Taro Pharma (NYSE:TARO) And Perrigo (NYSE:PRGO): Both the companies are public. Shares of both the companies trade in reputed US exchanges. Both compete in generic Rx and over-the-counter pharmaceuticals space. Both have significant presence in the dermatology/topical space. Both have Israeli connections.
Company A has higher Operating margin, higher 3-year Sales growth rate, higher 3-year EBIDTA growth rate and better ROE. Company A has a better balance sheet with significantly lower debt and lower leverage ratio compared to company B, giving company A significant flexibility to take on debt and grow by acquisitions.
Yet, incredibly, company B trades anywhere between 2 to 2.9 times the market multiple (Enterprise Multiple/EBIDTA) that company A trades at. Company B is also into Nutritionals, API and is a bigger player in OTC. Below is the comparison of the 2 companies in terms of performance. The numbers for Teva Pharmaceuticals (NYSE:TEVA) are shown for reference as well.
Click to enlarge.
Which is Company A and which is Company B ?
Company A is Taro Pharma and Company B is Perrigo.
How can such a huge mispricing happen?
If Taro pharma were to trade based on Perrigo's market multiple, its share price would be $85 or $120, considering TTM earnings or annualized Q4 2011 earnings, respectively. Taro deserves a higher valuation multiple considering its superior 3 year performance and its unleveraged balance sheet.
Here is some explanation for the mispricing:
Taro Pharma's board has been evaluating an offer to buy out minority shareholders for many months now. The offer seems so grossly inadequate based on current market multiples (both peer valuation and precedent transactions) that one would think the board would have rejected it right away. However, Taro Pharma's board, with the assistance of Citi, has chosen to continue evaluating this offer even after ~4 months of review. Note the recent Actavis acquisition was at 13.8 ttm EBIDTA.
2. Taro Pharma's board has a significant representation from SUN Pharma. SUN also has around 77% voting interest (around 66% financial interest) in Taro Pharma. There is a perceived threat of minority shareholders being fleeced from majority shareholders. There are many minority shareholders that have publicly written about this. The addition of agenda items 4 to 8 for the annual general meeting regarding director liability protection proposals have concerned minority shareholders. Statements from the company like the below in Taro Pharma's press release have not helped either.
At the time of the appointment of Taro Pharma's Board, new Chairman Mr Kal Sundaram, Taro's press release had this rather confusing statement: "This role is also in line with his new responsibility for Sun Pharma group's strategic business interests in North and South America." This begs the following question: Is this pre-eminent Taro appointment in the interest of ALL Taro shareholders ?
Mr. Kal Sundaram was the CEO of Sun pharma in 2010.
While Taro meets the regulatory standards for public listing in terms of quarterly and annual financial filings, Taro Pharma's disclosure standards pales in comparison with Perrigo. Suffice to say most market participants (US healthcare funds) know Perrigo. However, Taro is still relatively unknown to market participants even after its recent NYSE relisting.
The most important statistic to corroborate that is here: The average daily dollar volume of Perrigo is 64 times that of Taro. Taro's average daily volume of 32k shares*$44 =$1.4m versus Perrigo's 859k shares*$106 =91m.
Here is a comparison of Perrigo and Taro in terms of disclosure standards.
How can the real market price of Taro or the fair value of Taro be found? How can Taro maximize the value for ALL its shareholders including minority shareholders ?
Taro's press release on Jan 12th had this:
The Special Committee recognizes its primary objective is to maximize value for the minority shareholders of Taro and will take all steps necessary to ensure this objective is achieved.
Here are some recommendations for the board:
1. Stop the evaluation of offer from Sun Pharma.
2. Remove Items 4 through 8 from the agenda of the upcoming annual shareholder meeting.
3. Put a moratorium on buy-out for a period of 12 months.
4. Conduct investor day(s) with full and fair disclosure of 3 year business and restructuring plan of Taro. Such business plan could include among other things:
a. Potential synergy savings from Sun Pharma's closer integration with Taro
b. Potential savings from transfer of manufacturing of any of Taro's products from Israel to India
c. Potential Taro product sales growth in countries outside of it's current major sales territory of US/CAN/UK/Israel
d. Sun Pharma's potential use of the premium Taro brand for sales and marketing of Sun's products in the US/CAN including high margin OTC business
e. Value of Taro's pipeline assets, including 24 pending ANDAs and potential OTC Switches
f. Value of the near term R&D pipeline
g. Value of the recently approved sNDA Daranide
h. Value of potential NDA(s) - including the purified version of Malathion that is undergoing Phase 3 testing
The above steps are needed so the fair value of Taro can be found by the market.
While on one hand the long time Taro minority shareholder needs to thank the current board and the management for having restored some of the value that the prior management had almost destroyed, the recent actions including addition of liability protection proposals, and the continued evaluation of Sun Pharma's offer creates a great degree of ambivalence and circumspection.
Disclosure: I am long TARO.
Disclaimer: This article is not a recommendation to buy or sell any equity.