Espicom View: This has been a tough quarter for Endo Health Solutions; the company has faced a number of challenges amid a period of strategic operational changes that are intended to enhance the company's value. One of its current major problems lies within its Endo Pharmaceuticals business, which has suffered a series of recent setbacks regarding Opana ER, and has been hit by the loss of a significant portion of its revenue stream in just one month, due to the expiration of Lidoderm exclusivity. However, these problems were offset by Endo's strong Generics business. The company is capitalising Qualitest's strong position to action its strategic plan, as evidenced by the proposed acquisition of Boca Pharmacal, which we believe is a transformative move. Concerning its medical devices businesses, Endo has remained tight-lipped about its plans for the remainder of HealthTronics, only reiterating that it is 'considering strategic alternatives' for the unit. With the sale of HealthTronics' anatomical pathology business on the cards, we still believe that there is value in the business' urology product portfolio. While patients are deterred from the use of surgical mesh products, which contributed to falling sales for American Medical Systems in Q313, the urology product portfolio of HealthTronics could bolster American Medial Systems' Men's and Women's Health product sales. We believe that through the nurturing of its pipeline, and diversification of its product portfolio, American Medical Systems could prove to be a long-term growth driver for Endo Health Solutions.
In the midst of a transitional period for Endo Health Solutions, the company has reported Q313 (ended September 30 2013) total revenue of US$715.0mn, representing a decline of 4.7% compared with Q312 revenues of US$750.5mn. The company also experienced a 25.2% slump in net income in Q313, recording US$40.2mn compared with US$53.8mn in the comparative quarter. However, adjusted net income for the quarter increased by 5.0% to US$161.7mn, compared with US$153.1mn in Q312.
Reported diluted earnings per share (EPS) for Q313 was US$0.33, compared with US$0.45 for Q312. Reported diluted EPS for the period included a charge of approximately US$31mn, primarily to reflect the impact of an accrual for certain product liability claims and asset impairment charges related to ongoing strategic alternatives for the company's HealthTronics business of approximately US$38mn. Adjusted diluted EPS increased by 4.7% to US$1.34 for Q313 compared with US$1.28 in Q312.
In June, Endo outlined a number of strategic, operational and organisational steps it is taking to refocus the company and drive shareholder value. These actions are the result of a comprehensive assessment of Endo's strengths and challenges, its cost structure and execution capabilities and its most promising opportunities to drive future cash flow and earnings growth. Specifically, the company announced plans to:
• reduce annual operating expenses by US$325mn;
• explore strategic alternatives for its HealthTronics business and branded pharmaceutical discovery platform;
• improve R&D efficiency and effectiveness, with a focus on development capabilities and near-term revenue generating assets;
• enhance organic growth drivers across business lines through more effective execution;
• pursue accretive acquisitions within a disciplined capital allocation framework; and
• attract, retain and develop talent across the organisation within the context of a lean operating model.
Rajiv De Silva, CEO of Endo, who joined the company in March, stated that the changes are designed to bring sharper focus to Endo's strategic growth priorities while right-sizing the organisation. De Silva believes these actions will leave Endo with the right cost structure, leadership and execution capabilities to drive sustainable cash flow and earnings growth over time. During Q313, Da Silva stated that the company has implemented a leaner operating model, progressed in its branded drugs pipeline, entered into an agreement to acquire Boca Pharmacal and continued to assemble a strong leadership team to lead Endo towards its objective of creating a leading specialty healthcare company.
American Medical Systems
In Q313, American Medical Systems (AMS), Endo's medical devices business that provides products and therapies for treating male and female pelvic health conditions, reported sales of US$111.2mn, a decrease of 1.8%, at current exchange rates, compared with Q312. Endo attributed this to a decrease in Women's Health sales, which decreased by 17.7% in the quarter, compared with the same period in FY2012.
The decrease in Women's Health sales was due to year-on-year declines in US-based procedural volumes, reflecting ongoing industry shifts following the FDA's September 2011 Advisory Committee meeting regarding the use of surgical mesh in pelvic organ prolapse. AMS is focused on educational activities as part of an overall effort to continue to encourage patients and physicians to discuss the risks and benefits of surgical mesh devices as an important treatment option for patients who suffer from stress urinary incontinence and/or pelvic organ prolapse.
In the quarter, Men's Health sales increased by 5.5% compared with Q312, and represented the only segment in Endo's medical device operations to achieve growth. This was primarily attributable to growth in sales of male continence products, including the AMS 800 urinary control system and the AdVance male sling system for the treatment of male stress urinary incontinence.
Q313 sales of AMS' Benign Prostatic Hyperplasia (BPH) business remained relatively flat compared with Q312 revenue, decreasing by just 0.3% to US$25.5mn. This decrease was mainly due to lower sales of GreenLight laser system consoles, which was largely offset by increased sales of GreenLight fibres. The GreenLight system is used to relieve restrictions on the normal flow of urine from the bladder caused by bladder obstructions; generally the result of BPH or bulbar urethral strictures.
While Endo did not release specifics concerning the performance of the HealthTronics business, sales declined by 1.5% in Q313 compared with Q312, to US$53.6mn. In August, Endo entered into a definitive agreement to sell its anatomical pathology business, HealthTronics Laboratory Solutions (HLS), to Metamark Genetics. Endo is pursuing strategic alternatives for HealthTronics as a full business or its component parts and the sale of HLS creates progress in this process. As Endo has stated that HealthTronics has limited fit with the company's new strategic direction, which suggests that there are some parts of HealthTronics that are well suited to this strategy. With AMS sales also declining, Endo could keep the medical devices portfolio from the Urology Services business that are complementary to AMS' product lines, while divesting the services segment in an effort to boost revenue.
