Vice President: Deepansh Kalra, Chirag Agarwal, Devansh Jain
Analysts: Amal Tharik, Kshirja Gambhir, Yuvraj Gill, Sarthak Paul, Gautam Bansal, Nidhi
Singh, Veer Jindal
Deal Overview
Acquirer: Sun Pharmaceuticals Industries Ltd.
Acquiree: Taro Pharmaceuticals
Deal Size: $348 million
Buy Side Advisors: Davis Polk & Wardwell, Herzog Fox & Neeman
Sell Side Advisors: Goldfarb Seligman & Co, Shearman & Sterling, Meitar Law Offices, Skadden Arps Slate Meagher & Flom, Bank of America
Introduction
Sun Pharma, one of the world's largest pharmaceutical companies, acquired the remaining stake in Taro Pharmaceuticals for $348 million for a price of $43 per share without interest. After the completion of the merger, Sun Pharma announced that the combined entity will firmly move forward, leveraging its global strengths and capabilities to serve the needs of patients and healthcare professionals. CEO of Taro, Uday Baldota, also added that the merger will enable them to compete effectively in their products and markets. Upon completion of the merger, Taro will become a privately held company, and its shares won't be listed on NYSE.
Sun Pharmaceuticals Overview
Sun Pharma, founded in 1983, is India's largest pharmaceutical company and a leading generic company in the US. They are significant in the Specialty, Generics, and Consumer Healthcare product markets. Their portfolio includes innovative products in dermatology, ophthalmology, and onco-dermatology, accounting for 1/5th of total company sales. The company reported a total income of ₹445 billion in FY23, which signifies a 12.5% increase from the previous fiscal year.Â
According to SMSRC data for February 2023, Sun Pharma leads in prescriptions across 12 different medical specialties, which it has maintained despite introducing 105 new products in India alone. In the United States, revenues surged by 19% to ₹135 billion, constituting approximately 31% of the company's overall revenues for FY23. The company's specialty sales in the US are experiencing significant growth. Sales in Emerging Markets (EM) rose by 17.1% to ₹79 billion, contributing around 18% to the consolidated revenues. Key markets like Brazil and Romania saw robust double-digit growth in local currency terms. Sales in the Rest of World (RoW) markets increased by 10.8% to ₹60 billion, making up about 14% of the consolidated revenues. This growth was primarily driven by increased Western European sales and the rising demand for Ilumya in Australia and Japan.
Figure:Â Revenue by region, for FY23 in % of Revenue Share
The company operates in a highly competitive industry. Its primary competitors are Teva Pharma, Pfizer Inc., Glenmark Pharma, Viatris Inc., and many other prominent players in the global pharmaceutical industry. Overall, the company operates with solid vertical integration, which helps it deliver high-quality medicines to physicians and consumers in over 100 countries. Over the years, their expansion into the global market through various acquisitions has worked well for them, and they are expected to keep growing.
Taro Pharmaceuticals Overview
Taro Pharmaceuticals is an Israel-based multinational pharmaceutical company specializing in developing, manufacturing, and marketing generic and branded pharmaceuticals. They also have a diverse range of products across various therapeutic areas, including dermatology, neuropsychiatry, cardiovascular and anti-inflammatory. It’s a predominantly US-driven business with over 60% market share in the US generic market. They have an excellent track record and fully comply with central agencies like the FDA.Â
The company is primarily a research-based pharmaceutical company and has continued investing heavily in R&D with 234 approved US FDA ANDAs (abbreviated new drug applications) and is awaiting 19 more approvals.
Figure:Â R&D Investment over the years in $ millions
In the fiscal year ending March 31, 2023, the cost of sales amounted to $304.60 million, representing 53.2% of net sales. This marked an increase of $36.4 million compared to the previous year's figure of $268.2 million, which accounted for 47.8% of net sales. The company's gross profit was $268.3 million during the same period, constituting 46.8% of net sales, compared to $293.1 million or 52.2% of net sales in the previous year.
The decrease in gross profit in 2023 was attributed to various factors, including challenges in the generic pricing environment, heightened competition, the entry of new competitors into the market, and shifts in product mix, coupled with an increase in the cost of sales.
As of March 31, 2023, the company remained debt-free, with no outstanding debt.
Figure:Â Revenue split by product type and by country for FY23
The figure shows that the company has primary operations in the US and Canada, with significant sales coming from niche dermatology and topical products. The company is dedicated to meeting the needs of its consumers through research, development, and manufacturing of quality healthcare products. With the acquisition, Sun Pharma can grow more into the US and Canadian generic markets and acquire a solid R&D infrastructure.
