EXAS: A Class Assignment Turned Investment Idea


As with everything that I will post to the investing section of this blog, the following should not be construed as investment advice.  It is simply meant to be the ramblings of a now-retired individual with some time on his hands.  I am not affiliated with any organization and have no interest in publishing other than for the intellectual exercise.  While I make an effort to be accurate with my facts, I do not assert that any of the following information is 100% reliable.  If I own a stock upon which I comment, I will always say so.  In  this case, I own Exact Sciences (EXAS) in a personal account.

So, the background to my interest in Exact Sciences stems from having done research on colorectal cancer screening for a class on multicultural health communications.  In doing so, I came to appreciate that efforts to improve screening adherence were significant, and that there were several populations that Exact could access with Cologuard.  In aggregate, these opportunities should allow Exact to grow at substantial rates for the foreseeable future. 

Quick Background: 

Exact Sciences sells Cologuard, the stool-based test that is approved for colorectal cancer screening and included in guideline recommendations as one alternative.  The company takes in about $480 per test and generates a mid-70s% gross margin.  These are good numbers for a medical technology company, since the price is reasonable, and the margin is strong enough to support high FCF margins at scale.  In the fourth quarter, Exact’s screening revenues grew 60% to $229.4mm (>$900mm annualized). 

Colorectal cancer is one that, if caught early, can be treated relatively effectively.  I won’t go into all the details, but local and regional CRC boast 5year survival rates of 90% and 71%, respectively.   Patients diagnosed with advanced CRC have a 14% chance of being alive 5 years post diagnosis. 

For years, the U.S. Preventative Services Task Force and the American Cancer Society (ACS) recommended that persons begin screening for colorectal cancer at age 50.  However, CRC impacts a lot of persons younger than 50, and they tend to be diagnosed with more advanced disease as a result.  These are persons in their prime, so the impact on them and loved ones is outsized.  The rate of CRC incidence in persons under the age of 50 is growing at an outsized clip, which is in part why the ACS recently changed their recommendation to persons aged 45 and above.



Given the weight of the ACS recommendation, a lot of other entities have begun to follow suit.  In Colorado, for example, legislators should eventually hear a Bill that would mandate that all insurance companies regulated by the DOI cover screening beginning at age 45. 

Racial/ethnic disparities exist when it comes to colorectal cancer screening.  I’ll skip the detailed data here, but there are several reasons for this.  African Americans, Latinxs and Asian Americans do not trust the medical establishment as much, they tend not to have access to colonoscopy facilities to as great a degree as whites, and there is a stigma associated with screening for some subpopulations.  As the U.S. ages, the percent of persons of color reaching the age where screening ought to begin is growing.  Today, 30% of candidates are non-white.  Importantly for Exact Sciences, 1) there are significant efforts being made to close these racial disparities (in the form of PSAs, outreach, etc.), and 2) many of the barriers to screening lie with colonoscopy, not Cologuard. 


There are a few approved and recommended CRC screening technologies.  Two of these, in theory, compete directly with Cologuard.  These are FOBT (Fecal Occult Blood Tests) and FIT (Fecal Immunochemical Tests).  However, FOBT and FIT are not as comprehensive as Cologuard, nor are they as easy to take.  Most importantly, however, they are much less well known.  I spoke with a friend recently who indicated she wasn’t even aware of the non-invasive alternatives until she saw the Cologuard commercials.  The other primary competitor to Cologuard is colonoscopy.  It is an entrenched way of screening for a couple of reasons.  First, it allows doctors to remove polyps (cancerous or pre-cancerous) during the exam.  If you get Cologuard and a positive result, you must schedule a colonoscopy as a reflex exam.  Second, colonoscopies are big source of revenues for gastroenterologists and the facilities in which they work.  Thus, I don’t think we’ll see colonoscopies go away entirely.  However, I do think Cologuard will fit into the continuum as a complement to colonoscopies.  For populations for which colonoscopies carry a big stigma (African American malefor example) or for which colonoscopy represents a monetary and structural challenge (rural populations, those of low socioeconomic status), Cologuard is clearly the better first option. 

