Less than two years ago, when Teva Pharmaceutical Industries Ltd. (NYSE: TEVA; TASE: TEVA) announced the acquisition of Actavis, the generic drugs division of Allergan plc, the capital market cheered the deal. At that time, Teva was a company with a market cap of $60 billion buying a company for $40 billion. The expectation, as with any acquisition, was that it would create more than one plus one. Had the expectation been fulfilled, Teva would be traded today at a much higher market cap, but it didn't happen. Teva's share price is currently $28.5, giving it a market cap of just $29.1 billion, less even that it paid for Actavis, and less than its debt of some $35 billion. That represents a fall of 60% from the peak reached by Teva's share price two years ago.
The turnaround in the market's attitude to the Actavis deal came a few months after it was announced. Valuations of generic drug companies fell, because of erosion in drug prices and the fear of stricter regulation in the US, and questions started to be raised about the high price Teva was paying. But initially, it was hard to find anyone who thought that the deal was a mistake. Thus, in January 2016, Teva managed to raise $7.24 billion without difficulty.
It turns out, however, that at about that time there was someone who warned Teva of the possible difficulties with the deal. "Globes" has learned that Avi Tiomkin, an economist and adviser to international hedge funds on the global economy, met Yitzhak Peterburg, then Teva's chairman and currently its interim CEO, and presented him with an analysis that showed that the deal was not good for Teva. Talking to "Globes" today, Tiomkin confirmed the report.
"I didn't know Peterburg beforehand, but a Teva director who is a friend of mine heard my view on Teva, and asked me to meet him," he said. "We met for lunch at the Reviva & Celia café in Ramat Hasharon, and I analyzed the deal for him: finance, market, every element, an hour and half of macro-economic analysis. I didn't analyze the deal from the business-medical point of view, but from the point of view of changing financing conditions, the high probability seen then of Hillary Clinton being elected president of the US and the effect of that on the market. I haven't heard a word from him since then."
Did you try to warn again?
"I didn’t think it was my job to approach him again, and I didn't feel comfortable about doing so."
Three months later, Tiomkin was lecturing to students at the Tiomkin School of Economics at the Interdisciplinary Center, Herzliya, and mentioned Teva, which was then waiting for regulatory approvals to complete the Actavis acquisition. As "Globes" reported at the time, in his lecture, Tiomkin wished Teva success in view of the growing difficulties, as he saw them, in completing the takeover, when "the finance and the debt cycle are becoming very, very difficult, and the deal will be much more expensive than was estimated at first."
Tiomkin says that the day after the report appeared in "Globes", he received a surprise telephone call at 6:30 in the morning. It was from Erez Vigodman, then Teva CEO (and recently ousted from the post), who opened the conversation by asking, "Tiomkin, tell me, are you short on Teva?"
"I explained to him what I thought of the deal, and that I was not, God forbid, conducting a campaign against Teva," he relates. Today too he stresses that he has nothing personal against Teva – "There's no company I root for more," he says.
Can Teva rise again?
"I'm no expert on pharmaceuticals. The company now faces dramatic challenges – carrying out the merger, a tough, competitive world, a difficult period. I can't express an opinion at present about what will happen."
Teva said in response, "It is unfortunate that Mr Tiomkin is seeking free public relations at the expense of Teva. A meeting between him and Teva's chairman at the time did occur, and was billed as an introductory meeting at the request of a mutual acquaintance. During the meeting Tiomkin went on at length to market his personal and professional merits. He was never asked to present any analysis on the deal, nor was there any discussion regarding its details"
Most analysts neutral
So has Teva reached bottom? MarketWatch figures show that the average price target for it is $37.5, 31.6% above the current level. Most analysts covering Teva take a neutral stance and recommend holding the stock (14 out of 27). Twelve give positive ratings.
Bank of Jerusalem Brokerage analyst Jonathan Kreizman rates Teva "Outperform", with a price target of $42. "Teva's troubles have mostly been plain for several years now," he says. "The latest development is the growing fear that generic competition for Copaxone (40 mg) will come sooner than expected from Mylan. That emerged from Mylan's latest financials, which stated that the company was waiting for a response from the FDA in June. That put pressure on the market, because if so this means generic competition twice as strong as had been expected for the coming year."
Kreizman believes that "the fog of war and uncertainty" still surround the FDA decision, but the market has begun to price in the fear of the event and the share price has become more volatile. "Teva is in considerable distress, because it is having to cope on several fronts, and it is doing so without a permanent CEO," he says.
According to Kreizman, Teva's three main businesses must be analyzed separately: Copaxone, the company's flagship multiple sclerosis treatment, which he estimates accounts for 43% of its profits; generics, which account for 37% of profits; and innovative activity other than Copaxone, which accounts for 18%. "We are seeing a pincer movement. Investors are trying to monitor on the one hand the rate at which Copaxone is being eroded, and on the other hand the rate at which synergies and growth in generics, which are supposed to compensate to a large extent for the erosion of Copaxone, are actually happening."
Kreizman points out that the next two to three years will be strong for generic drugs in the US, with the expiry of patents on many products, and he says that that is the justification for Teva buying Actavis. The generics industry has, however, experienced pressure on prices as a result of the consolidation in the US medical insurance market, while at the same time Teva disappointed with its new launches forecast for 2017.
In the innovative business, Teva has new drugs about to come into the picture, and Kreizman sees positive indications in this respect. At the same time, the decline in Copaxone continues to cast a shadow. Kreizman estimates that Copaxone currently contributes $2.1-2.15 to annual earnings per share. "The erosion from two generic competitors is liable to cut Copaxone's contribution to less than $1 per share," Kreizman says. "Teva will find it hard to post earnings of $5 per share, which was the floor set by the previous management."
Despite the difficulties, Kreizman finds reasons for holding Teva. "The first reason is that, despite the objective problems at Teva, it is part of a sector that is altogether battered. If we compare the current crisis to the crisis of 2014, at that time most of Teva's competitors were on their way to peak prices, whereas today there is correlation between their prices and that of Teva. That is to say, Teva is considerably affected by what is weighing on the sector as a whole. Recent indications run counter to the market's concerns about regulation.
"A further reason is that Teva's business is priced very low, particularly if Copaxone is taken out of the equation. The uncertainty surrounding Copaxone is exacting a higher economic price than what Teva has to bring to the table. Teva might prefer to have generic Copaxone behind it, just to be able to make clear to the market the recovery that can be expected from its other activities."
What about the big debt?
"The market's concern is mainly over the $5 billion owed to the banks. The long-term debt is not priced in in such a way as would reflect deep concern. Teva is selling activities in order to deal with the short-term debt, and as long as the company is not faced with two generic competitors to Copaxone, it should have no difficulty in abiding by the financial covenants. Teva is not looking at the possibility of cutting its dividend, but that could make it easier for it to meet the covenants (a debt: EBITDA ratio of 3.5 by the end of 2017, S. H-V.)
Meanwhile, we await the appointment of a CEO. Who do you think will want to come to a company whose previous two CEOs were ousted?
"A CEO who looks to the long term. In Teva's current financial condition, the next CEO will be somewhat restricted in his ability to carry out far-reaching strategic moves. In a scenario in which Teva stabilizes in the next two-three years, a window of opportunity for expansion could be created, and then the CEO will have a chance to bring his experience to bear. The main task will be to stabilize the company."
There is talk that Teva could be split into separate companies.
"I don't see a strong basis for arguing that a split up of Teva will create greater value than the company's existing structure."
Published by Globes [online], Israel business news - www.globes-online.com - on May 29, 2017
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