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Warner Chilcott Luring Drug Buyers With Most Free Cash: Real M&A

Warner Chilcott Ltd. this week lost a federal ruling  in a patent-infringement suit over a generic version of its antibiotic Doryx, used to treat severe acne. Photographer: JB Reed/Bloomberg
Warner Chilcott Ltd. this week lost a federal ruling in a patent-infringement suit over a generic version of its antibiotic Doryx, used to treat severe acne. Photographer: JB Reed/Bloomberg

Warner Chilcott Plc offers potential acquirers the chance to buy a company that throws off more cash from selling contraceptives and colitis treatments than any specialty drugmaker in the world.

Shares of the Dublin-based company surged to a nine-month high this week after Warner Chilcott said it’s exploring options and holding talks with possible buyers. The $5.5 billion company, which gained 27 percent since takeover speculation emerged less than a week ago, still has a free cash flow yield that’s 20 percent of its share price, about 10 times more than the median for comparable drugmakers with at least $1 billion in market value, according to data compiled by Bloomberg.

While analysts are predicting Warner Chilcott’s sales will decline this year as it faces competition from generic copies of its drugs, Invesco Ltd. and RBC Capital Markets said the company could fetch at least $27 a share in a takeover, a 23 percent premium to yesterday’s price. A larger drug company could benefit by expanding sales of Warner Chilcott’s top brands such as Asacol, which treats intestinal inflammation, and cutting costs to boost profits, Invesco said.

“It’s still an incredibly cheap stock,” Derek Taner, who manages the $1.1 billion Invesco Global Health Care Fund, which owns Warner Chilcott shares, said in a telephone interview from San Francisco. “They generate a lot of free cash flow. The appeal of them to a strategic buyer would be the cost savings opportunities and the accretion that it would provide.”

Rochelle Fuhrmann, a spokeswoman for Warner Chilcott, didn’t return phone and e-mail messages yesterday seeking comment about potential acquirers.

Women’s Health

Warner Chilcott, which traces its roots to Northern Ireland in 1968, makes medicines focused on gastroenterology, dermatology, urology and women’s health, including Actonel for osteoporosis and the contraceptive Loestrin.

The company was acquired in 2005 by a group of firms including Thomas H. Lee Partners LP, Bain Capital LLC and the buyout units of Credit Suisse Group AG and JPMorgan Chase & Co. The firms then took Warner Chilcott public again less than two years later. Credit Suisse sold its stake in 2010, and after a secondary share sale in March 2011 the remaining buyout firms together owned about 30 percent of the stock, Warner Chilcott said in a regulatory filing in February.

Warner Chilcott had its first annual decline in revenue since going public last year after its Actonel osteoporosis drug lost patent protection in western Europe and faced competition from generic versions of rivals’ products in the U.S.

Takeover Speculation

Shares of Warner Chilcott topped $25 last May before falling more than 30 percent through April 26, the day before the Times of London said Bayer AG may offer to acquire the company for $32 a share. The newspaper didn’t say where it got the information.

Warner Chilcott, which jumped 8 percent on the news, then surged by the most in more than two years on April 30 after the company said it was working with Goldman Sachs Group Inc. on ways to increase shareholder returns. Discussions with potential bidders “may or may not lead to an offer for the company,” Warner Chilcott said in the statement.

Earlier that day, Bloomberg News reported people with knowledge of the matter saying that Warner Chilcott had received interest from potential buyers including private-equity firms. The company is also considering paying a dividend as an alternative to a sale, one person familiar with the plans said.

The company’s shares closed yesterday at $22.02.

Warner Chilcott may appeal to a buyer because of its ability to generate cash, Invesco’s Taner said.

Cash Cow

After deducting capital expenses, the company reported cash from its operations in the past year equal to about 20 percent of its stock price, the most of any specialty drug company valued at $1 billion or more, according to data compiled by Bloomberg.

For Bayer, buying Warner Chilcott could help the German drugmaker bolster its own women’s health line, said Alistair Campbell, a Bayer analyst at Berenberg Bank in London. Adding Loestrin could help shore up sales for Bayer at a time when its Yaz birth-control faces competition from a generic version introduced by Teva Pharmaceutical Industries Ltd. in May 2010.

Warner Chilcott could also help Bayer strengthen its presence in the U.S. market, Campbell said.

“Bayer, relative to some of its peers, has a smaller footprint in the U.S. and buying a business with a larger U.S. footprint could help that,” Campbell said in a phone interview.

Leverkusen, Germany-based Bayer’s North American revenue was 22 percent of overall sales in 2011, down from almost 25 percent two years earlier, according to data compiled by Bloomberg. By contrast, London-based rival GlaxoSmithKline Plc derived about 30 percent of its sales from the U.S. last year, the data show.

Generic Competition

Rosemarie Yancosek, a Bayer spokeswoman, declined to comment on whether Bayer is interested in buying Warner Chilcott. Organic growth is the company’s “key priority” even though rumors about transactions “pop up regularly,” Bayer’s Chief Executive Officer Marijn Dekkers said on April 26.

AstraZeneca Plc, which last week said it is in talks with other companies about possible deals as it faces increasing generic competition, could also be a suitor for Warner Chilcott, said Michael Meyers, CEO of New York-based hedge fund Arcoda Capital Management LP.

The London-based maker of Seroquel and Nexium for ulcers is set to lose patent protection by 2014 on drugs representing more than 40 percent of last year’s sales, and analysts are already projecting AstraZeneca will suffer a 32 percent drop in profit this year, according to data compiled by Bloomberg.

Beefing Up

“They’re in a position where they need to replace existing products and continue to beef up the pharma side of the business,” Meyers said in a phone interview.

Tom Hushen, a spokesman for AstraZeneca, declined to comment on whether the company is looking into a purchase of Warner Chilcott.

Warner Chilcott’s declining revenue could make it harder to attract a buyer, said Randall Stanicky, a New York-based analyst at Canaccord Genuity Corp. Analysts project sales will fall 15 percent in the three years ended 2014 as patents expire for two of the company’s top sellers, Actonel and Loestrin 24 FE, according to data comiled by Bloomberg.

“You don’t have the growth here,” Stanicky said. “Outside of Asacol, there’s concern across most of the other products relative to the sustainability of those cash flows.”

The company this week lost a federal ruling in a patent-infringement suit over a generic version of its antibiotic Doryx, used to treat severe acne.

Doesn’t Take Much

Warner Chilcott said the ruling, which lifted an order barring sales of the generic by Mylan Inc., will result in an impairment charge of $90 million to $108 million that will “materially reduce” the company’s net income for 2012.

The sales decline may not deter a drug company that could combine operations with Warner Chilcott and lower expenses to boost earnings, said Meyers at Arcoda.

The company’s low valuation may also attract bidders, said Invesco’s Taner, with offers of $27 a share or more.

A $27 per-share acquisition price would only value Warner Chilcott’s equity and net debt at about 7.2 times earnings before interest, taxes, depreciation and amortization in the last 12 months. That would be the second cheapest on record among pharmaceutical takeovers greater than $5 billion, and a 40 percent discount to the industry median, data compiled by Bloomberg show.

“It’s an inexpensive stock, so it doesn’t take a lot of work to make a purchase accretive to a buyer,” Taner said.

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