Last year in June, a bunch of seeking alpha writers compared 2 different capital assets in the market: GILD and TARO. The 1st article was by Ian Bezek here arguing TARO is better investment and days later, the supposed rebuttal (arguably a weak one) was from Alexander Poulous in support of GILD. GILD, we all know has huge following in Seeking Alpha and as expected GILD's shareholders came in support of Alexander's article.
First things first. I am a long term shareholder of Taro. At this time, I hold no position(long or short) in GILD . GILD and TARO, although both are pharma companies they are very different businesses. GILD is into branded (patented) drugs and Taro is mostly a company into specialty generics. GILD's marketed products treat HCV but also has products in diverse therapy areas. TARO is into dermatology/topical but also has products in cardiology and neurology.
Below, I attempt to do a 10,000 foot view comparison of the 2 stocks.
1. TARO'S small base is good for growth
TARO: Taro's market cap is only $5.76 b. Taro has a greater chance to grow its market cap. One would think Taro's 35 ANDA pipeline (never been better), specialty assets like Keveyis, Novexatin, label expansion for Topicort spray, $1.2b cash and zero debt could allow Taro to double its EBITDA in the coming years. See the EBITDA growth in last 5 years here and remember the pipeline wasn't this big nor the cash hoard as significant 3-4 years ago. Good part of the growth came from prudent product lifecycle management.
Moreover, if you use the Gavis-Lupin TTM EBITDA transaction multiple ~25X TTM EBITDA or 16X Projected EBITDA, you can figure out how valuable an asset like TARO is in the market place and how undervalued TARO is already. In Nov 2015 this globes article indicated Mylan and Perrigo could be interested in TARO. In fact, many industry players (TEVA, Dr. Reddy's, Cipla, Glenmark and Sun) have evinced interest to expand in the complex generics space. Being an industry leader, Taro is an unique and scarce asset in the complex generics space.
GILD: Gilead has $129.2b market cap. It is not easy for Gilead to grow it to $258b market cap. Gild has ~$3.4b net cash. Assuming the same EV/EBITDA ratio , GILD would need to increase its earnings by a whopping $23b/year! Yes GILD has a very strong and diverse pipeline, but that pipeline would need throw an additional EBITDA of $23b/year for the stock price to double.
2. GILD has significant product concentration risk
TARO: Taro's revenues comes from a number of ointments/creams/foams/gels/spray. Not 1 product makes up for greater than 10%.
GILD: Most of GILD's revenue comes from Sovialdi and Harvoni . In fact, I believe Gilead is trading at such low valuations precisely because of expected market competition for its top 2 products from Abbvie and Merck.
3. TARO does not have high per treatment cost and the political risk that comes with that.
GILD: Most of GILD's revenue comes from Sovialdi and Harvoni "high per treatment cost " (70,000-80,000 USD per treatment each year?) which could be affected (although unlikely) by any drug pricing regulation.
TARO: While Taro has in the past increased pricing of some of its generic products, the per treatment cost for taro's generics is still very affordable.
4. GILD has patent cliff risk
GILD: A patent guarantees 20 year exclusivity. But before patents expire on branded products, companies have to find a way to replace this huge revenue base from their branded product as often generic competition implies pricing is reduced by 80%. A good example of this ordeal was Pfizer losing lipitor franchise after patent expiry and pfizer still has not recovered from it. Of course GILD still has lot of patent years on its top 2 products.
TARO: Taro's ANDA machine is in niche complex generics market. Historically in this market, most products have around 3-4 competitors due to barriers for entry(technical complexity, clinical trial requirement cost, regulatory compliance cost and the low economic incentive of $50m market). Also, from time to time Taro gets to exploit pricing opportunities in 5% of its products as competitors experience quality issues, etc. Taro is also gettting into specialty business with products like Keveyis, Novexatin, etc which will serve well for its future growth.
5. TARO's investment in its base niche generic/ANDA business is significantly much lower-risk and less capital intensive than GILD's new drug business.
