The drop in the Teva Pharmaceutical Industries Ltd. (NYSE: TEVA; TASE: TEVA) share price was probably a direct response by investors to the company's loss in the trial in the case involving the validity of the patents for 40-milligram Copaxone. The 54% slide in the share price since it reached a peak in the summer of 2015, however, is a result of many events, some of which have caused a crisis of confidence between the capital market and Teva management.
The third anniversary of Teva CEO Erez Vigodman in his position is less than two weeks away. During those three years, the company share price escaped the doldrums where it had been mired for an extended period and set new records, before abruptly changing direction and sinking to a 10-year low.
What has caused this crisis in confidence? It might have been the expensive and excessively leveraged acquisition of Actavis Generics. It might have been the unfortunate acquisition of Mexican company Rimsa for $2.3 billion in cash, or the unsuccessful race to acquire Mylan N.V. (Nasdaq: MYL; TASE: MYL), which cost Teva another $900 million.
It might be all of these combined, which signaled that something is wrong with the way Teva's board of directors and management make decisions.
Net debt of $35 billion
As of January 2017, Teva is a company with a market cap of $32 billion and a huge net debt of $35 billion, a debt it has had since completing the acquisition of Actavis for $38.8 billion last August.
Actavis was the generic arm of Allergan, which received $33.4 billion in cash and 100 million Teva shares, worth $5.4 billion at the time, for the acquisition. The share component of the deal was extremely small, only 14%, compared with 50% in past major acquisitions by Teva.
In order to comprehend the significance of this number, it is necessary to look at the debt borne by large international companies, especially those in the pharmaceutical industry, such as Pfizer, the largest drug company in the US, whose net debt is $30 billion, but which has a market cap of $190 billion and which generated a $10 billion cash flow from current activity in the first nine months of 2016.
Teva, on the other hand, recently predicted a cash flow of $5.7-6.1 billion for all of 2017, on the assumption, moreover, that there would be no generic competition for 40-milligram Copaxone. Now that such competition is liable to materialize following the results of the trial, Teva's projected cash flow could shrink to $4.9-5.5 billion.
Furthermore, Pfizer is regarded as having a relatively large debt for the sector. Swiss company Novartis, for example, which has about the same market cap as Pfizer, has only $16 billion in net debt, together with an $11.5 billion cash flow from current activity for all of 2016. F. Hoffmann-La Roche, another Swiss company, which has a $202 billion market cap, had $18 billion in net debt as of June 30, 2016 and a $5.5 billion cash flow in the first half of 2016.
Another example from the US is Merck, with a $170 billion market cap. In its most recent balance sheet, Merck reported $12 billion in net debt, together with a $7 billion cash flow from current activity in the first nine months of 2016.
Will the current panic infect Teva's bondholders?
Above all of these is Johnson & Johnson, the world's largest manufacturer of medical equipment and drugs, with a Wall Street market cap of $310 billion. This company had a $13 billion surplus of cash over debt at the beginning of the fourth quarter of 2016, after generating $12 billion in cash flow from current activity within nine months.
Teva's management, it must be said, still believes in the company's ability to service its debt and substantially reduce it in the coming years. Even if this is correct and accurate, however, the heavy debt is creating pressure on Teva. Until it is significantly reduced, it is difficult to imagine the Teva share returning to its previous high levels. When the possibility of generic competition for 40-milligram Copaxone is added to the mix, the debt reduction process is liable to take even longer.
In any case, Teva's board of directors and management now has the obligation to calm the US capital market and restore investors' confidence in the company's policy, before the current panic infects the company's bondholders.
Published by Globes [online], Israel Business News - www.globes-online.com - on February 1, 2017
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