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Viatris Explained – Brief Overview
I posted a detailed note to Seeking Alpha on Viatris (NASDAQ:VTRS) back in January, discussing many aspects of the company and calling its stock one of the most polarizing investment opportunities in Pharma. To summarize:
- Viatris was formed in 2020 via a merger between New York Pharma giant Pfizer’s (PFE) Upjohn legacy asset division, and Netherlands headquartered generic drug giant Mylan;
- The company serves ~1bn patients globally every year in ~165 different countries, has ~30 manufacturing sites, and ~33k staff;
- ~65% of Viatris revenues are derived from its Established Brands division, which includes highly successful, but now patent expired drugs such as Viagra, Lyrica, Lipitor, Celebrex, and Epi Pen, which continue to drive revenues in the triple-digit millions.
- The remainder comes from the generics business – ~32%, and complex generics business, 4%;
- Viatris is a heavily indebted company, reporting $17.5bn of debt outstanding as of Q1’24;
- Viatris’ revenues have fallen in each of the past two years, 2022, and 2023, and look set to do so again in 2024, albeit marginally.
- Viatris is a profitable company – forecasting for free cash flow of $2.3bn – $2.7bn in 2024, or adjusted earnings per share (“EPS”) of $2.7 – $2.85
- Viatris’ drug development pipeline is focused on three core areas – Eye Care, dermatology, and gastrointestinal.
Finally, Viatris pays an attractive dividend, currently $0.12 per quarter, which yields ~4.5% based on current price of $10.6 per share.
Conundrum Faced By Viatris Investors – Part 1: Falling Brands Revenues
In my last note, I also discussed Viatris investors’ conundrum, which I will revisit here, adding some updated information taken from Q1 2024 earnings announced in May.
It can be summarized as follows – Viatris’ total annual revenues are ~$15.5bn per annum, but falling slightly, while total debt stands at ~$17bn, and market cap valuation (at the time of writing) is $12.7bn – at a high level, do these numbers make the bull case, or the bear case?
Viatris’ Established Brands division is like a melting iceberg – once mighty, but shrinking in size, with little prospect of regeneration – these are older generation drugs that still sell well globally, but are on a permanent downtrend.
For example, across the four regions Viatris breaks down revenues for – brands revenues fell (4%) year-on-year in Q1 2024 in developed markets, to $1.18bn, by (7%) in emerging markets, to $404m, by 3% in Japan, Australia and New Zealand (“JANZ”), to $184m, and by 4% in Greater China, to $542m.
As such, although Viatris trades at a forward price to sales ratio of <1x – 2024 revenue guidance was downgraded by management in Q1, to $14.98bn – $15.48bn – making its stock seem attractive, the fact that revenues are shrinking – they are set to fall by ~1% year-on-year in 2024 – is unattractive to investors, especially when there is no way to revive sales of its older, yet still biggest selling brands.
For context, sales of Lipitor, Norvasc, Lyrica, and Viagra, fell to, respectively, $389m, $176m, $114m, and $101m in Q1 2024, down by 7%, 13%, 21%, and 12% respectively year-on-year.
Conundrum Faced By Viatris Investors – Part 2: Generating Growth
No matter how low a company’s price to sales ratio is, or its price to earnings ratio, if your topline revenues shrink each year, the market will be unwilling to buy your stock. Therefore, it is important that Viatris finds ways to offset falling brands’ revenues with new product launches, but as I have written before, it is not so easy to find the next Viagra, or Lipitor.
In fact, to date, Viatris management has done more trimming of the business than growing. The company shocked investors back in 2022 by selling its biosimilars business to Biocon Biologics, albeit retaining a 15% stake in Biocon itself. Thought to be one of the most promising growth divisions, the market responded by dumping Viatris stock, which fell from $15, to $10, overnight, and has never really recovered.
Nevertheless, the divestitures continue – Women’s Healthcare and Viatris’ Active Pharmaceutical Ingredients (“API”) business have both been sold in the past quarter, which explains the 2024 revenue downgrade when announcing Q1 earnings. In October 2023, the company announced it was selling a chunk of its over-the-counter (“OTC”) business, to France-based Cooper Consumer health, a deal that involves 6k staff, and numerous manufacturing sites.
The Cooper deal is apparently worth ~$2.17bn, with $1.2bn netted from the Women’s Healthcare and API deals, and in total, Viatris says:
The gross proceeds to the Company from all divestitures under the terms of the agreements are up to $6.94 billion, or up to approximately $5.2 billion in estimated aggregate net proceeds, taking into consideration taxes and other costs, including related transaction costs
Shareholders and investors may feel differently, believing they were buying a growing company, not a shrinking one, although management could point out that the debt pile has been shrunk from $25.1bn in Q4 2020, to $17.5bn in Q1 2024, as sign progress is being made.
In February 2023, Viatris appointed Scott Smith, formerly President and Chief Operating Officer at Celgene Corporation, as its new CEO. I believe the new CEO clearly feels that a strategy of clearing out much of the dead wood in Viatris’ portfolio, and using the funds to pursue M&A deals of his own choosing is the right strategy to pursue, even if it means revenues falling in the short term.