Based on a review of Exact Sciences’ advertising and promotional activity, I think the company has some (productive) work to do.  Thus far, I think the company has largely ignored the low hanging fruit from an adherence point of view.  Advertisements target a white audience with white characters and messages.  There no Spanish-language advertisements I’ve been able to identify and the Cologuard patient welcome guide was only recently made available in other languages using a literal English translation. 

Governance (based on behaviors and documentation) and management appear to be pretty good.  I know and like several members of the B.O.D., although I don’t know the executive team.  Most of the executives from Genomic Health have left, so the transaction is clean.  Still, it remains to be seen how the cultures mesh (or don’t). 

Market Opportunity: 

According to Exact, there are about 106mm persons aged 45-85 in the U.S. at average risk of developing CRC.  We will never screen 100% of the recommended population.  Based on data for the most adherent populations (high socio-economic status whites), it’s possible we’ll achieve screening rates between 70% and 80% with time.  At 70% adherence and assuming persons get screened every three years (the current ACS recommendation and Medicare reimbursement schedule), the market opportunity in the U.S. alone is $12bn.  (In its presentation, the company points to an $18bn market, using a slightly higher price per test and not haircutting for practicality.) 

Today, the company has about 5% of the U.S. screening market.  Whether Cologuard runs out of gas at 15%, 25% or 35%, there’s a long way to go in theory. 

Other Assets: 

Genomic Health.  Exact is trying to build a diversified cancer testing company.  In July 2019, Exact announced it was buying Genomic Health for $2.8bn.  In November, the company closed the transaction.  Genomic Health is a breast cancer testing company, not dissimilar in focus to Exact.  The company sells a product called Oncotype Dx, which is used to grade breast cancer and determine what therapy to take, as well as a woman’s risk of experiencing recurrence.  It is not growing nearly as fast as Cologuard, but it is a valuable, high-margin diagnostic, and the business model is moreorless the same (in this case, the doctor obtains a specimen and sends it in).  There are potential integration risks, but there shouldn’t be any funky revenue-recognition alignment issues, etc. 


Liquid Biopsy.  I’m not sure if what Exact Sciences has in liquid biopsy is any good or not.  If it’s good, it’s very valuable.  If not, I hope the company realizes as much and shuts things down.  Liquid biopsy is probably the hottest area in cancer diagnostics right now.  It involves screening and diagnosing cancer from a blood sample, which turns hard to access and early cancers into tractable problems.  Guardant Health is probably the leading publicly-traded company pursuing liquid biopsy, and it has a near-$7bn market cap (on 2020 revenue guidance of $280mm at the mid-point). 


In rough numbers, EXAS bought Genomic Health for $1.1bn in cash and 17mm shares.  The company is now approaching 150mm shares outstanding, and the stock price is ~$60/sh.  Based on the timing of the close and EXAS’s cash balance, it looks like the cash has transferred — ergothe year-end balance sheet ($320mm cash/MS, $830mm debt) should represent the current stateofaffairs.  On these numbers, Exact’s EV is roughly $9.5bn, against previously issued revenue guidance of $1.6bn for 2020 (~6x).  Exact’s management recently withdrew 2020 guidance on COVID-19 disruption, so it’s unclear what the near-term run rate is going to look like.  I think it’s safe to say, though, it’s going to look quite bad.  Colorectal cancer screening is clearly not top-of-mind right now, and it probably won’t be for a quarter or two after COVID-19 fears subside.  For this reason, I think it probably makes sense to be patient with EXAS.  That said, when the dust settles, I think this is a very intriguing opportunity.   

Informal Thoughts on BDXA


As with everything that I will post to the investing section of this blog, the following should not be construed as investment advice.  It is simply meant to be the ramblings of a now-retired individual with some time on his hands.  I am not affiliated with any organization and have no interest in publishing other than for the intellectual exercise.  While I make an effort to be accurate with my facts, I do not assert that any of the following information is 100% reliable.  If I own a stock upon which I comment, I will always say so.  In  this case, I own BD Depository Shares Representing the Mandatory Convertible Preferred Stock (BDXA) in a personal account.


