At the start of June, fellow Fool Eric Volkman noted that Mallinckrodt PLC (MNK) was considering the sale of its generic drug business for as much as $2 billion. Today, Wall Street research firm Wells Fargo is out with a note saying that the company is considering all of its options, including going private. Are Mallinckrodt's days as a public company numbered?
First, some background
Mallinckrodt is the generic drug business that was spun off by Covidien in 2013. Since then, the company's been transforming itself away from generic drugs to specialty drugs that face less competition and command higher profit margins.
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In 2014, it paid $5.6 billion to buy Questcor Pharmaceuticals to get its hands on H.P. Acthar Gel, one of the planet's priciest drugs. Acthar Gel is used to treat rare immune diseases, including multiple sclerosis, nephrotic syndrome, and rheumatology.
Questcor had acquired Acthar Gel in 2001 for $100,000. At the time, it was a decades-old toss-away drug with limited commercial value. Over the following decade, however, its sales ballooned to over $1 billion per year as prices soared and marketing of it grew across more indications.
In 2014, I noted how the average revenue per vial sold of Acthar Gel had increased to $28,000 from $18,000 in 2011, and as a result, Acthar Gel's 2,500 prescriptions per quarter were producing sales at a nearly billion-dollar pace. Since then, sales have gone even higher. In Q1 2016, Acthar Gel's sales totaled $271.8 million, up 9.4% year over year.
Acthar Gel isn't Mallinckrodt's only specialty drug, either. It also sells Inomax, Ofirmev, and its Therakos immunology platform. In Q1, those products produced sales of $128.4 million, $73.4 million, and $51.2 million, respectively.
Slowing growth
A lot of Mallinckrodt's generics business comes from selling opioid pain killers, and demand for those drugs has been falling as doctors rein in their use because of rising awareness of the opioid epidemic.
Mallinckrodt has also come under fire because of Acthar Gel's pricing. Since it has been available for decades, and its price has climbed significantly over the years, it's little wonder that Mallinckrodt's under the microscope amid a widespread pushback on drug prices.
Unfortunately for investors, sliding opioid sales and scrutiny over pricing have taken a toll on Mallinckrodt's growth rate. Total revenue of $810.9 million in the first quarter fell 0.6% from the same quarter in 2016, and operating income in the quarter was $90.2 million, down from $132.4 million a year ago.
Getting out from under the overhang
Fear of greater declines in opioid demand and the risk of pricing pressure on specialty drugs has been a big weight on Mallinckrodt's share price.
MNK Total Return Price data by YCharts.
Fears have been fueled by short-sellers that have targeted the company after concluding it could struggle to pay its debt if sales head materially lower.
Mallinckrodt responded to short-sellers with assurances it has the operating cash and money in the bank necessary to fulfill its obligations. Operating income was $90 million in Q1, and as of March 31, the company has $279 million in cash and $5.7 billion in long-term debt. Its interest expense was $94 million last quarter.
So far, assurances haven't kick-started the company's ailing share price, and as a result, an argument could be made that investors are too pessimistic about the company's opportunities, including drugs that are advancing in its pipeline.
That view could add credibility to the idea that the company's board of directors is more than willing to explore strategic alternatives, including an outright sale. If the company can find a suitor, or line up financing from private equity to go private, it could focus on its business without suffering the distractions associated with the scrutiny of being a public company. Importantly, such a deal could provide it with additional financing for debt reduction, acquisitions, and R&D, too.
Looking forward
Mallinckrodt could fetch a premium if it can find the right buyer, but there's no guarantee that it'll be able to do that. Personally, I'm skeptical that sales in its generics business have found a floor, or that the company will regain any pricing power for Acthar Gel anytime soon.
Of course, anything's possible, but given that this company's got lots of challenges to overcome, and we're only speculating about a potential sale, I think most investors might be better off focusing on buying growing businesses without the same levels of risk as Mallinckrodt.