Smith has already begun to make some of those M&A deals, this year agreeing to buy two drugs from the Swiss based Pharma company Idorsia, selatogrel and cenerimod, the former “a potential life-saving self-administered medicine for patients with a history of acute myocardial infarction (AMI), or heart attack”, and the latter a daily pill indicated for lupus, in a deal worth $350m.
Speaking at the Goldman Sachs Annual Healthcare Conference this week, Smith suggested that both assets could become “blockbuster” (>$1bn revenues per annum) selling assets, and also outlined some of his plans around finally sparking some growth at Viatris. He told the audience:
we have been delivering $450 million, $550 million for the last 3 years in new product revenue, and we see a line of sight to continuing that ’24, ’25, ’26 and beyond and that sort of stabilizes the base business erosion.
We believe that we’re going to be adding more new products than the base business erosion on a going-forward basis. So that’s a great, stable sort of base to build off of and then adding sort of longer, innovative, stickier revenue streams to that can really then help move us away from low single digits and beyond and really accelerate growth as we move forward here, that’s the revenue growth, that’s the plan.
As discussed above, the new CEO’s strategy appears to be, sell off the dead wood, and employ strategic M&A to acquire promising late stage assets that can be immediately revenue accretive to offset lost brands revenues and enable the business to grow. As Smith puts it:
what I’m looking for is sort of relatively derisked assets. I’d like them to be at minimum through proof-of-concept and in Phase III, even better if they’re through Phase III and have registrational data, even better if they’re filed and pending registration.
So we’re not looking to do science experiments. We’re not looking to do early drug development here. We’re focused on late stage relatively derisked assets that we think have a good chance of making it over the line.
Conundrum Faced By Viatris Investors – Part 3: Debt & Reward
Having realized >$6bn of cash through business divestitures, and spent only $350m recently on M&A, investors in Viatris may still take some persuading that CEO Smith’s strategy is genuine, and can be successful.
One thing investors may not be complaining about is the amount of capital being returned to them – $393m in Q1 2024, the company reports, in the form of $143m of dividends, and $250m of share repurchases.
Then again, perhaps investors would prefer the money was reinvested into the business to generate much needed growth. Furthermore, there remains $17bn of debt to pay down, a colossal sum, even for a business generating >$565m of cash flow per quarter.
Having inherited a global manufacturing and distribution infrastructure, it may not be surprising that Viatris generates good margins, but as it brings new products through, will they be able to match the margins of Viagra, Lipitor and the rest of the older brands? It may be worth noting that Viatris free cash flow reported in Q1’23 was $923m, so FCF actually fell nearly 40% year-on-year in Q1 2024.
To have such a debt burden puts massive pressure on management to make good deals – the strategy to date feels a little scattergun: sell a chunk of the business off here, pay down some debt there, and hope that the books balance at the end of the day, but if you keep following that strategy, you will end up at net zero, and if you make a bad investment, suddenly, the numbers no longer work in your favor.
Some of the assets Viatris has highlighted as leading the company towards growth may be struggling to meet management’s ambitious targets. For example, on the Q1 2024 earnings call, one analyst pointed to ~$80m revenues for Tyrvaya, a dry eye disease therapy management believes will become a blockbuster seller by 2028. Management responded by insisting that its target of generating free cash flow of ~$2.3bn on a long-term basis is not under threat.
If targets are missed and debt becomes too onerous, however, Viatris must protect its investment grade debt rating, which may mean cutting the dividend, or selling off more of the business.
Conclusion – What Does The Future Have In Store For Viatris & Its Shareholders?
Spinoffs by their very nature tend to begin life in a disadvantageous position. Assets are spun out of the parent business primarily because they are no longer wanted, because they are no longer patent protected, or because their sales are in terminal decline. Parent companies usually benefit from tax breaks, while saddling the spin-off with a huge chunk of debt.
The pay-off is the spin-off will begin life with an absurdly low market cap valuation, or rather, a valuation that reflects the fact the market believes the business is going to shrink substantially, and has been left to fend for itself in an unforgiving business environment.
For that reason, however, spin-offs can attract experienced dealmakers in leadership roles, because they usually generate plenty of cash, and can be broken up and sold off, realizing even more cash, with which to make strategic M&A deals.
All of these things are true of Viatris, it seems to me, plus the fact that the business usually tries to appease disgruntled investors with generous dividend payouts and share buyback schemes. But does this make such companies good investment opportunities, or bad?
As an investor who bought Viatris stock back in 2021, I have no intention of selling my holding at this time, as I still believe the numbers – ~$15bn revenues, ~$17bn debt, and a market cap valuation of $12.7bn, work marginally in favor of the company, especially given that little of the debt is short term, and the interest rates on the debt are not too onerous (see my previous post).
Viatris says it has >25 products in its novel and complex products pipeline, and >50 products in its complex injectables pipeline, and with M&A on top, I would support management’s assertion that it can reverse the trend of falling revenues and begin to generate growth, utilizing its global infrastructure to successfully grow new product revenues and drive high margins.
I would stop short of providing a “buy” recommendation, however, because to date, management has shown itself to be more adept at selling chunks of the business than successfully augmenting its value with strategic M&A. That is the trend I hope to see reverse long term, but until there is concrete evidence of this, the jury is still out on the new CEO, in my view.