The Mouthful:  Becton Dickinson Depository Shares Representing 1/20th of One Share of 6.125% Mandatory Convertible Preferred Stock, Series A

Thoughts on Becton Dickinson

For those who don’t know that much about the company, Becton Dickinson is essentially a medical products supermarket. The company manufactures and distributes a wide variety of products, including the Vacutainer tubes technicians and nurses use when drawing blood, sharps (e.g. pen and safety needles), catheters (e.g. urological catheters for drainage, therapeutic catheters, etc.), diagnostic reagents and instrumentation, infusion pumps, surgical materials, medication management products and others. The company’s operations are well diversified from a geographic point of view, with roughly 44% of revenues generated overseas. Finally, I believe it’s important to recognize that, while BD operates in highly regulated markets, 1) its products don’t typically rise to the level where customers feel the need to “do something” about their costs, and 2) BD is somewhat insulated from the economic cycle, given the amount of business that is reimbursed under fee schedules comprising both medical devices and medical professionals’ reimbursement. While analysts get worked up over whether the company grows its top line 4%, 5%, or 6% in a given year, I think that the ability to grow reliably is more important for long-term, income-oriented investors. In this regard, BD is hard to beat.

Over the years, it appears that BD’s strategy has been to move up the value chain and become more important to its primary customer base – hospitals and clinics. While the organization spends about 6% of net revenues on R&D, its principle method for doing so has been by making acquisitions. Every few years, it seems, BD makes a significant acquisition. Most recently, the company closed the $24bn acquisition of C.R. Bard, in late 2017, bringing the company a host of interventional and surgical products. Before that, it was the infusion pump company, Carefusion, which BD bought in 2015 for $13bn. Given that BD is about a half-turn away from its leverage target post the acquisition of Bard, I think it is reasonable to expect BD to begin shopping for its next target.

Not surprisingly, BD’s willingness to return cash to shareholders ties to its M&A strategy. As debt comes down as a multiple of EBITDA, the company raises its dividend more aggressively. In the early periods post an acquisition, dividend increases are more modest. Most recently, the company announced a 2.6% increase to its quarterly dividend (to $0.79/sh.), suggesting the company is still in debt pay-down mode. The forward yield on common equity is only 1.2%. Over the longer-term, BD ought to be able to grow earnings in the high single digits, organically, and its dividend growth ought to match. This is certainly consistent with the company’s history. Capital intensity has been coming down, and capital expenditures clocked in at 5.5% of net revenues in BD’s Fiscal Year ending 9/30/19.

An Investment in BD

BD’s shares trade at roughly 20x forward earnings. That’s not cheap in an absolute sense, but it’s cheaper on a relative basis than they’ve been in a while. This valuation is also arguably attractive when you consider where “defensive” stocks typically trade and the shrinking list of investable companies that are truly defensive. Consequently, I’m O.K. owning BD common at these levels.

However, when it comes to what I actually own, it’s the Becton Dickinson 6.125% Mandatory Convertible Preferred Stock depository shares (BDXA). Becton Dickinson issued these securities in conjunction with the financing it did in order to complete the C.R. Bard acquisition. The key features of this issue are that the Preferred shares 1) sit higher in the capital structure (not an issue for BD), 2) pay a higher dividend and 3) convert into common according to specified terms. On this latter point, the Preferred converts into BD common according to a fixed ratio when the common trades above $211.80 and below $176.50, but along a sliding scale between these two prices. In other words, as BD common approaches $211.80, the Preferred stock ought to start offering better downside protection.

Today, BD common trades at roughly $257/sh., or roughly 21% above the Threshold Appreciation Price of $211.80. Thus, we’d have to undergo a rather violent correction between now and May 2020, by which date the Preferred shares must be converted into common, for the Preferred shares to stand out. In other words, BD Preferred share receipts really aren’t much more interesting than BD common right here, right now. Still, I bring this security and its feature up in consideration of what I outlined earlier. Specifically, should BD engage in another acquisition of size, this form of the financing might be included and offer total return investors a solid investment opportunity that fits their objectives. If it informs the potential timing of such an event, BD should be at 3.0x D/EBITDA by the third quarter of calendar 2020, at which time significant M&A again becomes a possibility; BD did the financing for Bard roughly a month after having announced the proposed deal.

