Teva Pharmaceuticals:Buy, Sell or Hold?

The business

• Teva Pharmaceuticals (NYSE: TEVA) is the world’s largest generic-drug maker.

• Since its 2011 acquisition of Cephalon, Teva also has a decent branded pharmaceuticals business.

• Multiple-sclerosis drug Copaxone was until recently Teva’s largest profit-driver, but it has now lost patent protection in the U.S.

The irony in the Copaxone case

• Teva has typically been the generic-drug maker pushing to speed the introductions of generics.

• With Copaxone, Teva’s profit stream from patent protection got jeopardized by generics.

• The company tried (and failed) to get Copaxone’s patent protections extended in the U.S.

Does Teva have any options to save Copaxone?• Teva does have a version of Copaxone with patents

that will last until 2030.• The key benefit: 3x per week injection instead of the

daily injection from standard Copaxone.• The key risk: No proven health benefits other than

convenience vs. standard Copaxone.• The big question: Will insurers cover branded

3x/week Copaxone or only reimburse up to the generic daily product’s price?

How much is at risk?• Copaxone brought in around $4 billion in revenue

for Teva last year.• Copaxone delivered about 20% of Teva’s total

revenue and around half the company’s profits.• Even with the 3x per week version, Teva expects its

revenue from Copaxone to drop by around $1.1 billion in 2014 vs. 2013.• 2015 will likely show further drops vs. 2014, as Teva

had patent protection for the early months of 2014.

Who’s bringing on the generic competition?

• Two external teams are launching generic versions of Copaxone, based on Teva’s expiring patents• Mylan (Nasdaq: MYL) and India’s Natco• Momenta Pharmaceuticals (Nasdaq: MNTA) and

Novartis (NYSE: NVS)

• Teva itself could leverage its generics expertise to deliver generic Copaxone, but with direct competitors, its profitability will be greatly reduced.

So what?

• Teva will survive, but the journey won’t be smooth.• Leadership changes:• CEO Jeremy Levin abruptly stepped down late last

year due to “board squabbles.”• Chairman Phillip Frost announced plans to retire,

partially due to concerns with the size of the board of directors.

• Around 5,000 job cuts are being made to reduce costs.

What will Teva’s future look like?

• Analysts (rarely a pessimistic bunch) estimate flat or slightly declining earnings for Teva over the next few years as it digests the loss of Copaxone.

• Teva is relying on both cost cutting and revenue from its pipeline of new pharmaceuticals to return to growth.

• Even after losing Copaxone, Teva expects to earn between $4.20 and $4.50 for 2014.

Key Financial Factor Review -- Balance Sheet

• Teva’s balance sheet looks reasonable -- and strong enough to get it through its recovery.• Debt/equity ratio around 0.5• $900 million in cash on its balance sheet• 1.2 current ratio

Teva could be here, based on its balance sheet.

Key Financial Factor Review -- Dividend

• Teva’s dividend is covered, but near-term growth may be at risk due to the loss of Copaxone profits.• Payout ratio is 68% before loss of Copaxone, but Teva

also faced one-time costs to litigate in support of Copaxone

• Dividend growth slowed in 2014 on Copaxone risks and restructuring costs

Teva could be here, based on its dividend.

Key Financial Factor Review -- Valuation

• Market price of $52.45 on June 26, 2014• Fair-value estimate between $44.35 and $47.50• If the company improves efficiency and manages to

grow its way out of its post-Copaxone slump, that estimate may increase over time

• If the company continues to struggle, that estimate may be reduced over time

Teva could be here, based on valuation.

Net conclusion: Hold, but watch carefully

Teva’s composite result

• The company is working through a rough patch.• Its balance sheet remains strong enough, and its core

generic operations profitable enough, to see it through.• Its softer dividend growth is a sign it understands those

risks. Future dividend growth (or lack thereof) will help investors judge the company’s confidence in its recovery.

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