Q313 revenues from Endo Pharmaceuticals, Endo's Branded Pharmaceuticals business, were US$366.1mn, a 12.1% decrease compared with Q312 revenues of US$416.6mn This decrease was principally due to the decrease in net sales of Lidoderm (lidocaine patch for the relief of pain associated with post-herpetic neuralgia). Net sales of Lidoderm decreased by 37.1% compared with Q312, due to the effects of the loss of market exclusivity for the product in September. However, this fall in Lidoderm sales was partially offset by US$28.6mn of royalty revenues that Endo recognised per the terms of a settlement agreement with Watson Laboratories (now Actavis), concerning Watson's generic Lidoderm product.
Net sales of Voltaren (diclofenac gel for the treatment of signs and symptoms of osteoarthritis of the knee) increased by 26.9% to US$45.0mn, compared with Q312 sales of US$35.5mn. This increase was attributable to strong growth in demand. According to IMS Health, total prescriptions for Voltaren gel increased by 30% compared with Q312.
Net sales of Opana ER (oxymorphone hydrochloride, an analgesic indicated for the relief of moderate-to-severe pain) decreased by 3.7% compared with the prior year period, to US$59.9mn. This was mainly attributable to a year-on-year decrease in demand. According to IMS Health, total prescriptions for Opana ER decreased by 9% compared with Q312.
Finally, Q313 net sales of Fortesta (testosterone gel for the treatment of hypogonadism) increased by 70.3% over the prior year period, due to improved formulary access that facilitated a significant year-on-year increase in total prescription volumes for the product.
Endo recently entered into an agreement to acquire Paladin Labs in a share and cash transaction valued at approximately CAD1.6bn. The acquisition will accelerate Endo's strategic transformation and create a platform for future growth for the company's branded and generic drug businesses in North America and internationally. Paladin is a specialty pharmaceutical company focused on acquiring or in-licensing innovative pharmaceutical products for the Canadian and global markets. The firm has over 60 marketed drugs and partnerships with global pharmaceutical companies and a track record of enhancing the performance of existing and newly acquired products. Key products serve growing drug markets including attention deficit hyperactivity disorder, pain, urology and allergy, with a strong pipeline of new product launches over the next 12 months.
Qualitest Pharmaceuticals, Endo's Generics business, was the only Endo business unit to grow in Q313. Net product sales were US$183.9mn, representing an increase of 10.8% compared with Q312 net sales of US$166.1mn. This increase was primarily attributable to strong demand for Qualitest's diversified product portfolio. Generic product net sales of US$532.7mn during the first nine months of FY13 represented an increase of 13.0% compared with the first nine months of FY12. Qualitest continues to concentrate on additional process improvements and increased efficiencies in order to enhance profitability, in addition to focusing on sales growth.
In August, Qualitest entered into a definitive agreement to acquire Boca Pharmacal, a privately held specialty generics company, for US$225mn. The company expects the transaction to close during Q413 and is expected to be immediately accretive to Endo's adjusted diluted EPS. Endo's shares experienced a spike in value following the announcement of this acquisition, closing at US$56.22 on November 5.
|Quarter Ended September 30 (US$mn)||Q312||Q313||% chg|
|American Medical Systems|
|Other Branded Products||933||508||-45.6|
|Royalty and Other Revenue||3,935||30,232||668.3|
|Total Endo Pharmaceuticals||416,645||366,136||-12.1|
|TOTAL ENDO HEALTH SOLUTIONS||750,482||714,954||-4.7|
|Source: Endo Health Solutions|
FY2013 Financial Guidance
Endo's estimates are based on estimated results for the 12 months ending December 31 2013 and its current belief about prescription trends, pricing levels, inventory levels and the anticipated timing of future product launches and events. The company's guidance for reported (GAAP) EPS does not include any estimates for potential new corporate development transactions. For the full 12 months ending December 31 2013, at current exchange rates, Endo estimates:
• total revenue to be between US$2.75bn and US$2.80bn;
• reported (GAAP) diluted EPS to be between US$0.95 and US$1.10; and
• adjusted diluted EPS to be between $4.60 and $4.75.
The company's FY13 guidance is based on certain assumptions including:
• adjusted gross margin of between 64 and 66%;
• adjusted effective tax rate of between 28.0 and 28.5%: and
• expectation of a single generic competitor for Lidoderm until the end of FY13.
During Q313, Endo made payments of approximately US$17mn to reduce the outstanding principal of term loan debt associated with the acquisition of AMS. This brought the total repayments on this debt to approximately US$787mn, inclusive of approximately US$638mn in cumulative voluntary prepayments, to September 30 2013.
Despite a tough quarter for the company amid this period of transition, it is worth noting that Endo has more than doubled its annual revenue in the last five years, from US$1,260.4mn in FY08 to US$3,027.4mn in FY12. Net income suffered in FY12, largely due to acquisition-related charges, cost of sales and settlement agreements, a trend we expect to witness at the end of FY13. Nevertheless, Endo is well diversified, which is a good point of strength for the company. Its best new opportunities for revenue growth will come from better execution within its current businesses (as currently being actioned by the company's strategic plan), which could benefit from selective, accretive acquisitions of new assets, particularly within AMS.