LZAGF - Lonza: Lower Expectations For 2023

Summary

• With the JPM healthcare conference (in line with the CEO indication) and the latest results, we decide to lower our 2023 EBITDA assumption.
• Despite that, Lonza is still attractive on an EV/EBITDA basis.
• Higher dividend per share and solid balance sheet. Our buy rating is still confirmed.

After a few months, today we are back to comment about Lonza Group AG (LZAGY) thanks to a recent update held at the JPMorgan Healthcare conference and the just-released FY results . Our buy case recap was supported by the following: 1) a higher discount on the EV/EBITDA multiple compared to its CDMO players, 2) a unique industry with earning defensiveness thanks to a raw material pass-through 3) a higher discount on the company's growth rate expectation , and key to report, 4) the green light from the FDA for its first Alzheimer's early-stage treatment called Aducanumab which compared to Roche (RHHBY) was not another key fail . For the above reason, last time, we left unchanged our target price at CHF 650 per share with a publication called - Lonza: Positive News From Biogen .

Early morning, our Swiss CDMO player reported its full-year results and released its Fiscal Year 2023 guidance. Top-line sales were better than consensus expectations by 1% and the company managed to beat the EBITDA core margin by more than 8%. So today, we are not surprised to see a positive stock reaction (+5%). The company's key driver was higher performance achieved in Biologics and Small Molecules division that totally offset CGT. However, the 2023 yearly outlook was below expectations with revenue at high single-digit (versus cons at double-digit) and core EBITDA at 31% (versus cons at 32%).

Key to note is also the fact that Lonza reiterates mid-term guidance both in sales and margins. The company increased its DPS by 17% and announced a share repurchase program of up to CHF 2 billion.

Despite that, with the recent conference , and the latest company's projection, we update the following:

1. The company will likely increase its cost basis in 2023. Compared to our previous expectations, we now assume higher energy costs and salary inflation. In numbers, we are almost doubling Lonza's energy cost from CHF 110 million in 2022 to CHF 205 million in 2023;
2. With the new update, we forecast lower COVID-19 revenue. In detail, we believe that Moderna's top-line sales will fall from CHF 220 million to CHF 70 million with a margin of approximately 40%;
3. Despite point 2), even if the COVID-19 mRNA vaccine peaked in 2022, the long-term potential of mRNA is still there;
4. Still related to the market, the CDMO market is forecasted to grow at a double-digit rate for the next 5 years. The company has a full order book with visibility over 2023. With a healthy pipeline, there is a strong contract resiliency for Lonza;

5. Lonza's top management reiterated important returns on new projects with IRR > 15% and ROIC > 30% still maintaining a CAPEX to sales at 1x.

Conclusion and Valuation

With the new assumptions, we are now lowering Lonza's EBITDA margin by 3.5% in 2023. This is due to lower vaccine demand and higher energy costs. There is a potential for higher hedging expenses on the currency development too. Regarding the company's valuation, Lonza is trading at a higher discount rate compared to the last time (20%). It is now at 28% versus its Global CDMO players. In numbers, Lonza trades at 16x 2023 EV/EBITDA compared to the average peers at 22x. The company offers a 13% return on sales and a forecast EPS growth of 17% until 2026. For this reason, we decide to maintain our overweight; however, with our lower assumption, we decrease Lonza's target price to CHF 620 from CHF 650. Aside from the usual pharmaceutical risks, the company might suffer from a slowdown in CDMO demand, margin pressure from wage inflation, and CAPEX investment competition which might reduce the company's profitability.

For further details see: