Monday, May 28, 2012

One pill makes AZ bigger, another makes them small

AstraZeneca could consider shrinking rather than expanding, says analyst

AstraZeneca has been under pressure for a while to improve its drugs pipeline by splashing out on major acquisitions, but analyst at Societe Generale are suggesting the company might do better to shrink down.

Astra recently announced that chief executive David Brennan would leave in June, following shareholder disquiet about the growing threat to its key products from generic competition. SocGen said it estimated that by 2017 some 79% of its sales would come from drugs which were no longer protected by patents:

Investors have focused on what products or companies Astra can acquire to make up for the sales and profits likely to be lost to generic forms of Seroquel, Nexium and Crestor (all generic by 2016-17), on the assumption that Astra continues with its R&D and marketing-driven business model.
Instead, said analyst Stephen McGarry , the new chief executive could consider an alternative:

We present a scenario whereby, after all the major patent expiries, Astra embraces a future where it significantly reduces R&D and sales and marketing to the same level as an average specialty pharma company, ie it becomes a specialty pharma company.

If it adopts a specialty pharma-like cost structure post the 2016 Crestor patent expiry (the last of its major patent expiries), its R&D/sales ratio could reduce from 18% to 5% and general expenses/sales from 27% to 23%. In our view, this would result in significant earnings upgrades from 2017 onwards and a return to earnings growth.

We would expect it to lead to a significant increase in net cash by 2020, from $22bn to $37bn – more than enough for the acquisitive growth of other specialty pharma companies and for an increase in its dividend payout ratio. This would increase our current discounted cash flow valuation from 2,693p to 3,169p.

Should Astra pursue such a strategy, in our view, it could also become an attractive M&A target for other specialty pharma players or large cap pharma companies.

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