Monday, January 27, 2014

Merck Seen Unlocking $13 Billion With Breakup: Real M&A- Discussion Topic 11/10/2013


  1. Fundamentals:
    Total Revenue in FY 2012: $47.3 billion, 76% from Human health, 10% from Vaccines, 7% from Animal health, 4.22% from Consumer health,2% Alliance and other. TTM Rev 2013: $44.5 billion, Revenue growth: -1.62% in FY 2012, -6% in 2013 (TTM). Human health declined 5.6%, Animal health grew 5%, Consumer health grew 6% in FY 2012.
    By products:
    Januvia: $4.1 billion in 2012 (8.8% of total rev), $4 billion in 2011, (9.0%)
    Singulair: $3.9 billion in FY 2012 (8.3%), $1.2 billion in 2013(est) (2.7%)- US patent expired in 2012/08, patent expiring in 2013 in international markets.

    Multiples: MRK 9.8, PFE EV/EBITDS 7.4, Zoetis (Animal health spinoff) 20

    - Increase in share price a total of $12 billion when value Merck's units separately, boost from $ current $45 to $50
    - Streamlining operations has been a trend of pharmaceutical companies, Pfizer, Novartis have all planned or had spin-offs and there were proof for potential profits
    - Investors may value the spin-offs higher than consolidated

    - Forgo CFs from those segments, but the relative size is small given the much smaller revenue comparing with the core Human health segment
    - One time cost such as legal, increase tax liabilities, use of tax benefits

    Merck should firstly group its operations based on the nature of the segments and to ensure smooth operations after the spin-offs.

  2. Overview-

    The Company’s operations are principally managed on a products basis and are comprised of four operating segments, which are the Pharmaceutical, Animal Health, Consumer Care and Alliances segments, and one reportable segment, which is the Pharmaceutical segment.

    Worldwide sales totaled $48.0 billion in 2011, an increase of 4% compared with $46.0 billion in 2010. According to data ended on Dec 31, 2011, the most profitable business segment is Pharmaceutical, with sales revenue of $41,289. All other totals $6,327.

    Pharmaceutical, most profitable-

    Singulair- $5,479 million (Respiratory and Immunology)
    Januvia- 3,324 mil (Diabetes and Obesity)
    Remicade- 2,667 mil (Respiratory and Immunology)

    Article –
    Should they do it right, no big concern.
    1, Medicines for animal is 7.2 percent of the total revenue and consumer-care products is even lower.
    2, successful examples by Pfizer and Novartis, indicating a potential increase in value if spin-off business counted independently

    Interesting Part –
    Shift in R&D: invest more in early stage.
    1, Fire 8500 in October
    2, Slow process in FDA approval, increase in the early stage investment but advantages are eaten up quickly by copy cats, esp. when patent expires.
    3, “The Merck cuts follow moves at other major U.S. drugmakers to slim and refocus after years of expansion through large deals. Pfizer Inc. (PFE), the biggest U.S. drugmaker, has shed non-drug units. AbbVie Inc. (ABBV), split off from Abbott Laboratories at the start of the year, has said it will no longer focus on primary care medicines and has fired workers as products in that category have lost sales exclusivity.”—Bloomberg. Therefore, shifting the R&D and market focus is a major step for these giants.

  3. Executive summary:

    Merck is a global health care company which has four operating segments he Pharmaceutical, Animal Health, Consumer Care and Alliances segments
    Merck considering whether to spin off consumer products and animal health unit like Pfizer did who boosted shareholder value by 50 Billion Analyst Suggestion:

    1. Medicines for animals generated 3.4 billion of sales 7.2% of total revenue 47 billion.
    2. Consumer care products had 1.95 billion 4.2% of total revenue.

