1.1 Teva at a Glance
Founded in 1901, Teva Pharmaceutical Industries Ltd. (NYSE: TEVA) was formed by three young pharmacists in Jerusalem, Israel. Teva is a leader in the global pharmaceutical industry: one out of every seven prescriptions in the US and one out of every six prescriptions in the UK is filled with a Teva product. Ranking among the top 10 pharmaceutical companies in the world, it specializes in generic and specialty drugs and is the largest global producer of generic medicines. Headquartered in Israel, Teva has a global product portfolio of more than 1,000 molecules, sold in more than 100 countries. It operates in 60 countries worldwide and has approximately 55,000 employees and net revenues of $20.3 billion in 2013.
1.2 Business Segments
Teva operates through 3 segments: generics, specialty and others. The generics segment provides chemical and therapeutic equivalents of originator medicines in tablets, capsules, creams, liquid, ointments, injectables, and inhalants. This segment generated revenues of $9.9 billion in 2013, making up 49% of Teva’s revenues, among which 42% were attributable to the US market, 35% were from Europe and 23% were from the rest of the world. The specialty segment is the second largest and accounts for about 41% of the total revenue of Teva in 2013.
The specialty segment focuses on areas including medicines for respiratory and CNS disorders, oncology and women’s health. CNS’s leading brand is Copaxone, in 2013, which generated $4.3 billion in sales, making up 21% of the company’s sales and constituting 42% of the company’s earnings. The others segment accounts for 10% of sales. In this segment, Teva has built a unique relationship with P&G and operates in 65 markets outside North America, selling cough/cold and allergy, digestion, vitamins, minerals and supplements, and painkillers.
1.3 Current Situation and Challenges
Although Teva is one of the largest pharmaceuticals companies in the world, it is not experiencing an easy time in the recent few years. Based on the data given in Teva’s financial statements (figure1), revenues have flattened in 2013 after a few years of rapid growth, and after experiencing a surge in GAAP- net income (audited net income) in 2010, Teva’s net income has been decreasing in the same period. Teva’s average net operating margin of the past 3 years is only about 10.36%, while the average net operating margin of its peer group is about 18.4%.
In October 2013, in order to cut costs and save $2 billion a year, Teva announced a workforce cut and reduced the number of employees from 55,000 to 45,000 (a reduction of 11% of its global workforce). In addition, the patent of the best-selling drug Copaxone has just expired on May 24, 2014, therefore, the longer-term prospects of Teva seem challenging. In the following few sections, analysis and comments will be made on both Teva’s general strategies and the strategies of its two main business segments. Based on the analysis, suggestions will be given and investment forecasts will be made.
2. General Strategic Management Analysis
2.1 Questionable M&A Decisions
In the previous few years, Teva has made a string of questionable M&A decisions, which didn’t create expected synergies, and in contrast, impacted the company’s profits and growth. Teva’s current market value is about $48.21 billion, but between January 2008 and September 2011 it made a series of ineffective M&A with a total value of $22 billion. These acquisitions boosted sales from $8 billion to $18 billion but generated profit growth of only $800 million and earnings per share increase of only 71 cents. In 2009, in particular, Teva failed to buy Zytiga, a drug used in the treatment of prostate cancer, from Cougar Biotechnology Inc.
Teva’s competitor, Johnson & Johnson bought Cougar and Zytiga’s sales totaled $1.2 billion just in the first 3 quarters of 2013. In early 2014, due to CEO Jeremy Levin’s conservative M&A strategy, Teva lost out in acquiring the second -largest company in South Africa, Adocock Ingram and was excluded from entering the South Africa market, which is expected to have a significant growth potential. In the same year, Teva made another wrong decision and acquired the rights to develop Laquinimod from Sweden’s Active Biotech. Later in 2014, Laquimimod, failed to win drug regulator backing due to safety concerns after animal tests. Teva’s competitor, Tecfidera, developed a similar drug at the same time as Laquimimod, and gained 23% market share after its launch.
2.2 Doubtable Cost Cutting Implementations
In order to cut costs of about $2 billion annually, Teva laid off 11% of its international workforce from 2013 to 2014. But at the same time, about $4.5 million was spent on the renovation of CEO’s office in Israel. Moreover, a Project Spring was implemented, by bringing 200 employees from around the world to formulate a strategy, but it took too long to come up with attracting ideas.
2.3 Aggressive Marketing Plans
Teva has been among the industry’s most aggressive companies when it comes to the marketing strategies. The company has been taking too many risks to marketing before the legal status of a patent is settled and a generic is approved. In late 2007, Teva began marketing the generic version of Pfizer’s heartburn drug, Protonix and generated a sale of $1.1 billion during a period of about 4 years. But then in June 2013, the American regulator ordered Teva to pay Pfizer $1.6 billion to compensate for the infringement.
