Endo Could Be the Next Activist Target in Generics

 | May 28, 2016 | 2:00 PM EDT
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-- This article was written by Sarah Pringle of The Deal.

As shares of private equity-backed Endo International (ENDP) continue to lose value, it seems logical for it to consider merging with another generics player.

But continued uncertainty around its mesh products business and high leverage are two issues that might scare away a potential buyer. Meanwhile, the Dublin-headquartered specialty pharmaceutical company's stock has depreciated by close to 80% over the last 12 months, putting the sort of acquisitions that earlier spurred its growth out of reach. And that puts management on the hot seat.

"They're in a situation where barring some major outside activity like an activist or someone trying to buy them, they're really going to have to execute against their guidance," Gabelli & Co. analyst Kevin Kedra said.

It was just last week that TPG Partners VI LP revealed it had upped its stake in Endo to nearly 9.9% from the initial 7.7% disclosed earlier in the month. 

Endo on May 5 disclosed the appointment of TPG Capital managing partner Todd B. Sisitsky as well as Douglas S. Ingram, former president of Allergan (AGN) and current CEO of Chase Pharmaceuticals. The company also announced the planned resignation of Brian Lortie as president of U.S. Branded Pharmaceuticals along with an initiation of a search for his successor. (Allergan is part of TheStreet's Action Alerts PLUS portfolio.)

The long-term goals of TPG aren't clear, and officials with the PE firm declined to comment, but the firm has more than a good understanding of the business that today makes up Endo. The Fort Worth, Texas-based sponsor about a year ago agreed to sell generics business Par Pharmaceutical Holdings for $8.05 billion to Endo. 

Despite representing the fourth-largest player in the generics market, Endo controls only a single-digit percentage of the market, and thus arguably needs to gain greater scale to compete in the long run, according to Kedra. 

The largest player in generics will be Teva Pharmaceutical (TEVA), which will have about 20% of the market once its pending $40.5 billion acquisition of the generics business from Allergan closes. 

"Whether that means they're a buyer or a seller, it certainly makes sense that it needs to be consolidated with another player," Kedra said. "As a buyer, it's not really in a good position right now because of where its debt is and stock is."

Other company followers also pointed to the logic and need for scale. 

"I do think an exploration of strategic alternatives makes sense for Endo and would argue that we will see more consolidation in the generics space given the pressure that has been brought to bear on prices," wrote Piper Jaffray analyst David Amsellem in an email. 

With about $8.3 billion in net debt and depleting stock price, a sizable acquisition would appear to be tough; however, Endo could look to do a merger-of-equals type of transaction with a similarly priced company, Kedra said. While it would make sense to look at a sale, potential buyers might not be as interested in Endo's branded pharmaceuticals business, which might also suggest there's an opportunity for breaking up the company, the analyst added.  

Buyers in the generics space include the likes of Mylan (MYL) and Perrigo (PRGO), though the latter is known for its OTC business and also has a prescription generics business that may be too small. Novartis (NVS) and Sun Pharmaceutical are also big in generics. 

Even so, the risks that continue to surround Endo might argue against a sale in the near term. 

One of the bigger issues beyond Endo's operational problems is continued uncertainty relating to the significant liabilities associated with its mesh business, according to Cowen analyst Ken Cacciatore. 

The company said in March it would shutter its pelvic organ mesh unit, Astora Women's Health, in the wake of expensive lawsuits relating to claims of injuries from the unit's products. The company faces major litigation payments over the next several years.

"It's kind of difficult from a strategic perspective to understand who would want to take that risk on," Cacciatore said.

Cacciatore in a May 6 note wrote that even if Endo can stabilize its operations and begin to generate meaningful cash yield, future value creation will remain difficult. 

The last year has been somewhat of a perfect storm for Endo. While Valeant's (VRX) problems have weighed on the sector overall, the deflation of generic drug prices, the litigation of its mesh products and the cutting of its guidance have added to Endo's troubles.

"A bunch of things hit them at once," Kedra said. "It created this cycle of things going from bad to worse." 

Endo is led by chief executive Rajiv De Silva, a former executive at Novartis and Valeant, the latter where he worked with the embattled drugmaker's former chief executive, Michael Pearson. 

"Back when Valeant was the darling of Wall Street, Endo was viewed as another version of Valeant, but now that's a reason to avoid it," Kedra said, adding that Silva's ties to Valeant "were a blessing until it became a curse." 

Like Valeant, Endo used its stock as currency to beef up through acquisitions until its stock collapsed. 

Given the upheaval in the sector already seen, a lot of companies in the "Valeant neighborhood" certainly seem ripe to be targeted by an activist, Kedra said, citing specialty pharma company Depomed (DEPO). 

Starboard Value LP in early April delivered a letter to Depomed CEO Jim Schoeneck and its board of directors while disclosing a 9.8% ownership stake in the pharmaceutical company. The activist on Thursday formally called for a special meeting of shareholders seeking to overhaul the company's board.  

The embattled Valeant, of course, has faced its own activist pressure from Pershing Square's Bill Ackman, who recently joined his colleague Stephen Fraidin on the company's board of directors. 

-- This article was originally published by The Deal, a sister publication of TheStreet that offers sophisticated insight and analysis on all types of deals, from inception to integration. Click here for a free trial.

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