New Pfizer


As with everything that I will post to the investing section of this blog, the following should not be construed as investment advice.  It is simply meant to be the ramblings of a now-retired individual with some time on his hands.  I am not affiliated with any organization and have no interest in publishing other than for the intellectual exercise.  While I make an effort to be accurate with my facts, I do not assert that any of the following information is 100% reliable.  If I own a stock upon which I comment, I will always say so.  In  this case, I do own Pfizer in a personal account. 


New Pfizer

Barron’s this week decided to write up Pfizer and put the company on its cover page.  Since it’s a company I find interesting, I decided to dig a little deeper and provide some thoughts in something other than financial-rag-speak.  In a summary-up-front, I’d argue Pfizer makes a pretty interesting investment at current levels, albeit with a reliance on what the market will pay for an earnings re-acceleration story that begins sometime in 2020.  Pfizer isn’t yet a loved company, for good reason, but its market cap is too significant to be ignored by institutional investors.  Thus, I think the investing picture is skewed positively (just look at what’s happened with Bristol-Myers Squibb and AbbVie).  I think the idea of hedging out the Viatris (i.e. Upjohn-Mylan) exposure is intriguing if minor in its import. 


For a number of years now, Pfizer has been playing footsie with various ways to unlock value for shareholders, from merging with AstraZeneca to spinning out businesses (most notably its animal health business, Zoetis), to entering into joint ventures like the HIV endeavor, ViiV.  Under the leadership of new CEO Albert Bourla, who will become Chairman and CEO January 1, 2020, it seems that Pfizer will undergo a series of more decisive changes.  Ian Read, who had served as CEO since 2010, will step down. 

Let’s talk a little about Pfizer

Amongst institutional investors, I don’t think Pfizer is taken very seriously.  While Ian Read has put up a respectable strategy and operational legacy, it’s far from stellar.  Under his leadership, the company has acquired companies like Hospira for $15bn and Anacor for $5bn, as well as licensed products like Merck KGaA’s avelumab.  I think the Street would argue these haven’t been value-creating endeavors.  When it comes to R&D productivity – the life blood of any biopharmaceutical company – Pfizer has a checkered past that’s improved marginally of late.  In order to inform this statement, I arbitrarily peeked back at the company’s pipeline in 2016, just to remind myself of where we were.  As of February 2nd, of that year, Pfizer boasted 8 novel agents in Phase 3 development (i.e those that weren’t line extensions, new indications for marketed products or biosimilars).  Here’s the update on those: 



I think it’s fair to note that the approved drugs were approved only recently.  Thus, one wouldn’t expect sales to be too substantial as of late 2019.  That said, for drugs where there’s multi-blockbuster potential (i.e. >$2bn in peak sales), companies often disclose early figures to satisfy analysts.  From this list, the only candidate I’d characterize as an obvious success is Trumenba. 

Today, Pfizer has a few more interesting candidates in late development, as well as the fruits of some inorganic stratagems (e.g. the $11bn acquisition of Array Biopharma).  Still, I can’t say at this juncture anything’s really changed.  The organization is still led scientifically by Chief Scientific Officer, Mikael Dolsten, whose tenure closely matches that of former CEO, Ian Read. 

So, why are things interesting now? 

Let’s start with the inorganic stuff

On August 1, 2019, Pfizer announced that GSK and Pfizer had closed a joint-venture agreement under which Pfizer and GSK would contribute their consumer health businesses and obtain respective ownership stakes of 32% and 68% in the combined entity.  GSK is taking charge operationally, while Pfizer will step back and simply report its passive financial interest from here.  I won’t spend a lot of time on details other than to say 1) for once, it looks like Pfizer received reasonable value for the business it sold, 2) this is the kind of business where synergies ought to be real and obtainable (e.g. improved negotiations with the trade over shelf space, the elimination of redundancies, better purchasing of fairly standard supply chain items, maybe even some cross selling opportunities, etc.), and 3) GSK ought to improve on Pfizer’s performance (Pfizer Consumer Health Care had been posting flattish results, where GSK has been growing low-to-mid single digits). 

