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European Pharmaceuticals
Will large-cap pharma continue
to acquire generics players?
Mark Purcell
Research Analyst
(+44) 20 754-76522
mark.purcell@db.com
Holger Blum, DVFA
Research Analyst
(+49) 69 910-31912
holger.blum@db.com
Abhay Shanbhag
Research Analyst
(+91) 22 6658 4035
abhay.shanbhag@db.com
Recent generic acquisitions by large-cap pharma could well start a trend
As large-cap pharma fights over emerging market opportunities, OTC and generics
franchises could provide enhanced market access and the ability to drive brand
differentiation. Our screen suggests companies such as Stada, Cipla, Dr Reddy's,
Pharmastandard, Lupin and Aurobindo could offer attractive fits for pharma.
Deutsche Bank AG/London
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DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1
Sector Strategy
Top picks
Roche Holding AG (ROG.VX),CHF175.20 Buy
Bayer (BAYG.DE),EUR52.08 Buy
Stada Arzneimittel AG (STAGn.DE),EUR45.40 Buy
Smith & Nephew (SN.L),GBP571.50 Buy
David M Steinberg
Research Analyst
(+1) 415 617-3296
david.m.steinberg@db.com
Gergely Varkonyi, CFA
Research Analyst
(+36) 1 301-3748
gergely.varkonyi@db.com
Companies featured
Stada Arzneimittel AG (STAGn.DE),EUR45.40 Buy
2007A 2008E 2009E
DB EPS (EUR) 2.29 2.87 3.55
P/E (x) 19.9 15.8 12.8
EV/EBITA (x) 16.7 12.4 10.3
Zentiva (ZNTVsp.PR),CZK1,137.00 Buy
2007A 2008E 2009E
DB EPS (CZK) 48.24 39.43 44.62
P/E (x) 26.2 28.8 25.5
EV/EBITA (x) 24.4 20.3 18.6
Ranbaxy (RANB.BO),INR525.30 Sell
2006A 2007E 2008E
P/E (x) 30.8 27.3 27.8
EV/EBITDA (x) 23.7 25.4 19.1
Price/book (x) 5.98 6.95 6.32
Cipla (CIPL.BO),INR213.00 Buy
2007A 2008E 2009E
P/E (x) 28.6 23.6 19.4
EV/EBITDA (x) 27.6 24.6 18.0
Price/book (x) 5.68 4.43 3.79
Dr Reddy's Labs (REDY.BO),INR659.30 Buy
2007A 2008E 2009E
P/E (x) 12.0 26.7 16.9
EV/EBITDA (x) 7.3 15.5 9.1
Price/book (x) 3.05 2.54 2.25
Glenmark Pharma (GLEN.BO),INR620.55 Buy
2008A 2009E 2010E
P/E (x) 17.5 18.6 13.0
EV/EBITDA (x) 13.3 14.3 10.0
Price/book (x) 9.05 6.86 4.33
Wockhardt Ltd (WCKH.BO),INR196.65 Buy
2006A 2007E 2008E
P/E (x) 17.1 6.7 4.7
EV/EBITDA (x) 10.0 5.3 3.7
Price/book (x) 3.91 1.74 1.32
Lupin (LUPN.BO),INR655.95 Buy
2007A 2008E 2009E
P/E (x) 13.8 12.9 13.4
EV/EBITDA (x) 9.6 8.7 8.9
Price/book (x) 5.57 3.33 2.83
Aurobindo Pharma (ARBN.BO),INR293.75 Buy
2007A 2008E 2009E
P/E (x) 21.1 8.2 6.4
EV/EBITDA (x) 19.1 10.1 7.6
Price/book (x) 5.12 1.77 1.43
Sun Pharma (SUN.BO),INR1,323.45 Hold
2007A 2008E 2009E
P/E (x) 21.2 23.2 21.6
EV/EBITDA (x) 23.9 18.5 16.9
Price/book (x) 7.05 5.35 4.47
Global Markets Research Company
Generic companies will likely become prey for large-cap pharma
Following Daiichi’s proposed acquisition of a majority stake in Ranbaxy (6th largest
generic by mkt share) and a defensive counter-bid by Sanofi-aventis for Zentiva
(13th largest generic), we believe the acquisition of generic companies by large-cap
pharma will likely continue. In the short-term, a generic acquisition provides
pharma with a hedge against >$70bn of branded revenues expiring 2007-12E.
