS 23% 16% 16% 38% --
growth SGA 28% 13% 19% 35% --
growth EPS diluted 41% 43% 49% 29% --
growth EPS cont operations 48% 42% 54% 29% --
tax rate 21% 17% 19% 29% 28%
increase in interest -91% 97% -40% 52% --
*Gross profit margins reached 46.4% in 2003, compared with 43.5% in 2002 and 40.8% in 2001, reflecting a continuing improvement of product mix, including higher sales of newly launched products and Copaxone, as well as the increasing benefits of Teva's vertically integrated API division.
*While gross research and development expenses and net research and development expenses as a percentage of sales remained practically the same, they increased in 2003 in absolute terms by 26% and 29%, respectively, the result of increased spending on both generic R&D and branded R&D. Generic R&D expenses in 2003 accounted for 54% of gross R&D expenses, an increase of approximately 44% compared to 2002.
*Branded R&D expenses amounted to approximately 33% of gross R&D expenses for 2003, an increase of 8% compared to 2002, due to higher expenditures resulting mainly from MS-related activities and pipeline projects. The balance of 13% was dedicated to the development of other products, principally new products for the API division.
*In 2003, Teva substantially increased its research efforts to enhance the development of its generic pipeline. During the course of the year, Teva submitted an additional 38 ANDAs to the FDA, 20 abbreviated new drug submissions in Canada, an additional 86 product registrations to various European country regulatory agencies and 13 submissions in Israel. Teva compares favorably in number of ANDAs submitted compared to other generic makers. They have a greater number of Paragraph IV submissions which should have a positive impact on revenue and put them ahead of competition.
*SG&A expenses in 2003 amounted to $521 million, an increase of 28% over 2002, but as a percentage of sales remained essentially at the same 16% level as for the full year 2002. It is anticipated that SG&A will continue to fluctuate as a percentage of sales on a quarterly basis within the range of 15%-17%, which is representative of Teva's anticipated quarterly levels in 2004.
* Gross, operating and net margins are all high and increasing yoy. Net and operating margins are nearly double over 5 years. Teva attributes a large part of this to its vertical integration--supplying raw pharmaceutical products to its own manufacturing facilities.They also cite a better product mix favoring higher margin items.
*Growth over 5 years is impressive--double digit gross, operating and net growth. The really impressive part of this is that the company does this mainly through organic growth and very few acquisitions. It is too early to tell if Sicor will prove to be a valuable asset.
Quarterly ratios
9/04 6/04 3/04 12/03 9/03
growth revenue 6% 12% 12% 16% --
growth gross income 7% 15% 11% 15% --
growth EBIT 7% 180% -264% 15% --
growth net income 10% 154% -330% 19% --
growth EPS 9% 152% -316% 15% --
gross margin 47% 47% 46% 46% 46%
gross operating 25% 25% -35% 24% 24%
net margin 20% 20% -41% 20% 19%
growth COGS 6% 9% 42% -1% --
growth SGA 7% 7% 11% 14% --
Margins remain high and are not declining. They have recovered from the charges connected with the acquisition and growth in EPS is continuing. COGS and SGA remain stable and actually lag revenue growth in some quarters.
Ratios for the balance sheet
2003 2002 2001 2000 1999
current ratio 2.1 1.9 2.9 2.0 1.6
quick ratio 0.6 0.5 1.0 0.5 0.1
AR growth 24% 31% 20% 47% --
DSO 148.4 155.7 143.6 142.0 132.2
inventory days 208.6 200.3 169.1 173.7 167.1
growth in payables 34% 48% 20% 74% --
growth in inventory 29% 37% 13% 43% --
CCC 138.8 154.5 155.0 163.1 178.3
ROE 21% 22% 20% 13% 16%
ROA 12% 9% 8% 5% 7%
ROIC 16% 12% 11% 8% 10%
debt/equity 35.5% 94.2% 105.3% 100.4% 90.0%
debt/capital 26% 49% 51% 50% 47%
book value 5.9 3.5 2.6 2.2 1.4
cash/share $1.90 $1.57 $1.50 $0.82 $0.15
NC WC 1316.7 1129.7 877.4 745.9 572
change in NC WC 187 252.3 131.5 173.9 572
increase in LT debt -346 -85.5 433 422.5 391.4
payable days outstanding 218.2 201.5 157.7 152.5 121.0
*Debt paid down substantially
*AR growth smaller than growth in revenue
*Inventory growth in line with revenue growth
*ROE,ROIC and ROA reasonably good
*Cash conversion cycle is improving
Quarterly balance sheet ratios
9/04 6/04 3/04 12/03 9/03
current ratio 2.1 1.8 1.8 2.2 1.5
quick ratio 0.58 0.44 0.45 0.81 0.53
AR growth 7% 6% 16% 14% --
inventory growth -3% 2% 26% 6% --
payables growth 9% 4% 28% 10% --
DSO 127.7 126.0 132.5 127.3 129.4
inventory days 170.9 185.5 198.9 223.7 208.6
payable days 208.3 201.4 211.5 234.0 210.4
CCC 90.3 110.1 119.9 117.0 127.6
debt/equity 39% 50% 52% 33% 67%
debt/capital 28% 33% 34% 25% 40%
Debt is decreasing demonstrating the company is able to pay it down as well as cover interest. However, equity is increasing also.The DSO is fairly consistent but inventory days are improving and payables are extended, contributing to an improved cash conversion cycle. Inventory and accounts receivable are under tight control. The company is efficient.