On July 29, 2019, Pfizer and Mylan announced they were merging Pfizer’s aging/legacy brand business, Upjohn, with Mylan to create a new company which will be called Viatris.  The market promptly threw up all over this idea, with Pfizer’s shares dropping nearly six and a half percent.  I think I understand why folks were disappointed.  While Pfizer shareholders stand to receive 57% of Viatris, it will be run by Mylan executives/appointees.  This includes Chairman Robert Coury, whose reputation is controversial to put things gently, President Rajiv Malik and eight members of an eleven-member board.  Beyond this, Pfizer shareholders will still have to worry about the performance of a generic pharma company with much different growth opportunities and capital demands than Pfizer’s remainco – the innovative biopharma company; I’m sure some felt that a split-out or sale would have been much cleaner.  Pfizer and Mylan executives expect the deal to close in mid-2020. 

For better or worse, these two managerial exits will accomplish a couple of objectives.  First, it will make valuing Pfizer’s shares a bit easier.  There will be a public market for Viatris, and Pfizer shareholders will be able to monitor it in real time.  Consumer health, while subsumed in the GSK figures, is a steady business with very reliable metrics on a comparables or transactional basis.  It too should be easy to value.  With perhaps 85% of the value of Pfizer accruing to the remaining biopharma business, investors should also be able to focus their efforts.  Second, Pfizer personnel will be able to focus exclusively on the creation, development and launch of novel medicines addressing high unmet needs.  Perhaps this will have a positive effect on R&D productivity. 

What about the organic stuff?

I’ll state what is obvious to most.  A biopharma company is really just a series of products launched into an existing infrastructure.  In Pfizer’s case, there are a number of growth drivers, a couple of key products, one major product going off patent, and a number of late stage pipeline candidates that will probably set the tone for investors over the coming few years.  As of Q3, Pfizer’s Biopharma business (the innovative stub) boasted an annualized sales rate of roughly $40bn.  Lyrica, the one big product currently being genericized, has already been moved to Upjohn, so its worth is embedded in the inferential value Pfizer shareholders get in the proposed merger with Mylan.  Ibrance, a terrific drug for hormone positive breast cancer, accounts for about 13% of Biopharma sales and grew 27% operationally in the quarter.  Ibrance really faces no obvious competitive threats.  Prevnar, the leading vaccine used to prevent pneumococcal disease, accounts for about 16% of Biopharma sales and declined about 3% operationally.  Biopharma, overall, grew 9% operationally in the quarter.   

Pfizer’s pipeline is “O.K.” (hey — they don’t give two and a half stars to just anybody).  For better or worse, a lot of the dross has already fallen out.  Hence, the late stage pipeline is a bit thin, numerically, but of relatively high quality.  I highlight below four Phase 3 programs that matter, and I am optimistic about three. 




Pfizer has two growth drivers I believe are worthy of added comment.  The first is Xtandi, which I believe will win the war amongst next generation anti-androgens used to treat prostate cancer.  Xtandi looks cleaner than J&J’s Erleada and more flush with data than Bayer’s Nubeqa.  Alliance revenues for this product increased 25% operationally in the quarter (to $225mm) and should benefit from earlier and more extensive use pursuant to anticipated regulatory approvals.  The second is Vyndaqel, a novel treatment for an uncommon heart condition.  This product is off to a very strong start and boasts above average margins.  With time, it has multi-block buster potential. 


In my opinion, many of the theoretical risks Pfizer faces are mitigated.   

Merck & Co., is working on a pneumococcal vaccine that will compete with Prevnar.  It does cover a couple of serotypes that are clinically important and which Prevnar doesn’t cover.  However, Pfizer is in advanced testing with a 20 valent vaccine that covers these and 5 additional serotypes.   

Earlier this year, Pfizer’s Xeljanz, an oral medication for arthritis, received added warnings for clotting and related deaths on its prescribing label.  So far, this development hasn’t had a significant impact on sales, and it’s encouraging to see that Pfizer’s pipeline candidates of the same or a related class appear cleaner on side effects. 

