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Yesterday's headline from The Wall Street Journal says it all, really. "Health Insurers Plan Hikes." You and I have both felt the effects of increases in the cost of health care, whether it's from higher copays for prescription drugs or higher prices for what we buy and use, as employers try to recoup some of the rising costs of insuring their employees.
Today's 11 O'Clock Stock purchase, Teva Pharmaceutical
Fast facts on Teva
Market capitalization |
$48.8 billion |
Industry |
Pharmaceuticals |
Revenue (TTM) |
$14.8 billion |
Earnings (TTM) |
$2.5 billion |
Dividend yield |
1.4% |
No. of generic drugs, end of 2009 |
>400 in U.S., with >200 awaiting approval >150 in EU, with >240 awaiting approval |
Source: Capital IQ, a division of Standard & Poor's, and company filing. TTM = trailing 12 months.
With the large number of generic drugs it sells in the U.S., Teva filled some 599 million prescriptions last year, roughly 22% of the generic prescriptions written. I expect that number and market share to grow as Teva continues to acquire smaller players -- it wrapped up Barr Pharmaceuticals last year -- and as more big-selling drugs come off patent.
A double opportunity
Here is the second opportunity I mentioned. The big pharma companies are facing what's been dubbed a "patent cliff" over the next several years, as some of their biggest brand-name drugs lose patent exclusivity, allowing generic versions to be sold. Take a look at this list:
Company |
Drug -- 2009 Revenue |
Patent Cliff Date |
---|---|---|
Eli Lilly |
Gemzar -- $1.4 billion Zyprexa -- $4.9 billion Cymbalta -- $3.1 billion |
Nov. 2010 Oct. 2011 2013 |
Pfizer |
Lipitor -- $11.4 billion Xalatan -- $1.7 billion Viagra -- $1.9 billion |
2010 2011 2012 |
Merck |
Cozaar / Hyzaar -- $3.6 billion Singulair -- $4.7 billion |
2010 2012 |
Source: Company press releases and 10-Ks.
That's nearly $33 billion in revenue facing generic competition over the next few years, from this list alone. While that's a big problem for the pharmaceutical companies, it represents a great opportunity for Teva, which we're taking advantage of here. In fact, Teva has already launched generic versions of Merck's Cozaar and Hyzaar.
Investors in Lilly or Pfizer or the others facing the patent cliff have to worry about their companies' replacing the revenue lost when generic competition ramps up. An investor in Teva, however, is playing the other side of that coin.
One way Teva runs up that ramp is to challenge the validity of patents covering specific branded drugs at the same time as it files a generic-drug application with the Food and Drug Administration. If it is the first to file that application, then it gets a 180-day window of being the only generic supplier, which allows it to charge prices just slightly lower than the branded price.
In other words, if it wins the patent challenge and its application is approved, it can achieve essentially the same margins as the branded drug has. An FDA study has shown that the first generic-drug competitor averages about 94% of full-branded price. When two generics are on the market, they average about 52% of the branded price. It's not until the fifth generic hits the market that the average price drops below 33%.
Concerns
As with almost any investment, all is not rosy. Teva also has branded drugs, primarily Copaxone, the biggest seller for treating multiple sclerosis. This will lose patent exclusivity beginning in the spring of 2014. The Sandoz division of Novartis
As Teva expands its branded-drug business, which contributed about 28% to revenue in 2009, this kind of problem will persist. If the company swings strongly toward becoming a branded-drug maker, I'll have to reconsider the investment.
Further, everybody recognizes the importance of generic drugs. Sandoz is the No. 2 generic-drug company and big pharma is moving into the field as well. Teva had to beat Pfizer off with a stick in obtaining German generic-drug company Ratiopharm. So far, it's managed to retain and even grow its No. 1 spot. Right now, I believe that it has the resources to keep it, but if market share begins to slip, I'll also have to reconsider.
Final thoughts
The investment thesis boils down to investing in the No. 1 generic-drug company in the world at a time when many big-selling branded drugs are beginning to come off patent and when many seek to reduce their health-care costs. That combination should lead to growing sales and market share for Teva. While it won't be a barn-burning investment, it should provide a solid performance to anyone's portfolio over the next several years.
Previous recommendations:
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