Industry Analysis
The pharmaceutical industry plays a vital role in global healthcare by researching, developing, manufacturing, and distributing medications to prevent, treat, and manage various diseases and health conditions. With its complex ecosystem spanning from drug discovery to commercialization, the pharmaceutical sector is characterized by significant innovation, stringent regulatory oversight, and intense competition. Understanding the dynamics of the pharmaceutical industry is essential for stakeholders, including companies, investors, healthcare providers, policymakers, and patients, to navigate its opportunities and challenges effectively.Â
Although the pharmaceutical industry is anticipated to resume pre-pandemic growth rates by 2024, uncertainties stemming from factors such as viral variants, vaccine distribution, and economic and geopolitical conditions could influence future growth prospects. Following a rebound in global medicine consumption in 2021 after the pandemic, growth moderated in 2022, with spending increasing marginally from US$1.42 trillion to US$1.48 trillion. Projections indicate that global pharmaceutical expenditures will expand at a compound annual growth rate (CAGR) of 3-6% from 2023 to 2027, ultimately reaching a market size of approximately US$1.9 trillion.
Figure:Â Pharmaceutical Industry Growth ForecastÂ
One of the notable trends in the pharmaceutical industry is the rising prominence of specialty medicines, driven by an increase in the prevalence of rare and chronic diseases, particularly in higher-income nations. Projections suggest that by 2027, specialty medicines will account for approximately 43% of global pharmaceutical spending. Additionally, therapy areas such as oncology, immunology, and diabetes are anticipated to experience continued growth. Diabetes, in particular, is expected to generate around $168 billion in revenues by 2027, positioning it as the third-largest therapy area worldwide. The growth rate for diabetes is estimated to be between 3% to 6% over the next five years. While most other therapy areas are expected to grow at comparatively lower rates, they still represent significant market opportunities.
Another driving force behind increased pharmaceutical spending is lifestyle-related factors. Sedentary lifestyles, poor dietary habits, stressful work routines, inadequate sleep, and environmental exposures contribute to a higher incidence of chronic and lifestyle-related diseases. As a result, there is a growing demand for medical and pharmaceutical solutions tailored to address these health challenges. This shift underscores the importance of developing innovative therapies and interventions to meet the evolving healthcare needs of populations worldwide.
Pharmaceutical companies face heavy reliance on patent protection for their revenue streams and regulatory hurdles. When patents expire, they face generic competition, leading to declining profitability margins. Additionally, any delays in regulatory approvals can hinder product launches and affect manufacturing and marketing. Pharmaceutical companies, by far, are vulnerable to product liability claims due to severe drug reactions and manufacturing defects. Legal disputes and settlements can cause damage to the company’s reputation and, in effect, affect its standing amongst its competitors.
Deal Rationale
Sun Pharma bought a 21.5% remaining stake in Taro for USD 347.8 million for $38 per share at a 4.2% premium to per-share value. Based on our valuation the percentage stake would correspond to an EV of USD 561.201 million (EBITDA method) and USD 303.271 million (Perpetuity method). Taro’s share price has fallen in the last 5 years from $108 per share to $42 per share, a dip of 60%. It had constantly declining net profit as well which indicates why Sun Pharma bought it at a lower valuation corresponding to our Perpetuity method Value. It is a fairly valued deal with an appropriate premium as well. Since the 2 methods of terminal value give conflicting results as to share price valuation it can be assumed that the share is fairly valued.Â
Revenue Synergies
The merger will allow Sun to expand its market reach and diversify its product portfolio. By acquiring Taro, Sun gains access to new geographic markets, particularly in the United States and Israel, where Taro has a strong presence. Additionally, Taro's expertise in dermatology and topical products complements Sun's existing offerings, providing a broader range of products for a wider patient population. This combined portfolio allows for cross-selling opportunities through existing sales channels, maximizing market penetration in both Sun's strong emerging markets and Taro's established US market.
Cost Synergies
The merger also holds the potential for substantial cost optimization. By combining procurement activities, the merged entity can leverage its increased purchasing power to obtain bulk discounts and negotiate better terms with suppliers, leading to significant cost reductions in raw materials and other manufacturing expenses. Furthermore, streamlining operations by eliminating redundant functions in areas like manufacturing, research & development, and administration can further generate cost savings. Additionally, consolidating facilities and eliminating redundancies across the combined organization offers further opportunities to optimize costs. These cost reductions will improve profitability and free up resources for future investments and strategic growth initiatives.