If there’s a more existential threat, it’s that of health care reform.  A big chunk of Pfizer’s sales and earnings come from oral anti-cancer medications.  These are used disproportionately in the elderly, and are therefore often reimbursed under Medicare Part D.  While access to anti-cancer medicines is a sensitive topic, there is a lot of dissatisfaction amongst beneficiaries and a lot of government dollars at stake.  If one plans to own Pfizer long-term, the subject bears watching. 

Some numbers and some investing thoughts

In sum, it would appear that Pfizer’s stated target of achieving a 6% CAGR for Biopharma over at least the coming five years appears reasonable.  However, I was surprised to see how little attention was given to the company’s earnings progression on its most recent quarterly call, given the impact of Lyrica and the various moving parts associated with GSK and Mylan. 

Through 9 months of 2019, Pfizer earned $2.39/share on an adjusted basis.  Management has provided guidance of $2.94-3.00/share on an adjusted basis, which means that Q4 guidance is $0.55-0.61/sh.  That’s a pretty big step-down from $0.75/sh. In Q3 and a run rate of roughly $0.80/sh. before the loss of Lyrica.  If there’s a silver lining, it’s that there’s only $200mm/Q of Lyrica left to go in the U.S. 

For Q4, Pfizer has pointed to a few cents in dilution from a full quarter of the Array acquisition, as well as a further deterioration in exchange rates.  Pfizer had also indicated it will move from contemporaneous reporting for its consumer health business to a one quarter lag under the new GSK J.V., and that this would lead to 2019 earnings dilution of roughly $0.03/sh.  Despite all this, I expect there’s also a bit of expectations management built into guidance.  According to Pfizer’s 10Q, Upjohn earned $2.3bn, $2.0bn, and $1.4bn before overhead in Q1, Q2 and Q3, respectively.  Sales declined from $3.1bn to $2.2bn over that stretch.  U.S. Lyrica sales declined from roughly $900mm to $200mm.  Thus, in round numbers, Upjohn’s earnings power probably troughs at $1.2bn before overhead and taxes.  On the flip side, Biopharma earnings have grown from $5.9bn in Q1 to $6.1bn and $6.5bn in Q2 and Q3, respectively.  In Q4, earnings should increase again, if for no other reason than growth in the high margin product, Vyndaqel.  Say Q4 Biopharma is $6.7bn, Upjohn is $1.2bn, and combined Other Business Activities and Corporate is $3.2bn in expense (i.e. on trend).  That would put Q4 earnings in the ballpark of $0.70/sh. at a 16% tax rate.  Add the Array and consumer health care dilution, and Pfizer maybe ends up at $0.65/sh. 

In 2020, consumer health care will normalize and should start to grow.  Biopharm should too.  Thus, I think the current consensus of $2.74/sh. is achievable.  However, this probably isn’t hugely important to the thesis, but rather a bulwark against which value investors can start to gauge their level of optimism for a renaissance at Pfizer Biopharma.   

So, let’s think about that.   

Pfizer includes a table of segment performance in its press release.  From it, you can deduce a few things: 

  • Biopharma and Upjohn both boast attractive gross margins.  In the case of Biopharma, gross margins hit 91.5% in Q3, which CFO Frank D’Amelio attributed to productivity and a contribution from Vyndaqel.  I think it’s reasonable, given a lack of significant patent expiries from here forward, to expect 2020 gross margins for Biopharma to hover in the low 90’s%. 
  • R&D runs nearly $2bn per quarter, and you can be assured that nearly all of that accrues to Biopharma.  The other businesses simply aren’t R&D intensive.  Based on Array’s S.E.C. filings, it appears we should add about a quarter of a billion dollar R&D load to Pfizer Biopharma for that organization, bringing the total to perhaps $8.25bn on an annualized basis. 
  • If points 1 and 2 are in the right ballpark, the key to deriving the base from which to get excited or not for Biopharma depends on the allocation of SI&A.  Here, too, I think it’s safe to assume that most of the bodies and overhead will accrue to biopharma.  I base this on logic (e.g. you don’t run DTC campaigns for generics, biosimilars or soon-to-be extinguished products; you don’t detail aggressively with sales reps and you aren’t willing to pay for market data from iQvia).  What’s more, the numbers make sense.  If we tie 90-95% of unallocated SI&A to Biopharma, we arrive at a figure of roughly $2.7bn, or 27% of net sales.  This is actually on the low side of the average for a pure-play peer set.   



