2023-08-08 10:34:31 ET
Summary
- Viatris Inc. announced its Q2 2023 earnings yesterday. Total net sales were $3.9bn, and free cash flow $447m.
- While like-for-like product sales grew year-on-year, EBITDA and FCF declined significantly, owing to increased SG&A and R&D spending.
- The company is looking to sell off assets - potentially its Established brands division in Europe - and focus on new product launches in eye care, dermatology, and gastroenterology.
- The outlook for 2023 is solid - revenues ought to increase across H223 - but divestitures could negatively affect the share price.
- Viatris has >$18bn of debt and the outlook is challenging despite management promising growth - nevertheless, the positives may just outweigh the negatives.
Investment Thesis
The last time I covered Viatris Inc. ( VTRS ) for Seeking Alpha, the company - which was formed via a merger between Pfizer's ( PFE ) UpJohn legacy brands division and generic drug giant Mylan, and began trading in November 2020, at $15 per share - had just appointed a new CEO, Scott Smith.
Smith was formerly President and Chief Operating Officer at Celgene Corporation, and I suggested in my post that in his new role, Smith was facing a baptism of fire.
Viatris is a sprawling company with 38k employees, 1.4k approved drug molecules, 40 global manufacturing sites, and a footprint in 165 companies. The company began life with ~$12.5bn of debt inherited from Mylan, and $12bn from Pfizer - $24.5bn in total - and a portfolio of assets that drove ~$18bn of revenues in 2021.
Driving the bulk of the revenues - $10.8bn in 2021, and $9.9bn in 2022 - is the Established Brands division, which consists of formerly best-selling drugs such as the statin Lipitor, blood pressure med Norvasc, depressive med Lyrica, Viagra, Ep-Pen and others. These drugs' revenues are in terminal decline as patents have long since expired and new products marketed in their place, but continue to provide a steady, if dwindling, source of revenue to the company.
The challenge for Viatris is to find ways to pay off its mountain of debt, and find new revenue streams to replace the steadily declining revenues from the established brands division, all while attempting to reward shareholders and keep the share price buoyant.
In that context, let's take a look at Q2 2023 , and 1H 2023 performance in more detail, to try to discover what progress is being made.
Viatris Q2 2023 Earnings Overview
As we can see below, from Viatris' Q2 2023 income statement there are reasons to be both cheerful, and fearful about last quarter's performance.
On the negative side of the ledger, revenues declined in every region, as total net sales fell from $4.1bn in Q2 2022, to $3.9bn last quarter, adjusted EBITDA and adjusted EBITDA margin both fell, as did net earnings, cash provided by operating activities, and free cash flow - by 38%, compared to the 5% decline in revenues.
CEO Smith only saw positives, however, commenting on the earnings call that:
the second quarter of 2023 was one of the strongest quarters we've had to date at Viatris. I could not be more pleased with our overall execution. The positive momentum of the base business continues to push us forward.
Smith interpreted the $3.9bn of revenues earned as a 2% year-on-year uplift, primarily owing to the fact that Viatris sold its biosimilars division to Indian Pharma Biocon last year for $2bn of cash upfront, and a $1bn equity stake in the company, giving Viatris a ~13% stake. There was, therefore, no revenue contribution from this division in Q2 2023.
Viatris earnings sale and EBITDA walk (Viatris earnings presentation)
As we can see in the above slide, new product sales of $124m and a $10m contribution from Tyrvaya - the dry eye disease therapy acquired via Viatris' $425m acquisition of Ophthalmology specialist Oyster Point last year - more than offset the existing base business erosion, and factoring in FX, Viatris did indeed grow revenues year-on-year.
With that said, the additional spending on SG&A, related to eye care, and on R&D - "to advance key programs across Eye Care, injectable and complex products," as Chief Financial Officer Sanjeev Narula explained on the earnings call, led to the strong decline in cash from operations and free cash flow.
Arguably another positive for Viatris is that, although its established brand revenues are declining product-by-product almost across the board, the declines are slight, as we can see above, and so long as this continues, Viatris can rely on a solid contribution from this source for a few quarters, and quite possibly years, yet, while adding new products such as Tyrvaya, and long-acting muscarinic agent YUPERLI
While complex generics sales declined substantially year-on-year, thanks to the biosimilars sale, the generics division also held up well, with revenues up 5% year-on-year, to $1.33bn - accounting for almost exactly one third of revenues generated in Q2 2023 - aided by new launches, e.g., Breyna, a generic version of Symbicort, the chronic obstructive pulmonary disease ("COPD") therapy, management is confident revenues will grow across both divisions in the second half of this year.
Finally, turning to FY23 financial guidance, management is projecting $15.5bn - $16bn of total revenues, adjusted EBITDA of $5bn - $5.4bn, and free cash flow of $2.3bn - $2.7bn. According to CEO Smith:
We intend to earmark approximately 50% of our free cash flow annually to be returned to shareholders in the form of dividends and especially share repurchases.
With the remaining capital, we intend to invest in our businesses, both organically and inorganically. I continue to be focused on looking for strategically significant transactions in ophthalmology, gastroenterology, and dermatology, as well as evaluating other therapeutic areas should the right opportunities arise.
Presently, Viatris' dividend pays $0.12 per quarter, which represents a yield of ~4.4%.