More importantly over the medium-term as large-cap pharma battles over
emerging market revenues, a generic acquisition can provide market access and
the ability to drive brand awareness. Japanese pharma may well follow Daiichi’s
example of acquiring a generic player to access increased generic utilization in
Japan and new markets. Manufacturing/R&D expertise within generics seems
more likely a driver of collaboration as opposed to acquisition by large-cap pharma,
Which generic companies and combinations appear most attractive?
Generic companies offering attractive valuation and access to fast growing
emerging markets for large-cap pharma include Dr Reddy’s (Buy; INR770 PT) and
Stada (Buy; EU59 PT), with Dr Reddy’s and Cipla (Buy; INR230 PT) offering strong
API manufacturing capabilities. Smaller players such as Bioton, Pharmstandard and
Verofarm offer access to key Eastern Europe markets and Indian players Lupin
(Buy; INR825 PT), Aurobindo (Buy; INR600 PT) and Glenmark offer a large pipeline
of filings and ex-US/EU infrastructure. For Japanese pharma, Dr Reddy’s
represents the closest proxy to the Ranbaxy acquisition by Daiichi and
Lupin/Glenmark Pharma could also provide attractive acquisition targets, although
collaborations with the larger global generic players such as Teva, Sandoz or
Mylan or domestic generic players such as Nippon Chemiphar and Sawai Pharma
may prove more attractive propositions for accessing increased generic utilization
in Japan. Indeed the key question with respect to the Indian generic players is
whether the promoters will be willing to sell their stakes post the Ranbaxy-Daiichi
deal. As the generics industry consolidates in the face of increasing price pressure
and economy of scale challenges, we see Stada, Bioton, Pharmstandard and
Verofarm in Europe, APP Pharma, KV Pharma, Impax Labs, Akorn and Hi-Tech
Pharmacal in the US and Cipla, Dr Reddy’s, Sun Pharma, Glenmark Pharma,
Wockhardt, Lupin and Aurobindo in India as potential acquisition targets.
Assuming 5% multiple expansion, we expect a 16% 12 month return
We expect the EU pharma sector to deliver 8% EPS growth through 2007-09E,
supported by a 3% dividend yield. On the assumption of 5% multiple expansion,
we project a total return of 16% on a 12 month basis. Our growth discount
modeling and CROCI analysis suggest that the sector is attractively valued; thus
despite challenging fundamentals, we reiterate our modest overweight view.
Table of Contents
Rationale for generics acquisitions by large-cap pharma ..........................................................3
Relative growth outlooks, valuation and attraction............................................................4
Consolidation within the generic industry itself ................................................................5
Large-cap pharma and the rationale for generic acquisitions....................................................7
Pressures mounting on pharma model whilst early stage pipelines build ........................7
OTC and generic medicines could provide access and leverage in emerging markets ....7
Recent generic acquisitions provide access, franchise leverage and diversification for
large-cap pharmas.............................................................................................................7
Outlook for the generics market ...............................................................................................8
Which generic companies could be most attractive to pharma? ..............................................9
Acquisition opportunities in Indian generics....................................................................10
Acquisition opportunities in Eastern European generics.................................................13
DB top-picks in generics .........................................................................................................15
Stada investment thesis..........................................................................................................17
Outlook ...........................................................................................................................17
Valuation .........................................................................................................................17
Risks ...............................................................................................................................17
Dr Reddy’s investment thesis.................................................................................................19
Outlook ...........................................................................................................................19
Valuation .........................................................................................................................19
Risks ...............................................................................................................................19
Aurobindo Pharma investment thesis .....................................................................................21
Outlook ...........................................................................................................................21
Valuation .........................................................................................................................21
Risks ...............................................................................................................................21
Wockhardt investment thesis .................................................................................................23
Outlook ...........................................................................................................................23
Valuation .........................................................................................................................23
Risks ...............................................................................................................................23
Cipla investment thesis...........................................................................................................25
Outlook ...........................................................................................................................25
Valuation .........................................................................................................................25
Risks ...............................................................................................................................25
