Those who do not learn from history are doomed to repeat it. That feels awfully applicable when talking about Teva Pharmaceutical Industries Ltd (ADR) (NYSE:TEVA).
This highly levered, acquisition-focused growth story has come crashing down recently. It is eerily similar to when the highly-levered, acquisition-focused growth story of Valeant Pharmaceuticals Intl Inc (NYSE:VRX) fell apart not too long ago.
As we all know, VRX stock went bust and hasn’t recovered. Is TEVA due for a similar fate?
I don’t think so and here’s why:
Teva Stock has Major Upside in the Long-Term
If you’re not familiar with the story of Teva, let me quickly get you up to speed.
The Israeli-based pharma company is the world’s largest generic drug manufacturer. It became that in 2015 when the company acquired Actavis, the generics arm of Allergan plc Ordinary Shares (NYSE:AGN), for $40.5 billion. But the acquisition put a lot of burden on the balance sheet, which became loaded up with debt. To make matters worse, generic drug prices began to fall due to increased competition and heavy scrutiny from Washington.
Then the company’s CEO left.
Then the dividend got cut by 75% to pay down debt while the 2017 guidance was also cut substantially.
All in all, TEVA stock fell from $70 in 2015 to $17 today. In a nutshell, investors are really concerned by the leverage on the balance sheet, especially against a hazy generics pricing backdrop which doesn’t look too good into the foreseeable future.
But things are starting to look a bit brighter for the pharmaceutical giant.
The company finally has a new CEO in pharma veteran Kare Schultz. Schultz formerly served as CEO of Denmark-based pharma company H. Lundbeck A/S (CPH:LUN), where he did a pretty good job of turning that company around using cost-cutting measures to jump-start profits. Just look at how LUN stock has taken off recently.
Shareholders also recently received positive news regarding the company’s migraine candidate fremanezumab. Phase 3 clinical trial results came back positive. This new drug could provide a huge operational tailwind over the next several years.
With a new CEO and a new drug coming through the pipeline, TEVA stock certainly looks it could be bottoming out. This is especially true if you consider the valuation.
TEVA stock trades at under 4 times this year’s guided earnings of $4.40 per share. Meanwhile, even though pricing dynamics aren’t expected to get better any time soon, the Street still thinks free cash flow will remain in the $5 billion range over the next several years.
The current market-cap is $17.5 billion, which equates to 3.5 times free cash flow.
A 4-times earnings multiple and 3.5-times free cash flow multiple is just far too cheap for any stock. This is especially true for an international generics drug company with sustainable business operations.
Bottom Line on TEVA Stock
This isn’t an immediate rebound story. Don’t expect gains overnight with TEVA stock.
But this is a long-term turnaround story. There is a new CEO who has experience with turning around sinking pharma businesses and there are new drugs in the pipeline with promising potential.
The positive effects of these catalysts will take time to materialize. But once they do, the market will realize that TEVA stock is dramatically undervalued at current levels.
It isn’t without risk, but a long position in TEVA here could yield handsome profits in the long run.
As of this writing, Luke Lango was long TEVA.