Looking Ahead - Planned Divestitures Likely To Unsettle Shareholders Despite Intriguing Pipeline
Last February, when Viatris announced it would be selling its biosimilars division, its share price immediately sunk from $14.5, to $10 - a decline of >30%. The reason for that was that shareholders were disgruntled the company appeared to be selling its most promising business division in terms of growth. Despite promising that the business would "grow" from strength to strength, management opted to downsize instead.
Based on CEO Smith's comments during the Q2 2023 earnings call, there will be more divestitures in 2023, meaning Viatris is likely to become smaller still before it starts to grow. Smith told analysts:
On executing our planned divestitures, we are on track to announce all transactions in 2023. As we said, executing these planned divestitures is a matter of strategic choice, not a necessity. I am extremely pleased with where we are in the process. We are currently in advanced stages of discussions with potential buyers and anticipate announcing at least one significant divestiture in the third quarter, possibly more.
It's unclear what divestitures these could be - although there has been speculation that its consumer health business in Europe is up for sale, and that a deal could be struck for >$3bn. Clearly, Viatris cannot rely on its legacy brands forever, and the company may get a better deal for such assets today than in 3 year's time, but as mentioned above, they can provide a valuable source of revenues compared to the more speculative new product launches.
Nevertheless, it seems Smith and the rest of Viatris' management have made up their mind to clear out the dead wood and focus on growing with potentially higher-margin, new product launches, either organically or inorganically. Smith told analysts on the earnings call:
I continue to be focused on looking for strategically significant transactions in ophthalmology, gastroenterology, and dermatology, as well as evaluating other therapeutic areas should the right opportunities arise.
Naturally, selling legacy assets is one way the company can generate funds to help it pay down debt, which is a major concern of the company's. The company reported $18.1bn of debt as of Q2 2023, meaning it has paid down >$6bn of debt across 10 quarters, and gross leverage ratio now stands at 3.4x, and Viatris says (in its earnings presentation) it paid down $181m in Q2 2023, and is "on track to repay ~$1.3bn of scheduled 2023 debt maturities."
The risk I see here is that Viatris seems to want to sell assets that are proven performers, even post-patent expiry, being some of the best-known, and best-selling brands of the last couple of decades - Lyrica, Viagra etc. - and replace them with new product launches whose fate is less certain.
Viatris does appear to have a strong pipeline. Its complex injectables segment consists of 13 complex injectables, 8 of which represent a first to market opportunity, and all but one of which are "under regulatory review."
With that said, the list shared in the earnings presentation mentions Ozempic and Wegovy, the diabetes / weight loss drugs developed by Novo Nordisk ( NVS ). These are relatively new to market and expected to earn the Danish Pharma hundreds of billions of revenues over the next decade - it seems highly unlikely that Viatris will bring a version of either of these drugs to market before the end of the decade.
If we take management at its word, however, complex injectables can make a >$1bn contribution to the top line by 2027, whilst management also believes its Novel and Complex Products pipeline can bring in a similar amount, by 2028. Once monthly Multiple Sclerosis therapy glatiramer could be approved in March 2024, with a "PDUFA" date agreed with the FDA, and 3 of the other 4 assets in this segment - opioid sparing therapy meloxicam, birth control med Xulane, and Effexor, indicated for anxiety - are all at the Phase 3 study stage.
Finally, the Eye Care division is projected to contribute >$1bn by 2028 with 4 assets at the Phase 3 stage, and Tyrvaya already approved.
Concluding Thoughts - Is Viatris Stock A Buy, Sell, or Hold after Q223 Earnings
In all honesty, it may be the case that Viatris' Q2 2023 earnings have thrown up more questions than answers.
On the plus side, the company is profitable, sales are growing thanks to new product launches, debt is being paid down efficiently, a dividend is being paid, share buybacks are being authorized and the pipelines in complex injectables, novel and complex products and eye-care are bubbling away nicely, offering the potential, management believes, for ~$3bn in additional revenues by 2028.
On the more negative side, debt is still significantly problematic, being >$18bn. Revenues are shrinking owing to the sale of certain business divisions, and more sales are planned, beginning this year. Older, trusted products are exiting stage left, to be replaced with new products that may not live up to their peak sales expectations, and some, if not many of the pipeline assets may be years away from launch given the products they mimic appear to have long-term patent protection in place.
Since listing, Viatris stock is down ~26%, and it is hard to make the case that a shrinking company offers upside potential for investors in the short-to-medium term. Ultimately, given the size and complexity of Viatris - a company with 38k staff and a global infrastructure - the challenges facing management are severe, and downsizing is arguably management's only option. Longer-term, growth is promised, and, therefore, the decision to Buy, Sell, or Hold Viatris stock comes down to whether you trust management to first shrink Viatris, and then grow it.
As a Viatris shareholder myself, I am keeping the faith, partly due to the stock's improving performance - it is up 15% across the past 12 months, and 12% across the past month. It is imperative that, as the divestitures mount up, management's roadmap for growth becomes clearer and clearer, or the market may lose faith and begin selling, creating a cycle of share price underperformance.
That is a very real threat, offset in part by dividends, share buybacks, and stable financial performance, set to improve in the second half of this year.
For further details see:
Viatris Q2 2023 Earnings Review: Buy, Sell, Or Hold After Mixed Results?