Lupin investment thesis..........................................................................................................27
Outlook ...........................................................................................................................27
Valuation .........................................................................................................................27
Risks ...............................................................................................................................27
Teva investment thesis ...........................................................................................................29
Outlook ...........................................................................................................................29
Valuation .........................................................................................................................29
Risks ...............................................................................................................................29
Zentiva investment thesis .......................................................................................................31
Outlook ...........................................................................................................................31
Valuation .........................................................................................................................31
Risks ...............................................................................................................................31
Important Disclosures.....................................................................................................32
Important Disclosures Required by U.S. Regulators .......................................................32
Important Disclosures Required by Non-U.S. Regulators ...............................................32
Analyst Certification ........................................................................................................32
Regulatory Disclosures ...................................................................................................36
SOLAR Disclosure...........................................................................................................36
Disclosures required by United States laws and regulations ..........................................36
The following are additional required disclosures: ..........................................................36
Additional disclosures required under the laws and regulations of jurisdictions other than
the United States ............................................................................................................36
Rationale for generics acquisitions by large-cap pharma
Whilst the world pharmaceuticals market is projected to grow 4-7% 2007-12E, the generics
market is expected to deliver 9-12% growth over this period reflecting the patent expiration
of >$70bn of revenues in the US and EU top-4. Cost pressure in healthcare systems is driving
increased generic penetration and therapeutic substitution is threatening some primary care
models, so in the short-term it is easy to see how a generic acquisition could provide a hedge
against these trends for pharma. However for the larger pharma players, this alone cannot
justify an acquisition strategy given the relative scale of the generic companies with Sandoz,
for example (clear No.2 in generics with 16% market share), representing just 13% of
Novartis operating profits. We believe that there are at least four other important factors at
play which could encourage generic acquisitions by large-cap pharma:
(1) Emerging market brand building – we believe that a generic product portfolio can drive
brand awareness in fast-growing emerging markets over the medium-term, which are
universally recognized by and will become fierce battle grounds for the global pharma
majors. In markets such as Russia and Poland, generics represent 60-65% of the market
by value emphasizing their current importance.
Generic companies with a strong, broad emerging markets presence include Ranbaxy,
Dr Reddy’s and Sun Pharmaceuticals. Leading Eastern European generic players include
Actavis, Zentiva (Czech), Krka (Slovenia), Bioton (Poland), Pharmstandard and Veropharm
(both Russia). Teva has low Eastern Europe exposure.
(2) Market access – building infrastructure and a presence organically in emerging markets
such as Russia, Poland and Turkey is difficult and acquiring a local generic player can
provide access and revenue synergies (e.g. Sanofi+Zentiva). For pharma companies with
relatively small global footprints, acquisition of the larger generics players can create
critical mass in new markets (part of the Daiichi+Ranbaxy rationale).
Generic players with a broader global footprint include Ranbaxy and Dr Reddy’s, whereas
Stada has a strong presence across Europe with 25% of revenues from Russia and
Eastern Europe. Leading Eastern European players are listed in bullet (1) above.
(3) Japanese generics market – with the introduction of generic substitution of branded
drugs at the pharmacy level and a goal of increasing generic volume share from 17% to
30% by 2012, the acquisition of generic capabilities by domestic Japanese companies
provides a strategy to take advantage of this trend (part of the Daiichi+Ranbaxy rationale)
A number of the Indian generic companies, in particular Dr Reddy’s, could represent
attractive partners for Japanese pharma, including the smaller but rapidly expanding
operations of Glenmark Pharmaceuticals, Wockhardt, Lupin and Aurobindo. Alternatively,
domestic plays such as Nippon Chemiphar, Nichi-Iko Pharmaceutical and Sawai
Pharmaceutical could provide Japanese pharma with a generic infrastructure or
collaborations could be made with companies such as Mylan, which through its
acquisition of Merck kGAa’s generics business has a significant presence in Japan.
(4) Manufacturing and R&D expertise – a number of the leading generic players, particularly
in India, offer strong Active Product Ingredient (API) manufacturing capabilities, an
increasing focus of out-sourcing for large-cap pharma facing patent expiration to major
brands (AZN Nexium deal with Ranbaxy). In addition, generic players such as Ranbaxy
and Glenmark are increasingly building proprietary drug development capabilities in both
small molecule and biologics which could provide R&D synergies with large-cap pharma.