2.4 Inefficient Organizational Structure
After a series of questionable M&A deals, Teva’s businesses are scattered all over the world but at the same time have become highly decentralized. This causes the problem of recourse decentralization. The same raw material is being bought at different prices from different countries, and business development teams compete for the same targets. This has significantly reduced Teva’s overall operation efficiency and the previous acquired assets haven’t generated the expected synergies. 3. Generic Segment Analysis – Expansion into Complex Generics Besides ordinary manufacturing of generics, Teva has implemented a restructuring, aiming to establish leadership in high-value generics. By coordinating global R&D activities, Teva is trying to pursue first-to-market opportunities and to develop complex generic products. President of Global Research and Development (R&D) and Chief Scientific Officer expects that the complex generics share of Teva’s submissions to increase from 21% in 2013 to 59% in 2015 and that Teva’s net
operating margin to hopefully be enhanced.
4. Specialty Segment Analysis – Copaxone’s Patent Problems Copaxone is the leading product of specialty segment and one of Teva’s best-selling products with global sales of $3.9 billion in 2012 and $4.3 billion in 2013. Acting as Teva’s cash cow in the past few years, Copaxone accounts for 40% of the company’s overall net income. In May 2014, however, the patent of Copaxone expired earlier than its expected date of 2015. By reducing prices, Copaxone made up one-fifth of the company’s sales, but it is expected to lose 50% of its revenues by 2016, after its generic copies are launched. To deal with this impending threat, in March 2014, Teva launched an improved version of the drug Copaxone 40mg, with a higher dosage and lower frequency.
By August 29, 2014, 51% patients have already converted to the new drug, and the company is targeting a 65% conversion rate. Despite the introduction of the new Copaxone 40mg, troubles continue to pile up for the company. As Teva’s two generic competitors, Mylan and Sandoz both filed applications with the US Food and Drug Administration (FDA) for the development of generic versions of the new Copaxane 40mg. Teva was expecting to sue both companies for patent infringement, which will trigger a 30 months’ stay on the sale of any generic drug. However, if Teva is unable to get a favorable decision before the end of the stay period, Mylan and Sandoz can launch their similar products, as early as 2017.
5. Integration of Generic and Specialty Skills – NTE
Teva launched the New Therapeutic Entities (NTE) program in December 2012, which integrates Teva’s generic and specialty R&D skills and is deemed as an improvement of its existing New Chemical Entities (NCE) program. Through the NTE program, Teva is able to develop late-stage products from known molecules that offer unmet patient needs. Compared to NCE, NTE products have a much shorter timeline: the NTE process (figure2) is around 3-6 years while NCE take about 10-15 years from initial discovery to final submission. NTE also represent a lower development risk due to their already proved efficacy, while NCE have to go through an extremely costly procedure to gain regulatory approval and market access. The average process costs of NTE are between $10 million and $50 million, comparatively, NCE’s average costs are between $1 billion to $2 billion. 6. Investment Notes
6.1 Investment Suggestion – Hold
Based on the give fact above, a “hold” suggestion is given to the investment in Teva. Even though, Teva is making an effort to improve R&D activities, to maintain sales and to cut costs, the new version of Copaxone and the launching of NTE cannot guarantee Teva a promising future. There are a few big strategic management issues that haven’t been completely settled: Low net operating margin. A stable sale of Teva’s leading product Copaxone 40mg is still in doubt due to the unsettled regulatory issue and no efficient cost cutting plan has been given by Teva’s execution team to efficiently cut costs. Unclear M&A strategy. A new assign of CEO didn’t bring new and clear M&A plans.
If Teva keeps making the same wrong M&A decisions as before, not enough synergies will be achieved and Teva’s operating structure will be more decentralized, which can further harm the company’s efficiency. Insufficient focus on R&D. Although, Teva has implemented a NTE program, R&D expenditures of Teva is still lower than its peer group. Since R&D is a main origin of growth in pharmaceutical industry, a real focus on organic growth is the primary and most sustainable engine of growth for Teva.
6.2 Signals for a Change from “hold” to “buy”
The company should first of all, focus on their generic business and core R&D programs, including high-value complex generics, promising specialty medicines and New Therapeutic Entities. At the same time, it should really focus on increasing its organizational effectiveness through efficient cost reduction plans. And lastly, it should increase R&D expenditure while at the same time look for start-up companies as M&A targets so that it could produce the next Copaxone. In a word, the signals for a change of investment suggestion from “hold” to “buy” are: An increase in net operating margin.
A clear strategic M&A plan
An efficient cost cutting plan, and
A sufficient amount of R&D expenditure.
Other data sources
1. http://yourbusiness.azcentral.com/average-profit-margin-pharmaceuticals-20671.html 2. http://www.businessweek.com/articles/2013-10-10/tevas-trouble-with-generic-drug-competition 3. http://www.bloomberg.com/news/2014-05-21/teva-doomsday-scenario-seen-averted-as-patients-switch.html 4. http://www.bidnessetc.com/24872-tevas-patent-problems-continue/2/ 5. http://wallstcheatsheet.com/business/3-reasons-to-be-bullish-on-teva-pharmaceutical.html/?a=viewall