So, one more acquisition added to the belt for Valeant Pharmaceuticals (NYSE:VRX), eh?
I am talking about the agreement to acquire Medicis Pharmaceutical Corp. (MRX) for $44 per share in cash. Medicis, based in Scottsdale, Ariz., makes dermatological and aesthetic pharmaceutical products, including the acne treatment Solodyn and Dysport, which competes with Allergan Inc.'s (NYSE:AGN) Botox. The company, with a market capitalization of about $1.8 billion, had $721 million in revenue last year.
Let's hear it from the horse's mouth (straight from the press release):
Valeant's Chairman and Chief Executive Officer, J. Michael Pearson, said, "The acquisition of Medicis represents a significant next step in our journey to become the leader in dermatology by strengthening Valeant's presence in acne, actinic keratosis, aesthetic injectables and anti-virals, among others. Medicis' highly complementary portfolio of leading branded products and promising pipeline is a solid strategic fit, and we look forward to leveraging Medicis' well-known and respected name in dermatology to drive long-term growth."
Even analysts apparently support the decision.
"It's a business the CEO has talked about in the past that they've found very attractive with lower government threat to pay and generic competition," Neil Maruoka, an analyst with Canaccord (Toronto), said in a phone interview.
And this is just another addition to the series of acquisition transactions that's happening since the failure in the $5.7 billion hostile takeover bid of Cephalon Inc. (NASDAQ:CEPH) last year, which was ultimately bought by Teva Pharmaceuticals (NYSE:TEVA) for $6.2 billion.
On 19th August 2011, the company bought the Sanitas Group, a specialty pharmaceuticals company with a broad branded generics product portfolio of 390 products dispersed all over Central and Eastern Europe, primarily Poland, Russia and Lithuania, for EUR314 million in cash. Annual revenues for Sanitas were expected to be over EUR100 million in 2011, with an approximate revenue growth rate in the low double digits over the coming years.
By October 2011, the company completed the acquisition of Edmonton-based Afex Life Sciences, maker of the over-the-counter cold and flu remedy Cold-FX, for around $86 million.
On 19th December 2011, the company bought Dermik, the dermatology unit of Sanofi (NYSE:SNY), for $425 million. Dermik came with significant presence in the medical dermatology market in U.S. and Canada, with a strong field force and well-known brands. Dermik's portfolio consists of Benzaclin for the treatment of acne, Carac for the treatment of keratoses, and Sculptra, a facial injectable for the correction of facial wrinkles and folds.
On 22nd December 2011, the company bought iNova, a private pharmaceutical company with a diversified portfolio of well-established and innovative prescription and OTC pharmaceutical products in the Asia Pacific region and South Africa, including leading therapeutic weight management brands such as Duromine, as well as leading OTC brands in the cold and cough area, such as Difflam and Duro Tuss. Valeant will pay iNova shareholders A$625 million upfront and up to an additional A$75 million in potential milestones based on the success of pipeline activities, product registrations and overall revenue. iNova's total 2011 revenues are expected to be approximately A$200 million and has an operating margin of approximately 40%. Revenues have grown at a rate of approximately 10% per annum over the last four years.
On 1st February 2012, the company acquired Probiotica Laboratories, a leader in over-the-counter sports nutrition and food supplements in Brazil (with 30% market share) for $150 million.
On 13th February 2012, the company agreed to "acquire Eyetech Inc., a privately-owned ophthalmic biotechnology company dedicated to the treatment of sight-threatening diseases of the retina, for an upfront payment and potential future milestones that total significantly less than two times sales."
On 12th April 2012, the company bought Pedinol Pharmacal, Inc., a podiatry-focused, privately-owned specialty pharmaceutical company based in the U.S., for less than 1.5 times sales. This is what Pearson said:
"The podiatry market has similar characteristics to the dermatology market that we find attractive from a risk and reward aspect, and expanding into this area is a natural extension of our topical formulation development capabilities. Pedinol has over 85 years of experience in podiatry and a highly regarded national field sales organization, which are both key as we prepare for broader expansion into this market. We expect Pedinol's established presence in the podiatry market to be a valuable asset for Valeant."
On 15th June 2012, the company agreed to acquire OraPharma, a leading specialty oral health company in US, for a total consideration of approximately $312 million and "up to $114 million in potential contingent payments based on certain milestones, including revenue targets."
