Mylan (MYL) — Viatris Estimates (9/28/2020)

Originally covered Mylan (MYL) back in February at $22 per share and took another brief look after Q2 earnings.

I’ve been adding to my position below $15 as the UpJohn merger nears closing and the business is set to start 2021 known as Viatris.

Generic drug prices have started to stabilize a bit in 2020 — Teva saw 1H generics decline only 2% and Novartis’ Sandoz division was down 3% excluding FX impacts.

This is my favorite special situation for 2021+

A few important reminders as to why I’m excited:

  • This is a deleveraging event for Mylan — 2.5x leverage is the bogey within 12 months
  • This is a management change event for Mylan (thank goodness) — new CEO coming
  • This is a capital allocation change event for Mylan — with the deleveraging being accomplished, there’s finally room for a dividend (5%+) and share buybacks
  • Focus metrics are changing — free cash flow will finally mean operating cash flow less capex!

From the latest investor presentation — they are really playing up the potential multiple expansion relative to peers.

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The key message here is a dramatic change in corporate policy going forward — shareholder-friendly…

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Standalone Mylan Stats

Mylan has faced several years of generics pricing headwinds which has impacted sales and margins across the board. A few notes about standalone Mylan:

  • They’ve spent the past few years focused on repaying debt from past acquisitions
  • Acquisitions essentially had stopped over the past 3.5 years
  • Free cash flow has been improving thanks to product rights payments declining
  • This is still a ~10% ROIC business
  • I look at FCF and GAAP EBITDA — company’s adjusted EBITDA calculation includes significant restructuring costs each year (~$2.3bn over 3.5 years)
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Financial overview…

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Upjohn Stats

Historical financials aren’t incredibly useful here with the patent expiration of major drug Lyrica (~$5bn of $13bn in 2018).

As a reminder, Upjohn is a collection of off-patent branded drugs from Pfizer. Performance has been up-and-down for most of these drugs with signs of life mainly overseas from China (though this has been stunted somewhat in 2020 thanks to COVID).

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Below is my best guess at growth / decline rates for each of the major contributors in 2020-2022… Once Lyrica stabilizes over the next few years, this should be a mostly stable portfolio of drugs with some potential for International growth.

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On a positive note, these drugs are still quite profitable with >40-50% cash flow margins on a combined basis. Limited capex needs and whatever marketing budget desired. These are well-known drugs that have been around for a long time.

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It’s obvious that Mylan wanted the combination purely for the high cash generation and lack of exposure to generic drug pricing. Mylan also has a very large ex-US franchise and may be more effective at marketing the Upjohn portfolio overseas where growth prospects remain.

The beauty on the timing of the acquisition is Pfizer still holds Upjohn during the most impactful first 18 months of the Lyrica patent expiration. 2021 should see much lower headwinds from Lyrica…

Viatris Estimates

The latest merger proxy provided some good clues as to what the combined company should look like…

Here’s a look at the unfiltered 2019 numbers for the combined business…

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For starters — official guidance looks like $19-20bn in sales and $7.5-8bn in EBITDA — I’m using $7.5bn as my EBITDA starting point.

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A few notes…

  • They’ve guided to $1bn in cost synergies over 4 years but I’ve tacked on about $600m or so and then flat underlying EBITDA from the core business
  • My interest expense might be high but seemed appropriate based on the merger proxy and ~5.2% interest — the rates on these new notes were crazy cheap
  • Working capital is probably a $1bn drag annually — Mylan averaged ~$550m per year from 2016-2019 and Upjohn probably adds to that
  • I’m sure there’ll be some cash integration/restructuring costs in the first 1-3 years — my estimate is probably low here
  • I get about $2.8-3bn in D&A which is mostly intangible amortization
  • ROIC is insanely high at ~15% — reflecting the price paid for Viatris relative to the additional cash it brings to the table
  • Took a blind guess at some share repurchase figures in years 2-4 simply to highlight how additive capital allocation could be for this business

Feedback welcome!

There are clearly still risks with this business — generic drugs are in the crapper (less so ex-US where Mylan plays) and the Upjohn portfolio isn’t a compounder by any means…

This situation is a stark change in direction for legacy Mylan and most likely we’ll see investors/analysts start to ask about this Viatris business early next year and why it’s so cheap.

Shares look likely to rerate shortly after the merger with capital allocation driving upside 12-18 months post-close.