GILD: Finding new drugs is a risky,highly-capital intensive business that comes with a long gestation period. It takes 100's of millions of research dollars and sometimes even 10 years to get a new drug to market.
TARO: Taro's niche generic business involves leveraging formulation, process re-engineering and manufacturing expertise to file new ANDA. This investment is not anywhere as risky as new drugs, significantly lesser capital intensive and shorter time-to-market.
6. GILD's treatments cures the disease (great for patients but not so good for repeat business).
Taro's myriad ointments/creams/sprays mostly cures symptoms, opening up the possibility of repeat uses.
7. Generics usage will only increase in the coming years and TARO is expected to benefit.
With aging demographics and Obamacare, it is expected that generics usage will be more. This is good for Taro.
9. GILD is widely known in the investment community. GILD has 25 wallstreet analysts covering it actively and diseminates wide array of info about its business prospect. What is the possibility that "Market is not efficient" on GILD? I would say minimal.
Taro is hardly known.
GILD - Has 147,287 SA followers ( 54 times more than Taro's)
TARO - Has only 2,705 SA followers
TARO: What Taro doesn't have going is popularity. It does not go to any investment conferences nor put investor presentations/specific pipeline details on its web site. So its not surprising most of the market hasn't heard about Taro or its future pipeline prospect. Taro had 1 analyst offically covering it (not seen his report since 2015 though). Some Sun analysts attend Taro's once-in-6-months earnings call.
GILD: In contrast, GILD goes to every investment conference on earth, shares its pipeline details and has a cult-like following in Seeking alpha. Every day you see 3 articles on "Why I am long GILD". There maybe 2-3 articles in Seeking alpha every year on Taro (this one counts in that)! GILD has 25 wall street analysts covering.
With the degree of details about its business risks and its future potential known and discussed with so many market participants at such regular frequency, what are the chances of "market efficiency theory" being incorrect for GILD ? And then one should ask the same question on TARO?
10. Last but not the least, both TARO and GILD management have said they are going to use their strong balance sheet to grow by acquisitions. TARO has developed a great balance sheet over the last 3-4 years. It has $1.2b cash and growing and zero debt. One can start to see how invaluable this war chest would be in a distressed biotech/pharma market. In the last conference call, this is what TARO's CEO said on how they plan to use the power of TARO's balance sheet to benefit ALL of TARO's shareholders:
"I know that some of you may ask, why hasn't Taro been acquisitive or say that we are slow to acquire. Let me say with extremely strong balance sheet which includes $1 billion in cash and substantial capacity to borrow, we have not and will not hesitate to evaluate the right acquisitions. However, I reiterate as we have said all along we remained disciplined in our evaluation of these opportunities to ensure we are creating long-term shareholder value."
Is TARO in a place where GILD was back in 2011 ?
One should not forget, how GILD catapulted to the top and grew from a mid pharma to the size it is today. It was mainly due to acquisition of Sovialdi (then running Phase 3). Management was criticized for overpaying ($11b) for pharmasset back in 2011. But Milligan, the then CEO of GILD said "The products that they have, while just entering Phase 3, I think have a high degree of predictability, in terms of how they will perform." This shows acquisitions of risk-mitigated Phase 2 assets could add significant value to shareholders.
At the parent company Sun, they in-licensed a Phase 2 completed asset tildrakizumab for psoriasis. I expect Taro to follow suit. I would argue TARO with its small size, $1.2b cash war chest, open mindedness to get into different therapy areas, a well-established entrepreneur like Shanghvi could be in a position to do what GILD did 5 years ago.
Disclaimer: Investors are always reminded that before making any investment, you should do your own proper due diligence on any name directly or indirectly mentioned in this article. Investing in any stock is risky. Investors should also consider seeking advice from a broker or financial adviser before making any investment decisions. Any material in this article should be considered general information, and not relied on as a formal investment recommendation.
Disclosure: I am/we are long TARO.