Risks
A merger of this scale attracts certain risks. The pharmaceutical industry is one of the most highly regulated industries in the world, where compliance is of the utmost importance. Pre-transaction companies, as well as post-transaction merged entities, will be subject to close regulatory scrutiny.
A price-fixing case involving generic antibiotics sold in the US was filed against Taro in 2019. Despite the matter being settled in 2020, there is cause for concern over possible legal issues in the future given the allegations and compensation. Partnering with a business that has been accused of price-fixing in the past could damage Sun Pharma's brand and reputation, which would affect investor and customer confidence. Should more legal implications about the previous accusations surface, Sun Pharma may be subject to monetary sanctions or fines. Because of Taro's prior legal troubles, the transaction may come under closer examination from antitrust and other regulatory agencies. This may result in more stringent rules for the combined entity.Â
Dilution of earnings is a concern from a financial standpoint. Sun Pharma’s all-cash premium payment for a 100% stake might impact short-term earnings. Merging two large organizations from different corporate cultures and management approaches can be complex, leading to integration challenges in areas like operations, culture, and IT systems. This can disrupt operations and impact profitability in the short term.
Ensuring consistent high-quality manufacturing processes and complying with global quality standards is crucial for gaining and maintaining the trust of international markets, which can take time in this case due to the clash of cultures and strategic visions, as Sun Pharma and Taro might have different approaches to product development, marketing, and other key areas. This can lead to confusion, conflicting priorities, and delays in decision-making.
Deal Valuation
DCF Model: Income Statement-Taro Pharmaceuticals
The growth rate assumed to forecast Revenue in the Income Statement is based on the US, Canada, and Israel’s pharmaceutical sector forecasted CAGR (4-5%). Subsequently, industry reports, management reports, director statements, earnings calls, and various other preliminary research sources were used to formulate a basis for the valuation.Â
An interesting observation is the fact of increasing y-o-y revenue but erratic and falling Net Income as a result of varying Operating and Non-Operating Expenses. A similar trend is adopted in the forecast as well.Â
EBIT (a key component of FCFF) is increasing drastically from 2023 (A) to 2024 (F) because of the introduction of proportionately balanced expenses. The rise is still nowhere close to the EBITs of years before 2023 which were at an all-time high. A decreasing EBIT trend is seen in actual years as opposed to an increasing EBIT trend of forecasted value.Â
Comparable Company Analysis
We selected five companies that are similar to Taro within the same industry and with comparable risk profiles for our analysis. Utilizing the provided table, we determined a range of potential share prices based on industry comparisons. The resulting suitable range derived from this analysis was $21.4 to $56.6 per share. Taro appears relatively fairly valued compared to the selected pharmaceutical peers based on median EV/Revenue multiples but EV/EBITDA multiples indicate possible overvaluation. This variance may be due to differences in profit margins between Taro and peers.
Precedent Transaction Analysis
NEW GENETRON HLDG LTD TO ACQUIRE 40% STAKE IN GENETRON HLDG LTD FOR US$49.8M
New Genetron Holding Ltd agreed to acquire the remaining 40.011% stake, or 183.146 mil ordinary shares, which it did not already own, in Genetron Holdings Ltd, a Beijing-based physician's office operator, for CNY 1.984 (USD 0.272) in cash per share, or a total value of CNY 363.362 mil (USD 49.811 mil). Upon completion, Genetron Holdings Ltd was to be delisted from Nasdaq.
BOIRON DEVELOPPEMENT TO ACQUIRE 30% STAKE IN BOIRON SA FOR US$288.1M
Boiron Developpement, a unit of Boiron Family Group, intended to launch a tender offer for the remaining 30.1% stake or 5.281 mil ordinary shares, which it did not already own, in Boiron SA, a Messimy-based manufacturer of pharmaceutical preparation, a unit of Boiron Family Group, for EUR 50 (USD 54.555) in cash per share, or a total 264.058 mil (USD 288.113 mil).
TAWASOL HLDG FOR FINL INVESTS TO ACQUIRE 74% STAKE IN ALEXANDRIA MED SVCS CO SAE FOR US$25.9M
Tawasol Holdings for Financial Investments planned to acquire the 74.08% stake or 10.57 mil ordinary shares, which it did not already own, in Alexandria Medical Services Co SAE, an Alexandria-based hospital operator, a unit of Abu Dhabi Commercial Bank PJSC, owned by Abu Dhabi Investment Council, for EGP 38.09 (USD 2.446) in price per share, or a total value of EGP 402.797 mil (USD 25.87 mil).
AUGMENT INVESTMENTS ACQUIRES 0.94% STAKE IN OTCPHARM PAO FOR US$4.7M
Augment Investments Ltd of Cyprus completed a mandatory tender offer to acquire the remaining 0.935% stake, or 1.359 mil ordinary shares, which it did not already own, in OTCPharm PAO, a Moscow-based manufacturer of pharmaceutical preparation, for RUB 202 (USD 3.489), or a total value of RUB 274.618 mil (USD 4.743 mil).
SHANGHAI MODERN PHARM CO LTD ACQUIRES 30% STAKE IN JIAOZUO RONGSHENG PHARM CO LTD FOR US$49M
Shanghai Modern Pharmaceutical Co Ltd acquired the remaining 30% stake, which it did not already own, in Jiaozuo Rongsheng Pharmaceutical Co Ltd, a Jiaozuo Rongsheng Pharmaceutical Co Ltd, a manufacturer of pharmaceuticals, and a majority-owned unit of Shanghai Modern Pharmaceutical Co Ltd, from Li Xiaoxiu (10.517%), Shen Guiying (9.276%), Shen Yunqing (1.909%), Li Daping (1.847%), Cheng Maili (1.748%), Wang Xianzhi (1.338%), Dong Baoan (1.18%), Jin Yuxin (1.185%), and Gao Xianze (0.999%), for CNY 300 mil (USD 48.956 mil) in cash.
Concluson
Sun Pharma's acquisition of Taro positions them as a major player in the US pharmaceutical market. This strategic move offers exciting opportunities, but also presents challenges.
On the positive side, the combined entity will hold a leading position in the US and Canadian markets, particularly in niche dermatology and topical products. This aligns with Sun Pharma's global expansion strategy and has the potential to optimize costs, improve profitability, and fuel future investments. Additionally, the pharmaceutical industry is expected to experience significant growth, driven by the increasing need for solutions to address chronic and lifestyle-related diseases.
However, challenges exist. Concerns about regulatory hurdles arise due to Taro's past legal issues and the highly regulated nature of the industry. The high acquisition cost, potential dilution of earnings, and integration challenges could negatively impact Sun Pharma's short-term profitability. Ensuring consistent high-quality manufacturing and navigating potential cultural and strategic clashes could lead to delays and impact Sun Pharma's reputation and market trust.
In conclusion, despite the challenges, the merger presents a promising opportunity for both companies. If successful, this deal could consolidate the pharmaceutical industry and benefit shareholders with a diversified and strong company well-positioned for global expansion and product diversification. However, careful mitigation of the identified risks is crucial to ensure the long-term success of this ambitious acquisition.
Sources
MergerLinks. (2024, January 17). Taro Pharmaceutical. Service Providers. https://app.mergerlinks.com/transactions/2024-01-17-taro-pharmaceutical/service-providers
PR Newswire. (n.d.). Taro Announces Merger Agreement with Sun Pharma. https://www.prnewswire.com/news-releases/taro-announces-merger-agreement-with-sun-pharma-302037499.html
Invest India. (n.d.). Pharmaceuticals. https://www.investindia.gov.in/sector/pharmaceuticals
India Brand Equity Foundation. (n.d.). Indian Pharmaceuticals Industry Analysis Presentation. https://www.ibef.org/industry/indian-pharmaceuticals-industry-analysis-presentation
Goldman Sachs. (n.d.). Pharmaceutical Companies Have $700 Billion for Acquisition. https://www.goldmansachs.com/intelligence/pages/pharmaceutical-companies-have-700-billion-for-acquisition.html
Taro. (n.d.). Taro. https://taro.gcs-web.com
Sun Pharma. (n.d.). Investors - Annual Reports & Presentations. https://sunpharma.com/investors-annual-reports-presentations/
www.justice.gov. (2021). Pharmaceutical Companies Pay Over $400 Million to Resolve Alleged False Claims Act Liability for Price-Fixing of Generic Drugs. https://www.justice.gov/opa/pr/pharmaceutical-companies-pay-over-400-million-resolve-alleged-false-claims-act-liabilityÂ
The past five-year earnings decline for Taro Pharmaceutical Industries (NYSE:TARO) likely explains shareholders long-term losses https://www.nasdaq.com/articles/the-past-five-year-earnings-decline-for-taro-pharmaceutical-industries-nyse:taro-likely
Hindu Business Line. Sun Pharma and Taro announce merger agreement https://www.thehindubusinessline.com/companies/sun-pharma-and-taro-announce-merger-agreement/article67751138.ec
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