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Drugmaker On Buying Spree: Perrigo Can Grow With Elan

By: Investor's Business Daily
Posted: 11/12/2013 3:45:00 PM
Referenced Stocks: ELN;KR;PRGO;WAG;WMT

Perrigo Co. actively plays the acquisition game, targeting buys that build on its strong position as a generic prescription and store-brand over-the-counter drugmaker.

Recent buyouts include last year's purchase of Sergeant's Pet Care Products, focused on OTC animal health care, and the 2013 acquisition of a Fera Pharmaceuticals product portfolio of prescription ophthalmic ointments and solutions.

These acquisitions fit in well withPerrigo 's ( PRGO ) lineup. In addition to making and distributing OTC and generic prescription pharmaceuticals, Perrigo also makes nutritionals such as store-brand infant and toddler formula. Active pharmaceutical ingredients are also a part of the company's lineup.

White-Label Giant

Perrigo is the world's largest maker of OTC pharmaceutical products for the store-brand market, where its products carry the names of customers such asWal-Mart Stores ( WMT ),Walgreen ( WAG ) andKroger Co. ( KR )

The latest deal on the table would take Perrigo into new territory. In July, it agreed to buy Dublin-based biotechElan Corp. ( ELN ) in a cash-and-stock transaction valued at approximately $8.6 billion, or $6.7 billion net of the $1.9 billion in cash Perrigo will receive from the Elan balance sheet.

The deal brings a lot to the table: "It establishes a platform for further international expansion, further diversifies our business, and strengthens our financial profile," Perrigo CEO Joseph Papa said on a conference call outlining the buy.

Elan's business portfolio includes royalties from the blockbuster multiple sclerosis drug Tysabri, which is now marketed and distributed by biotech drugmakerBiogen Idec (BIIB).

Perrigo will receive an escalating royalty stream from Tysabri, a rapidly growing high-margin product with $1.6 billion in annual revenue.

Tysabri Royalty Succession

Elan currently earns a 12% royalty on Tysabri global net sales. From May 1, 2014, onward, the royalty increases to 18% on annual net sales up to $2.0 billion and rises to 25% on annual net sales above this amount.

Perrigo expects the acquisition to be at least 10 cents accretive to the adjusted earnings per share of stand-alone Perrigo in its current 2014 fiscal year, and between 70 cents and 80 cents accretive in fiscal 2015, including synergies.

The company estimates it will realize more than $150 million annually in savings on after-tax operating expenses and taxes as a result of this combination.

The proposed deal, which has been approved by both companies' boards, is expected to close by the end of 2013 subject to regulator approval. Perrigo will hold a shareholder meeting Nov. 18 to seek stockholders' OK.

At the close of the deal, the two companies will be combined under a new company -- New Perrigo -- incorporated in Ireland. It will be led by Perrigo's executive team.

Perrigo expects the Irish domicile to reduce its tax rate from about 30% to the high teens, according to comments on the company's fourth-quarter conference call.

Stifel Nicolaus analyst Annabel Samimy sees several deal benefits.

"The Elan acquisition offers Perrigo a good platform to continue its strategy, and importantly, expand its geographies," she said. "It has an international presence, but it hasn't been extensive. They want to take their formula that worked so well in the U.S. and broaden it out to Europe."

Traveling For Taxes

Perrigo currently operates primarily in the U.S., U.K., Mexico, Israel and Australia, as well as certain other markets including Canada, China and Latin America.

Once the deal is closed and the new company is domiciled in Ireland, it gives Perrigo a "great new tax jurisdiction," Samimy said. "From that point forward, whatever acquisition they make or new product they file will be from the new Irish-domiciled entity with a more favorable tax structure."

Elan also stands to bring a "sustainable revenue stream" from Tysabri royalty contributions of $300 million to $400 million a year, she says.

Elan also can serve as a "financial tool" for Perrigo, Samimy added, where, if Perrigo finds a better investment letting it generate a higher rate of return, the Elan royalty stream can be monetized.

Morningstar analyst Michael Waterhouse says Perrigo is acquiring Elan for "financial structuring reasons to get a lower tax rate."

"There are no inherent operational synergies between the businesses," he said. "They're in completely different industries. Elan has a royalty stream from Tysabri and two products in the pipeline. If I had to guess, they would probably divest most of the assets they receive from Elan once the deal closes."

In a report, Waterhouse noted the acquisition follows a "familiar strategy" used by other specialty drug companies, such asValeant Pharmaceuticals (VRX) and Actavis, to lower tax liabilities through tax restructuring deals.

"Following the transaction, Perrigo estimates its tax rate will move to the high teens, and we estimate the majority of the $150 million in annual cost synergies will stem primarily from tax benefits," he wrote. "We expect Perrigo may eventually divest the royalty streams it will receive from Elan. As a generic pharmaceutical manufacturer, we doubt Perrigo will utilize Elan's assets as a launching pad for future biotech drug development."

Meanwhile, Perrigo is faring well with its current lineup. It's logged both double-digit sales and profit growth in all but three of the past 14 quarters. In the most recently reported quarter -- its first quarter of fiscal 2014 -- earnings rose 20% to $1.52 a share. Sales popped 21% to $933.4 million. Both sales and earnings beat analysts' views.

Every segment saw double-digit organic sales growth, with 13% consolidated organic revenue growth, Papa said in a statement.

Recent buys, including the Sergeant's deal, and new product sales of $54 million contributed to the strong revenue growth.

Analysts polled by Thomson Reuters see full-year earnings for fiscal 2014 rising 18% to $6.60 a share. They forecast a 20% increase in its 2015 fiscal year.

Perrigo is benefiting from the consumer's quest for value and more affordable health care, analysts say. And Waterhouse notes that the company is seeing benefits from acquisitions such as the Sergeant buy and the 2010 purchase of PBM Holdings, the world's largest manufacturer and marketer of infant formulas for the store-brand market.

Three Product Pillars

Perrigo's biggest revenue generator is its Consumer Healthcare segment at close to 60% of sales, which includes Perrigo's OTC store-brand lineup. Major product categories include analgesics, gastrointestinal treatments and smoking cessation products.

Store brands sell for prices far less than national brands.

The Rx Pharmaceuticals segment makes generic prescription drugs primarily for the U.S. market. The portfolio is mainly "extended topical" and "specialty," which encompasses a broad array of topical dosage forms such as creams, ointments, lotions, gels and shampoos.

The Nutritionals segment makes and distributes store-brand infant and toddler formula products, including foods and vitamins, which Perrigo sells to retailers primarily in the U.S., Canada, Mexico and China. This business markets store-brand products that are comparable in quality and formulation to national-brand products.