    1. Break up
    2. Acquire or partner with a growing biotechnology company focused on human health care product
    3. Driving sales growth of Januvia and better develop its pipeline

    Good to break up
    1. Break up will have 12.5 billion of value because Merck has pretty attractive assets in its consumer and animal health business.
    2. The emerging market is attractive for Merck

    Risks to break up
    1. Spinning off assets will give up cash flow when its core drug business faces challenges.
    2. First time to break up.

  4. Sales Percentage from 4 operating segments: (total $47,267 M)
    -Pharmaceutical: human health pharmaceutical and vaccine products: 86%
    -Animal Health: animal vaccines: 7.2%
    -Consumer Care: foot care and sun care: 4.1%
    -Alliances segments: 2.7%

    Sales percentage of products:
    -Diabetes and Obesity: 8.6%
    -Respiratory: 8.2%
    -Cardiovascular: 5.4%

    Cost percentage: (total $38,528M)
    -Materials and production: 43%
    -Marketing and administrative: 33%
    -R&D: 21%

    Operating Profits from segments (total 29,015 M)
    -Pharmaceutical segment profits: 25,852M, 89%
    -Others segments: 3,163M, 11%

    Cash Flow
    CFFO: generate most of cash inflow
    CFFI & CFFF are both cash outflow

    -About $12.5 billion of value could be unlocked
    -Put most of R&D expense on the most profitable products
    -Spin-off is trend among its competitors and it turned out to be beneficial.
    -M&A cost has already been high for Merck. Future higher cost will further threat its profits.
    -Potential liquidity problem

  5. Merck Co.
    Business Structure for Q2 2013

    • Pharmaceutical Business 85.89%
    • Animal Health 7.25%
    • Consumer Care 4.02%
    • Emerging market decrease 20%; -4%
    • Singulair contributed $5.5 billion annually until its patents expired in 2012;
    • Increased competition for Januvia (contributed 8.4% Q3 revenue); Invokana by Johnson & Johnson (JNJ)

    Q3 Performance
    • Non-GAAP (generally accepted accounting principles) earnings per share (EPS) for the third quarter of $0.92 exclude acquisition-related costs, restructuring costs and certain other items; lower its earnings estimate
    • Non-GAAP Net income decrease 7.4%; GAAP net income decrease 35%
    • The gross margin was 62.8 percent for the third quarter of 2013 and 64.0 percent for the third quarter of 2012; primarily reflects the impact of recent patent expires.
    • Marketing and administrative expenses; -6.7%
    • Research and development (R&D) expenses; -10.5%
    • Other net expense; -14%

    • The spinning off will unlock $12.5 billion of value but giving up cash flow
    • A management initiatives of net reduction in annual operating expenses of approximately $2.5 billion by the end of 2015
    • Lambrolizumab drug for the treatment of lung cancer in Phase I; Nivolumab, Bristol-Myersalso
    • Promising product. Combination hepatitis C regimen has joined anti-PD-1 immunotherapy in being designated as a ‘breakthrough therapy’ by the FDA.”
    • Announced that V503, Merck’s investigational 9-valent HPV vaccine. The company expects to submit a Biologics License Application

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  7. Merck has four operating segments: Pharmaceutical, Animal Health, Consumer Care and Alliances. Revenues from pharmaceuticals account for 85% of the total revenue, while the other three segments make up the rest 15%. Furthermore, pharmaceutical segment dominates with approximately 88% in the reported operating profits, while other segments maintain roughly 12%. What we need to notice here is that for internal management purpose, Merck does not allocate materials and production costs, other than standard R&D expenses or general and administrative expenses based on segments. All of them are major components of the expenses. So the exact operating profits by segments are unknown.
    What Merck is considering now is if the company wants to concentrate on the pharmaceutical business by either spinning-off or selling its animal health unit and consumer products. The major metrics for decision-making is whether there will be significant increase in combined equity value. Merck will most likely use the proceeds from sales or increased equity value to offset its debt and fund its future R&D efforts. As the company is still evaluating its strategic options, any potential spin-off will not happen in the short-term.
    There were a number of patent expirations in the past year. I’m not an expert on this, but it looks like the company has an organic, healthy research pipeline, which I believe will sustain the company’s revenue growth in the next 12 months. And there is no apparent issue with Merck’s supply chain.
    With the company stock price near the middle of the 52-week range, I would recommend to hold the current position.

