2023-05-03 04:45:48 ET
Summary
- Theravance Biopharma has recently come under pressure from a reputable activist investor, Irenic Capital.
- The activist is pushing the company to initiate a large capital return and launch a strategic review.
- Shortly after the pushback from Irenic, Theravance increased the remaining buyback authorization to 22% of the company’s market cap as well as announced other positive strategic moves.
- Given that Theravance has 43% of its market cap in net cash, I expect the company to announce a tender offer at a significant premium to current prices.
- Irenic has estimated Theravance’s sum-of-the-parts value at $21/share, implying a 90% upside from current share price levels.
There has been quite a surge in the number of activist campaigns in biopharma companies recently, with multiple interesting investment opportunities popping up. Sifting through these situations and identifying the ones with the highest risk-reward is part of what I do at Special Situation Investing. This article covers one such interesting ‘biopharma activism’ case.
Theravance Biopharma ( TBPH ) is a $766m market cap commercial-stage biopharma focused on the development of respiratory medicines. After a large sale of its royalty interest in mid-2022 and subsequent debt repayment, the company has been sitting on a huge pile of cash - $328m as of December ’22 (43% of market cap). The management has so far been reluctant to return most of the excess cash to equity holders, with only $155m worth of stock (20%) repurchased since mid-2022. However, several recent developments suggest that an additional capital return might be in the cards here:
- In February ’23, reputable activist investor Irenic Capital (owns 4%) sent a letter to the company, claiming that the management’s capital return efforts have been lackluster. The activist urged the company to launch several initiatives, including launching a special dividend of $300m (39% of market cap), reducing corporate overhead, declassifying the board, and launching a strategic review.
- Shortly after the activist’s pushback, TBPH announced a number of measures, including expansion of the buyback authorization from $250m to $325m ($170m remaining), termination of research activities in its early-stage development program, and plans to declassify the board during the upcoming shareholder meeting. The management has noted intentions to buy back the remaining $170m worth of TBPH’s stock by year-end.
- TBPH recently came to an agreement with another equity holder hedge fund Weiss Asset Management (owns 12%) to appoint its nominee to the board. Weiss Asset Management is a value-focused investment manager with over $2bn in AUM. TBPH is currently Weiss’ second-largest position.
I expect TBPH to initiate a tender offer in a short timeline. Worth noting that TBPH had already launched a tender offer in September ’22 for 13-15% of outstanding shares at $9.75-$10.50/share. The offer ended up with barely any participation from TBPH’s equity holders (<1% of outstanding shares were bought). Given that TBPH shares now trade at $11.06/share (i.e. near the recent tender levels), a tender would likely come at a premium to the current share price. I would expect a tender offer of around $170m (the remaining buyback authorization) worth of TBPH’s stock or 22% of the current market cap. Worth noting that TBPH might also proceed with open market buybacks given TBPH’s decent trading liquidity, with an average daily volume of $6.8m over the last year. Either outcome would likely be a significant catalyst for a share price re-rate. There seems to be substantial headroom for a potential share price jump. The activist Irenic has estimated TBPH’s sum-of-the-parts value at close to $21/share or 90% above current share price levels.
Irenic Capital Management's Letter to Theravance Biopharma
Theravance Biopharma
Theravance Biopharma has been a standalone respiratory medicines-focused biopharma since its spin-off from parent Innoviva back in 2014. Prior to mid-2022, the company’s key assets were:
- Yupelri - a commercialized drug used for the treatment of chronic obstructive pulmonary disease. Yupelri, which was developed by TBPH and its collaboration partner Viatris (VTRS), was approved by the FDA in 2018. Viatris is currently leading the commercialization of the drug in the US and receives 65% of the revenues generated. Meanwhile, TBPH co-promotes the product and has a 35% sales share. TBPH is also entitled to receive royalties on potential Yupelri sales outside of the US where the product is currently not commercialized.
- Trelegy - an 85% interest in royalties payable by pharma giant GSK on worldwide net sales of its drug Trelegy Ellipta. The product is used to treat chronic obstructive pulmonary disorder as well as asthma.
- Inhaled JAKI - a phase 1 treatment program developed for the treatment of inflammatory lung diseases, such as asthma.
- Ampreloxetine - a phase 3 drug used to treat neurogenic orthostatic hypertension.
In July ’22, TBPH announced plans to sell its Trelegy royalty interest to Royalty Pharma for $1.1bn in cash + up to $250m in milestone payments. Since then, the company repaid $650m in debt and initiated capital returns via open market share buybacks and the above-mentioned tender offer. As part of its February '23 announcement, TBPH revealed plans to halt the development of inhaled JAKI and cut 17% of the workforce.
TBPH’s primary revenue stream currently is Yupelri's collaboration with Viatris. The company’s profit-share generated $44m-$49m in 2020-2022 revenues, with a record-high Q4’22 with $19.5m in sales attributable to TBPH.
Theravance Biopharma’s Current Assets:
Theravance Biopharma 2022 10-K
Valuation
Irenic Capital has estimated that TBPH might be worth $20.93/share. A breakdown of the activist’s sum-of-the-parts valuation is below:
Balance Sheet Cash - $4.80/Share. The activist has estimated TBPH’s pro-forma net cash at $333m or $4.80/share. At the last reported net cash levels (December ’22), the net cash position was $328m or $4.73/share.