Generic players with attractive API manufacturing capabilities include Ranbaxy, Cipla, Dr
Reddy’s, Sun Pharma, Lupin and Aurobindo.
Relative growth outlooks, valuation and attraction
Generic companies offering attractive valuation and access to fast growing emerging markets
include Stada (strong in Germany and Eastern Europe), Zentiva (Sanofi-aventis bid target) and
Dr Reddy’s (strong API, broad sales platform), with smaller players such as Bioton,
Pharmstandard and Verofarm providing growth opportunities largely in Eastern Europe. We
believe these companies are attractive to large-cap pharma and leading generic players alike.
Sun Pharma has an attractive emerging markets platform and API capability, but is more
expensive than Cipla/Dr Reddy’s on a 5 year view. Lupin (strong filings pipeline; access to
Japan, CIS and Middle East), Glenmark (strong filings pipeline; proprietary drug development
capability) and Aurobindo (large pipeline of filings but significant dilution potential in 2011)
have a smaller sales base but attractive valuations and are therefore perhaps more attractive
to leading generic players. Specifically for large-cap EU pharma, acquiring assets such as
Pharmstandard and Verofarm along the same rationale as the Sanofi-aventis+Zentiva tie-up
perhaps makes the most strategic sense.
In terms of Japanese pharma companies seeking a generic player with a broad global
footprint and product offering to simultaneously expand outside Japan and increase exposure
to the Japanese generics market, Daiichi’s planned acquisition target Ranbaxy appears to
represent the most attractive asset closely followed by Dr Reddy’s which has a US/EU/RoW
sales split of 44%/23%/34%. Of the smaller generic players, Lupin boosted by the
acquisition of Kyowa in Japan screens well from a growth/new product opportunity as does
Glenmark Pharmaceuticals, but our analysis suggests that collaborations with leading global
generics players such as Teva, Sandoz and Mylan or deals with domestic generic players are
equally if not more likely for Japanese pharma.
With respect to large-cap pharma gaining access to API manufacturing capacity, Ranbaxy,
Cipla, Dr Reddy’s, Lupin and Aurobindo all screen well from a valuation perspective. However
we question the rationale for large-cap pharma having to acquire as opposed to collaborate
with these companies as a means of gaining access to leading API capacity and out-sourcing
manufacturing for established/mature brands.
The other key question with respect to the Indian generic players is whether the promoters
will be willing to sell their stakes akin to Ranbaxy. Ranbaxy believes that a wave of
consolidation will hit low-cost Indian drug makers over the next three years as companies
seek global scale to survive, through either domestic M&A or deals with foreign companies.
We believe promoters will feel increasing comfortable selling to a large non-domestic
branded company if they obtain a good premium and a strengthened business outlook in-line
with the Daiichi-Ranbaxy deal.
Consolidation within the generic industry itself
As discussed in his 19 June report “Who’s Next?”, David Steinberg argues that pricing
pressure arising from more competitive capacity utilisation and the advent of “authorised
generics” from large-cap pharma has created a more challenging macro environment for the
generic sector. The larger generic players have built bigger and more diversified revenue
bases, as well as economies of scale with wholesaler and distributors, in part through
acquisitions, which has increased the pressure on the smaller incumbents.
In the US, David highlights Barr Laboratories, the largest US-based generic company (in
terms of market value), as a potential take-over candidate. He also highlights the two
remaining independent generic injectable companies, APP Pharmaceutical and Akorn, as well
as several smaller more specialised generic players including KV Pharmaceutical (expertise in
controlled release generics and women’s health products), Impax Labs (a leading controlled
release generics participant) and Hi-Tech Pharmacal (ophthalmics and liquid dosage forms) as
potential takeover candidates. David sees the most likely generic consolidators as Teva,
Sandoz, Barr Laboratories and Watson Laboratories. Daiichi’s acquisition of Ranbaxy could
reignite the interests of large generic players in the API manufacturing capabilities of
companies such as Dr Reddy’s, Cipla and Sun Pharmaceuticals. Further with Stada emerging
as a winner from the structural changes in the German generic market and gaining critical
mass in Eastern Europe, it could also be an appealing take-over candidate.
