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Taro's Excellent Results Could Spell Death Knell for Buyout Bid

Taro, a generic drug company specializing in dermatological treatments, issues a preliminary and unaudited report showing quarterly sales jumping 44% from the previous year, to $148 million.

Taro Pharmaceutical Industries reported outstanding fourth-quarter 2011 results on Friday, capped by a 245% increase in operating income. The upshot is that the company's exceptional performance could kill an unwelcome and already tenuous buyout proposal of minority shareholders by parent company Sun Pharmaceuticals Industries of India, holder of a 67% stake in the company.

Taro, a generic drug company specializing in dermatological treatments, issued a preliminary and unaudited report showing quarterly sales jumping 44% from the previous year, to $148 million. Interim CEO Jim Kedrowski warned that much of the growth in sales and earnings had derived from price increases on selected products in the U.S. market and might not be sustainable.

Gross profits, which climbed 73% compared with the fourth quarter of 2010, to $106 million, represented the most notable characteristic of the report. Gross margin rose from 51.6% the year before to 71.6% in 2011 - exceptionally high for any industrial firm, and more so among generic drug companies. The sharp increase is believed to be attributable - alongside higher prices - to increased use of active steroid-based cream and ointment ingredients made in Israel replacing external purchases and other raw materials and packaging originating in India.

Taro's operating income soared 245% compared with the parallel quarter, to $74 million, representing 50.2% of turnover compared with 21.0% the previous year. This was partly due to a 22% drop in marketing and administrative expenses, which totaled $21 million for the quarter, 14.8% of turnover. This was apparently achieved by a sharp cutback at the company's U.S. headquarters and, to a lesser extent, in Israel. Research and development costs remained flat at $9 million, reflecting a weak product pipeline that saw just one request for the approval of a generic product in the fourth quarter and just three in all of 2011.

The company earned $62 million in net income for the quarter - $1.40 per share and a 278% rise over net income posted in the fourth quarter of 2010. Taro had net earnings totaling $183 million for the year, compared with $64 million in 2010.

Taro shares jumped 10.3% in New York following the news, on eight times the average daily trading volume, to $34.75 per share. This price indicates a company value of $1.55 billion and is 42% higher than Sun's buyout offer from October of $24.50 per share.

Sun's offer now reflects a miserly 4.75 price-earnings ratio based on annual 2011 profits. Taro's minority shareholders are likely aware that Sun itself is traded on the Bombay Stock Exchange at a $11 billion company value, reflecting a P/E ratio of 30, even though the Indian parent ascribes one-third of its consolidated sales and as much as 50% of its profits to Taro.

It is fair to assume that Prof. Dov Pekelman, who heads a special committee appointed by the board of directors to examine Sun's offer, will now recommend to the board that Sun be asked to consider dramatically upping its offer to reflect Taro's performance and prospects.