Yupelri’s 35% Profit Share - $6.29/Share. Irenic values TBPH’s Yupelri’s 35% profit share in the US at $436m or $6.29/share. Since the FDA’s approval in 2018, Yupelri has generated increasing revenues, rising from $143m-$162m in 2020-2021 to $202m in 2022. Irenic expects the drug to generate $400m at peak US sales which is in line with the management’s expectations. The activist estimates Yupelri’s profit margins to expand from 30% currently to 60% when peak sales are achieved. Irenic’s valuation implies a 3.1x multiple on Yupelri’s peak sales and 5.2x on peak earnings.
Milestone Payments For Yupelri And Trelegy - $4.80/Share . The activist values the potential stream of Yupelri and Trelegy milestone and royalty payments at $333m or $4.80/share. This comprises three potential payments which have been described as “high probability” by the activist:
- Up to $258m from Yupelri global milestones. As part of the collaboration agreement between Viatris and TBPH, the company might receive up to $205m from Viatris. The payments would come in the form of sales milestones ($150m), regulatory actions in the EU ($10m), and potential future combination products ($45m).
- Up to $250m from Trelegy sales-based earn-outs until 2026. TBPH might receive up to $250m if Trelegy’s global sales reach and/or exceed certain thresholds. The first $50m payout will be triggered if Trelegy’s global net sales reach $2.9bn. This is a reasonable target as Trelegy global sales stood at $2.1bn in FY2022, growing 42% year-over-year. To reach this threshold, Trelegy revenues would have to expand at a relatively undemanding 8% CAGR from 2022 through 2026.
- $140m from Trelegy royalties sold to Royalty Pharma. As part of the royalty sale agreement, Trelegy royalty interests will revert back to TBPH in 2029/2031 for US/non-US sales. This means that TBPH will again be entitled to receive 85% of Trelegy royalty payments. Back in Jul’22, the management valued this future revenue stream at $200m.
Probability-Weighted Value of Ampreloxetine - $5.05/Share . Irenic estimates the value of TBPH’s phase 3 drug at $350m or $5.05/share. Phase 3 trial is expected to be initiated by the end of Q1’23. Irenic notes that the drug might reach over $1bn in peak sales given the pricing of a related drug Northera ($120k-$200k per dose, peak sales of $400m). Phase 3 trial will be partially funded with $25m received from Royalty Pharma. In exchange, Royalty Pharma will receive 2.5%-4.5% of ampreloxetine future sales. I think the interest in the drug from the pharma royalty giant might be an indicator of its potential.
Aside from the above-mentioned assets, TBPH is also entitled to two other potential payments:
- $238m from Pfizer for its pre-clinical JAK inhibitor program.
- Up to $105m from Alfasigma for gastrointestinal mobility disorder medicine velusetrag.
Irenic Capital Management
Irenic Capital is a newly established yet highly reputable activist investor led by Elliott Investment Management’s veteran Adam Katz. Irenic has led several ongoing high-profile campaigns, including at the Restaurant Group and News Corp. At News Corp., Irenic accumulated a 3% position and pushed back against Rupert Murdoch’s planned merger of News Corp and Fox Corp. The planned transaction was eventually called off. Adam Katz previously successfully worked on Elliott Investment Management’s campaign on Arconic where Elliott led a successful proxy contest, resulting in the resignation of the company’s CEO and the appointment of several Elliott-nominated directors.
Risks
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Back in September ’22, pharma giant GSK (GSK) sold its 13% ownership stake in TBPH at $9.75/share. However, this does not reflect GSK's valuation of TBPH and is instead related to TBPH’s sale of Trelegy, a drug that is marketed and sold by GSK, as post-royalty sale GSK no longer had an active partnership with TBPH. Trelegy was developed by GSK and Innoviva (INVA) (from which TBPH was spun-off) and received FDA approval in 2017. GSK previously sold its 32% stake in Innoviva in 2021.
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The activist Irenic’s valuation partially relies on the distant milestone, royalty, or drug value targets which inherently have low visibility. This does not allow investors to verify or sense-check the activist’s calculations.
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TBPH’s management has a tiny ownership stake (5%) and is very well compensated. To illustrate this, the CEO received $4.5m-$6.6m in annual compensation during 2019-2021. This suggests that the management might be incentivized to keep the company operating and potentially use excess cash to pursue acquisitions. Worth noting that during the latest earnings call, the management seemed somewhat hesitant about pursuing further capital returns after the authorized $325m is completed:
I think as Aziz pointed out, we're going to execute on the $325 million capital return if we can -- after looking at what's in front of us, if we can increase the returns to shareholders in the form -- in whatever form it might take, then we will do that. Obviously, we've got -- we'll still continue to spend on YUPELRI and a bit on ampreloxetine, but the -- we'll certainly look at returning capital as we can in excess of the $325 million.
Conclusion
At current prices, TBPH stock presents an interesting investment opportunity. The company seems to be trading substantially below its intrinsic value as estimated by the activist Irenic. The involvement of two activists and management’s recent actions gives confidence that a substantial capital return is in the cards here. I expect a potential tender offer and/or continuing share buybacks to lead to a significant share price re-rate.
For further details see:
Theravance Biopharma: Activist Pressure Might Lead To Substantial Capital Return