Large-cap pharma and the rationale for generic acquisitions
Pressures mounting on pharma model whilst early stage pipelines build
We believe that an increasing number of large-cap pharma majors will contemplate
diversification away from a traditional pure-play prescription pharmaceuticals model into
areas such as consumer healthcare and generics for two main reasons: (1) top-line
preservation through the much vaunted 2010-12 patent expiration cliff; (2) driving brand
awareness over the medium-term in fast-growing international markets where the switch
from generic/OTC medicines to prescription pharmaceuticals will continue to expand
progressively. Whilst phase I/II pipelines continue to build strongly for large-cap pharma, this
has not translated into a growing phase III/pre-registration pipeline and visibility associated
with R&D productivity will take time to emerge. Far more visible in the near-term is the
potential for additional pricing pressure particularly in the US, where $44bn of US revenues
are set to expire 2010-12E, with the indirect consequence of increasing therapeutic
substitution in categories such as hypertension and statins. Between 2010-15, we estimate
that US and EU pharma will face generic erosion to c.39% and c.27% of group sales,
respectively, fuelling continued strong growth in generics.
OTC and generic medicines could provide access and leverage in emerging markets
Whilst most large-cap pharma companies have identified emerging markets as a key priority
where the global leveraging of brand should provide strong growth opportunities, as this
strategy is increasingly adopted brand differentiation will become ever more competitive.
With the utilisation of OTC and prescription products somewhat blurred in developing
markets, establishing brand recognition and building franchise leverage through consumer
products will provide companies such as GSK, Novartis, Bayer and J&J with a key advantage.
Likewise offering a generic and branded prescription medicine side-by-side could also drive
brand and franchise acceptance, particularly in markets such as Russia and Poland were
generics represent 60-65% of the pharma market by value. With international efforts by
governments, including most recently Japan, to promote generics to cut healthcare expenses
and the recognition that generics could provide access and infrastructure to markets such as
Eastern Europe, this trend could provide a competitive boost for Novartis.
Recent generic acquisitions provide access, franchise leverage and diversification for
large-cap pharmas
Therefore Reuters commentary (12 June) that both GSK and Pfizer were interested in
acquiring Ranbaxy do not surprise us, with the Indian generics industry offering not only API
manufacturing expertise and a large low-cost product basket, but also the ability to build an
integrated generics business for emerging/international markets over the medium-term and a
partial hedge against the 2010-12 patent expiration cliff in the US/Europe in the shorter-term.
Clearly for Daiichi, adding Ranbaxy’s generics business to its prescription and OTC franchises
provides a strategy that takes advantage of ongoing liberalisation of the Japanese generics
market, leverage through its own distribution capabilities and longer-term allows
diversification away from the patent expiration of its key hypertension franchise in 2016. The
combination also provides expanded global reach and productivity improvement
opportunities in R&D and manufacturing.
Sanofi's planned bid for Zentiva to gain additional access and infrastructure in markets such
as Turkey, Czech Republic, Russia and Poland where building a presence organically is
difficult further showcases the strategic value a generic business could drive. Whilst Sanofi
already owned 24.9% of Zentiva and claimed to be benefiting from the collaboration, its hand
was forced by a bid by financial group PPF; at this stage it is unclear whether Sanofi will be
able to convince minorities to tender (only 44.7% of Zentiva is held by institutions and private
investors). Potential synergies of the deal include the global distribution of Zentiva generics
and the promotion of Sanofi-aventis products in Eastern Europe by the 2,300 Zentiva reps.
Outlook for the generics market
The world pharmaceuticals market is projected to grow 4-7% 2007-12E according to IMS
Health, driven by increased life-expectancy demographics, product innovation and improving
economics in emerging markets. Relative to this the world generics market is estimated to
grow by 9-12% over this period (EU78bn 2007 to EU120-137bn 2012E), fueled by the patent
expiration for a number of leading prescription drugs and increasing generic penetration due
to cost pressure in healthcare systems. As stated above, we estimate that $44bn of US
revenues will lose patent protection 2010-12 and over the same period in Germany, UK,
France and Italy (which account for 54% of the EU population), $10bn of revenues will face
generic competition.
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