Even though they operate in completely different sectors, there are multiple similarities between Israeli drug maker Teva Pharmaceutical (NYSE:TEVA) and American conglomerate General Electric (NYSE:GE). GE stock has rallied in the last six months as some investors realized that the company’s death was greatly exaggerated. TEVA stock could undergo a similar process sometime this year. Here’s why.
Teva and GE are both top-notch companies that have fallen on hard times due to unfortunate decisions over the last decade or so. Both have recently been left for dead by many on the Street. But they have underappreciated growth engines and a better chance of surviving and thriving than skeptics have given them credit for.
Teva’s Current Debt Load Looks Manageable
GE’s high debt load caused many pundits and analysts to predict the company’s demise at worst or its stagnation at best. Now many on the Street are making similar predictions about Teva, which also has a large amount of debt. But just as I thought GE had a path to successfully handle its debt, I believe that Teva can also emerge unscathed from its leverage issues.
Teva’s had debt of nearly $27 billion. But, before a recent $1.5 billion debt repurchase, announced in November 2019, it only owed (as of Sept. 30) about $2.5 billion this year, about $4.2 billion in 2021 and only $2 billion in 2022. Teva’s levered free cash flow over the 12 months that ended in September 2019 was $1.77 billion.
In November, Teva said it was using cash and new bonds to repurchase up to $1.5 billion of its 2021 debt. Let’s say it used $500 million of cash (it had $1.24 billion of cash on hand as of Sept. 30) and $1 billion of long-term debt to fund the repurchase. Let’s also assume that its free cash flow last quarter was $500 million and its free cash flow in 2020 and 2021 will come in at $2 billion per year.
Using those assumptions and the Sept. 30 debt figures, its combined 2020 and 2021 debt is now $5.2 billion and its cash remains about $1.24 billion. As a result, it will have enough money to pay down the debt it owes in 2020 and 2021. That’s because, using our assumptions, its $4 billion of free cash flow in 2020 and 2021 and its $1.24 billion of cash add up to $5.24 billion, versus its $5.2 billion of debt.
Of course, Teva will have to issue more long-term debt by 2021, partly because it can’t let its cash drop to zero, and because its free cash flow may not reach $2 billion in 2020 and 2021. Still, its debt load looks manageable in the short term and the medium term.
The Opioid Issue
Another reason Teva will have to issue more debt is its liability for the opioid tragedy. The company already set aside $646 million to pay opioid settlements, but one analyst has estimated that the company’s total liability could exceed $4 billion. I believe that the Street tends to meaningfully underestimate the amount that companies will have to pay to compensate states and municipalities for the opioid crisis. As a result, I would not be surprised if Teva’s total liability reaches $8 billion or $10 billion.
If that scenario unfolds, Teva may not be able to pay off its debt without selling assets. But, like GE, it should be able to raise a significant amount of money through asset sales. In 2015, Teva bought Allergan’s generic drug business for $40.5 billion. Although generic drugs are seen as meaningfully less valuable now than in 2016, Teva should be able to raise $10 billion by selling rights to a number of the generic drugs it bought from AGN.
Teva’s Near-Term Growth Engines
Also, like GE, Teva has multiple, positive growth catalysts. Earlier this month, the company’s CEO, Kåre Schultz, said that actions taken by the Food and Drug Administration had stabilized the supply/demand dynamics of the U.S. generic drug market. He also indicated that the market’s pricing had improved … from Teva’s point of view. As a result, I expect the company’s generics business, whose sales fell 1% year over year in Q3, to grow by a few percentage points YoY going forward.
Moreover, Teva appears to be preparing to enter the biosimilars market in earnest. In November, it launched Truxima, the first biosimilar of Rituxan, a non-Hodgkin lymphoma treatment. Truxima will cost 10% less than Rituxan. Schultz said that Teva can overcome the obstacles to launching biosimilars in the U.S., and he said that Teva can obtain double-digit percentage market share of the biosimilars it launches in America while generating “reasonable” profits from them.
Although most of Teva’s revenue comes from generic drugs, it also develops branded drugs. One of its new branded drugs, Austedo, a treatment for involuntary movements caused by Huntington’s disease, is already growing rapidly. Its sales surged 71% YoY in Q3 to $71 million. Another branded product, Ajovy, a treatment for migraine headaches, only generated revenue of $25 million in Q3 and is facing tough competition from pharma giants Amgen (NASDAQ:AMGN) and Eli Lilly (NYSE:LLY).
But Ajovy is the only drug in the category that only has to be injected once every three months, RBC Capital analyst Randall Stanicky wrote. Moreover, Schultz recently told Israeli business newspaper Globes that he expects Ajovy’s market share to increase “in coming months” once the FDA approves Teva’s application to include an auto-injector with the drug.
Longer-Term Growth Drivers: China and Israel
Teva is entering the massive Chinese market, as it recently launched its branded Treanda drug, a leukemia treatment, in the Asian country, Schultz stated. It’s also filed for approval of Austedo there, he added.
“We will be growing very big in terms of percentages but from a small base, but it will be profitable the whole way. And in five, ten years China hopefully will be a significant part of our business,” the CEO told Globes.
Another potential long-term growth driver is Teva’s home base of Israel. The company has recently decided to put more effort into finding novel drugs being developed by Israeli academics. Since the country is known for its success in drug development, the strategy could meaningfully improve Teva’s drug pipeline in the future.
The Bottom Line on TEVA Stock
Teva is trading at just four times analysts’ average 2020 earnings-per-share estimate. The shares could easily emulate GE stock, with which they have much in common, and rally over the next year. Longer-term investors who are comfortable with some risk should buy Teva stock.
As of this writing, Larry Ramer owned shares of GE.