Cash flow statement ratios
2003 2002 2001 2000 1999
growth in operating cash flow 77% 30% 65% 8% --
operating cash/revenue 19% 14% 13% 9% 12%
operating cash/net income 91% 86% 98% 112% 130%
operating cash/debt+interest 1.75 0.57 1.16 0.42 0.50
growth capex 32% 136% 12% 58% --
capex/operating cash 34% 90% 49% 72% 187%
free cash flow 410.7 37 139 45.7 -134.2
free cash flow/share $0.74 $0.07 $0.27 $0.09 $(0.27)
*Operating cash flow is not being consumed in relation to revenue and net. It has increased in 2003. Even though DSO is high, it is not increasing and inventory remains well controlled.
*Debt and interest are covered by operating cash flow, but not by much
*Capex is covered by operating cash flow
*Free cash flow positive
An underfunded pension plan
Obligations are $86.6 million at the end of 2003 and the fair value of plan assets is $52.7 for a shortfall of $33.9 million. I t is certainly not one of the worst underfunded pension plans I have seen. It would be nice if they had a surplus. They did make money on their investments and the plans value has increased since 2002.
They have more realistic expectations of returns at 6.2%. It is worrisome to see pension plans figuring 9-10% returns and the 6.2% will help to curb future drastic shortfall.
An unexplained insider business transaction
In September 2003, Teva purchased 14,021,000 units issued by Viventia Biotech Inc., a publicly traded Canadian biotech company, for CDN $2.8 million. Each unit is comprised of one common share and one common share purchase warrant. Leslie Dan, a director of Teva, is a major shareholder and director of Viventia. In addition, in February 2004, Teva's audit committee and Board of Directors approved the purchase of certain property in Canada owned by Mr. Dan. The property serves as the manufacturing facility for Teva's penicillin manufacturing operations. The sale price for the transaction, which is scheduled to close shortly, is approximately CDN $6.25 million. Why did Teva buy shares of this biotech? They do not discuss it.Was it intended as an investment or a favor to Mr. Dan. There is no discussion of quid pro quo for the acquisition of the shares except its link to the subsequent sale of the property. Did one hinge on the other?
Options
Total shares outstanding 5.9 million
Total value @$19.30 = $113.8 million
Per share value=$0.19
Total dilution= 0.009% very small but they are diluting shares with convertibles and acquisitions . The Sicor acquisition was 7% dilutive.
Expense if all grants were exercised= $147 million
Valuation
Assumptions and inputs
EPS $1.41 I normalized this due to a loss in the first quarter for a one time charge to
R&D acquired.This is slightly below 2004 guidance(low end $1.43)
DS $0.05
Capex per share $0.35
Depreciation per share $0.21
Revenue per share $4.80
Non cash WC per share $2.16
Change in WC per share $0.31
High growth rate of 15% for 5 years is conservative if historical growth is considered. However, in light of their high debt and pension fund shortfall, I use this as a margin of safety. I believe in the current environment favoring generic prescriptions, they are capable of higher growth.
Stable growth of 3%
Beta 1
Risk free rate 4.45
Market risk premium 5.50%
Capex exceeds depreciation by 100%
Capex, WC, depreciation grow at same rate as earnings
Value $31.12
Value with options $30.93
The company is trading at a discount. The negatives :
1) Fairly high debt
2) Underfunded pension plan
3) Questionable insider business transaction
4) Recent dilution of shares and high number of outstanding shares with no buyback in sight
These are offset by:
1) Very good margins
2) 5 year history of double digit growth
3) Organic growth rather than constant acquisition
4) 30 year history of paying dividends
5) Good returns on equity
6) Recent price decrease on no news
Catalyst
Aging population demanding drugs including lifestyle drugs
Increasing importance of generic drugs and increasing proportion of prescriptions filled are generic
Teva is a large company with a proven track record in generic manufacturing that currently has a significant number of ANDAs and Paragraph IV applications pending
New acquisition will become accretive and boost revenue
Drug sector out of favor this includes both big pharma and generics
Generics are poised to gain market share from branded medications
Teva had recent price drop for no good reason and trades near 52 week lows
Teva has recently gained some momentum showing the market may take fresh interest in the drug sector