  8. Merck & Co., Inc. is a global health care company, which it markets directly and through its joint ventures.
    -The Company’s operations are principally managed on a products basis and are comprised of four operating segments, which are the Pharmaceutical, Animal Health, Consumer Care and Alliances segments.
    -The Pharmaceutical segment includes human health pharmaceutical and vaccine products.
    -Pharmaceutical segment generate around 89% of total profit in 2012.
    -Foreign operations accounted for 59% of total sales in 2012.

    Pharmaceutical segment profits $ 25,852 M (2012)
    Other non-reportable segment profits $ 3,163 M (2012)

    Januvia $4,086 million Diabetes & Obesity
    Singulair $3,853 million Respiratory
    Zetia $2,567 million Cardiovascular
    Remicade $2,076 million Immunology

    Proposal: Breaking up animal-health and consumer care unit:
    -Estimated Merck’s share will go up from $45.72 to $50 per share, if units separation take place
    -Estimated that there’s almost $13 billion of unrealized value within Merck’s conglomerate structure.
    -Merck could use the cash flow from a unit sale to acquire or partner with a growing biotechnology company focused on human health care
    -Merck may be able to focus their core business on driving sales growth of Januvia and better R&D in its pipeline
    -Investors can better value the pharmaceutical business and drive stock multiple expansion
    -Merck would give up cash flow from these units and may face liquidation challenge if core business sales decline
    -It may be losing the synergy for marketing, administration and R&D

    Investment Summary:
    -Diabetes pharmacy, Januvia and Metformin’s sales growth 22.6% in 2012
    -Merck has impressive pipeline in advanced stages of development
    -New products contributed more than $750 million to 2012’s revenue
    -Singulair and Maxalt lost market exclusivity in the United States in 2012
    -Company may not be able to replace sales of successful products that have lost patent

  9. Overview:
    - The Company’s operations are principally managed on a products basis and are comprised of four operating segments, which are the Pharmaceutical, Animal Health, Consumer Care and Alliances segments, and one reportable segment, which is the Pharmaceutical segment.
    - Worldwide sales totaled $47.3 billion in 2012, a decline of 2% compared with $48.0 billion in 2011. The sales decrease was driven primarily by Singulair, which lost market exclusivity in the United States in August 2012
    - In 2012, sales in Pharmaceutical segment was 40.6 b, representing 86% of total worldwide sales

    -Top product sales:
    - Januvia rose 23% in 2012 to $4.1 billion, 8.7% of total revenue
    - Singulair declined 30% to $3.9 billion in 2012 (8.2% of total sales) driven primarily by lower sales in the United States
    - Zetia ,a cholesterol absorption inhibitor, increased 6% in 2012 to $2.6 billion, 5.5 % of total sales

    - Merck has pretty attractive assets in its consumer and animal-health businesses. Global sales of Animal Health products grew 4% in 2012 to $3.4 billion (7.2 percent of total revenue). Global sales of Consumer Care products grew 6% in 2012 to $2.0 billion
    - Possible spin off, can unlock about $12.5 billion of value.
    - Streamlining operations “is the focus of the whole industry right now, and some good examples of competitors

    - Giving up cash flow at a time when its core drug business faces challenges
    - Take time for the company to slice and dice the company very carefully into different portions that could be easily siphoned off
    - FDA Alert Regarding Diabetes Drugs. Although the FDA is yet to arrive at a conclusion regarding the safety risks associated with these drugs, this remains an issue to keep an eye on. The addition of strict warnings to Januvia/Janumet's labels would hurt sales.
    - The company is currently facing a delay in the FDA s response for its new products
    - Patent Expiries