If those are the right numbers, Biopharma has earnings power in the range of over $19bn before interest and taxes in 2020.   

The last elephant in the room is the balance sheet

As of Q3, Pfizer’s cash, cash equivalents and short-term investments amounted to $9bn.  Long-term investments amounted to $2.7bn.  On the other side of the ledger, interest bearing liabilities totaled $53bn.  On these figures, Pfizer puts up about $60mm in interest income and $400mm n interest expense.  Just prior to the close of the Mylan combination, management contemplates that the new Viatris will make a one-time $12bn payment to Pfizer, and that Pfizer will use this to retire debt.  Thus, subject to variances in cash sources and uses for the coming half year, Pfizer ought to have a proforma debt balance of just over $40bn.   

If we take these figures through the income statement and apply a 16% tax rate, new Biopharma should have base earnings of over $0.65/sh. per quarter coming out of the Mylan transaction, and earnings ought to be growing double digits.   

Investing implications: 

Pfizer shareholders own 32% of a consumer health business with a greater-than $13bn top line.  Consumer health businesses, if run properly, boast 20% operating margins and low-to-mid single digit top line growth.  Typically, they are worth 3-6x sales, depending on moats and the appetite of investors. If we go with 3.5x forward sales, peg the run rate at $13.5bn, and give Pfizer 32%, the value to Pfizer is $15bn. 

Mylan currently trades at around $18/sh. and has just over 500mm shares outstanding.  It doesn’t appear that there’s a big deal-related discount built into the shares, given that the stock traded at $19/sh. before Pfizer and Mylan made their announcement.  Thus, if Mylan’s 43% stake in Viatris is worth $9bn, Pfizer’s is worth $12bn. 

Finally, there’s the payment.  Viatris is going to hit the ground with a ton of debt, but some decent early capacity to generate free cash (Mylan’s presentation says the goal is to get to 2.5x D/EBITDA or less by the end of 2021, while initiating a dividend).  On proforma 2020 sales of $19-20bn in 2020, Viatris will begin with $24.5bn in debt and EBITDA margins in the range of 40% (including synergies).  This $24.5bn includes the debt Upjohn will incur in order to make the one-time $12bn payment to Pfizer. 

If Pfizer has 5.6bn shares outstanding, consumer health is worth $2.7 per share, and Viatris and the payment are each worth $2.1. 



So, what’s Biopharma worth?

Well, I guess that’s up to the markets.  However, I think 15x isn’t unreasonable, given the pipeline and the lack of patent expiries until 2026.  If the company can put up $0.65/sh. beginning in Q3 2020, I think $2.70-2.90/sh. in 2021 is a good figure (just for Biopharma).  15x that would be $42/sh. at the mid-point, on top of which you could add the $7/sh. described above.  While that sounds like quite attractive a target for a lumbering, unloved biopharmaceutical company, I think it might be realistic to set one’s sights a little lower.  It’s almost never in management’s interest to give away the store all at once.  What’s more, I believe it takes time for companies to go from unloved to, well, something better than unloved.  Finally, it’s an election year, and health care reform is going to be on the agenda.  Thus, Pfizer may not see the upper forties right away.  Nevertheless, the bones of the idea feel right, and Pfizer does offer investors a 3.8% dividend while the broth clears.  One final thought relates to Mylan.  I, for one, am attracted to the Pfizer Biopharma and consumer health businesses to a much greater degree than I am Viatris.  If I were an institutional investor with the ability to hedge, I might short enough Mylan stock to hedge out my exposure to this fledgling entity.  That’s not to make a stock call one way or the other, but simply to focus my energies on the business about which I care.