The company also has a string of equity investments in several national and international companies such as Gerot Lannach, Natur Produkt (Russia), University Medical, Atlantis Pharma (Mexico) and Swiss Herbal.
In a letter from the Chairman and CEO, Michael Pearson, you will find the following excerpt:
"We also have a different approach to R&D than other pharmaceutical companies in that we don't bet purely on science for our future growth. We like to buy in-line products that we think we can grow and take the development risk out of the equation. We prefer to access our innovation through acquiring companies and products. And where we do invest in R&D, it is primarily focused on dermatology and ophthalmology, where the risk-reward profile actually works from a standpoint of our Company's philosophy. We also seek partners for our significant development efforts, thereby reducing our R&D expenditures as compared to our peers. While there are many remarkable pharmaceutical companies involved in discovering new compounds, overall, internal R&D for the pharmaceutical industry has not proven to be a good return for most companies over the last decade."
So it is more like cutting R&D costs in the income statement and saving the money to increase assets in the balance sheet. Well, sounds like a good idea to me, only if it doesn't cost the firm more than what a well-trained, in-house R&D entails for. And more so, it must not have too much negative pressure on the company's finances.
So, let's take a look at the finances. But before that, here's something you must remember. It's only with these mergers and acquisitions that the company shot up from a multimillion dollar firm to $15.58 billion market leader, what say?
Okay, into the second quarter financials now.
To start with, it's evident that the company is in need of funding for these acquisitions. And that shows in the syndication of $600 million worth of senior secured Tranche B Term Loan facility in the first quarter of 2012 and another $600 million worth of incremental term loans in the second quarter of 2012. Both are due around 2019.
Total revenue was recorded at $820.1 million in the second quarter of 2012, as compared to $609.4 million in the second quarter of 2011, an increase of 35%. Product sales were reported at $748.7 million in the second quarter of 2012, as compared to $530.0 million in the year-ago quarter, an increase of 41%.
In the segmented revenue section, the same-store sales of the US Dermatology products, which account for 13% of total sales, grew by 33%. Emerging markets, especially South-east Asia and Africa showed promise. They contributed to a whopping 43% of total product sales. Unfortunately, the US Neurology & Other segment continued to show negative growth of 10%. The recent acquisition of Medicis and Dermik last year, definitely was in the right direction.
Okay, one thing to note in the income statement. The operating income has gone down to $86.8 million in the second quarter this year, compared to $118.5 million in the year-ago quarter. Why? If we look closely, most of the expenses can be attributed to mergers and acquisitions. The contingent consideration for fair value adjustments, which normally tells us about tentative payments promised to the sellers in an acquisition on the occurrence of some specific event (remember the milestone payments offered in those acquisitions!), accounted for $7.7 million, up about $6 million since the last year's quarter. Restructuring charges cost around $43.87 million second quarter this year, compared to $29.5 million in the last year's quarter. In-process research and development facility required clever streamlining and remodeling that cost around $5 million.
Well, these can be described as one-time charges which are related to mergers and acquisitions (unless it goes on for another five years if so contracted), so it shouldn't affect the bottom line a few quarters ahead.
Moreover, a legal settlement cost around $53.6 million in the second quarter this year. If this is done with, this can be considered as a one-time charge too, which adds to the bottom line again.
Coming to the last item, are you worried about the debt the company might be building with all these cash purchases? Well, the company seems to have taken care of it, provided for the fact that only $195 million falls in the current portion of the total liability amount of $7.55 billion. The rest of it is probably going to retire around 2019-2020, so that gives the company around 7 years to work around the financials.
To sum it up, the company seems to bear a lot of promise at the business front. But from an investor's perspective, should you buy it now? Let's look at a few points.
With the P/E ratio of 270.27, when Dr. Reddy's Laboratories is trading at a P/E ratio of 18.92, and an operating margin of 10.68%, compared to 28.5% of GlaxoSmithKline (NYSE:GSK). But then again, it has price to book ratio of 3.92, against 4.92 of Dr. Reddy's Laboratories (NYSE:RDY).
What does it mean? Does it mean that the recent acquisitions and the increase in book value hasn't affected the stock price as of yet, and your investor friends are all focusing on the low earnings part, which frames the company as overpriced? If that is the case, it might already be underpriced and with subsequent improvement in earnings, it might turn out to be a gem, who knows.
Additional disclosure: Please contact your personal financial adviser before investing.