“Now, the big sort of elephant in the room a year ago, I mean maybe you could see still an elephant in the room, but at least it’s more tamed now. That’s the debt. We came from $35 billion, and we’ve been doing our best to bring it down.”
That was Teva CEO Kare Schultz’s take on the drug maker’s problem when he spoke at a J.P. Morgan health care conference in January.
>> Read more: The price-fixing claims look worse for Teva than they really are | Analysis
But the fact is, the stock market isn’t nearly as convinced as Schultz that the beast is under control. Since he spoke, Teva’s share price has fallen 36% on the Tel Aviv Stock Exchange, nearly two-thirds of that this week after news that the Israeli company was cited in a U.S. lawsuit as the linchpin in an alleged price-fixing scheme for generic drugs.
Since Schultz took over in November 2017, Teva’s share price is down 13.5%. The yield on its nine-year bonds has risen 80 basis points in the last month to 4.43% at a time when yields on benchmark U.S. Treasuries have been in decline. The market is sending a strong signal about the company’s ability to repay its debt.
The elephant is alive and kicking and the main reason is growing angst that Teva’s legal woes could crimp its ability to service the debt, most of which it ran up buying Actavis Generics in 2017.
The lawsuit, which is being pursued by 44 U.S. states, alleges that Teva and 19 other generic drug makers schemed to inflate drug prices – sometimes by more than 1,000% – and stifle competition. Teva has vowed to fight the allegations.
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Because generic drugs are commodity products like sugar or flour, the fact that prices could suddenly rise by so much stokes fears that this could only have been done if the pharma companies cooperated. As the largest generics maker in the world, with about 13% of the U.S. market, Teva would have had to play a major role in the alleged price fixing.
If the states, led by Connecticut, can prove in court that Teva indeed raised the price of 112 drugs in coordination with its rivals, the company could suffer heavy damages. That in turn would further undermine its already limited ability to repay net financial debt that stood at $26.7 billion at the end of March.
On Wednesday, HSBC estimated that Teva would have to pay $3 billion in cash to settle the lawsuit and cut its target price for Teva stock to $10 from $13. Analyst Steve McGarry said the company was in a particularly difficult situation because it has been cited as the central figure in the alleged price fixing.
Meanwhile, a trial begins in two weeks in a lawsuit brought by Oklahoma’s attorney general accusing drug makers of helping fuel America’s opioid epidemic that’s alleged to have killed 47,600 Americans in 2017 alone. On Monday, an Oklahoma judge rejected a motion by Teva and Johnson & Johnson to have the case thrown out.
The two lawsuits are likely to weigh even on the pharmaceutical companies that are most financially healthy, but Teva isn’t among them – not only because of its heavy debt load but also because of its contracting cash flow from current operations.
That’s due to a decline in prices in Teva’s key U.S. generics market as well as the emergence of generic competition for its best-selling multiple sclerosis treatment, Copaxone. Another propriety product, ProAir for treating asthma, is also suffering declining sales. In the first quarter, sales of proprietary drugs dropped by $440 million.
Teva has been counting on two new treatments – Ajovy for migraines and Austedo for the chorea associated with Huntington’s disease and tardive dyskinesia – but they have barely filled the gap. In the first quarter, their sales grew by just $64 million.
Migraines are a big and promising market, but since the company launched Avjoy last September it has encountered strong competition. It faces even more when Dublin-based Allergan introduces its own migraine drug, which unlike Avjoy and its competitors can be taken orally.
The prospect that Teva will return to growth next year, as Schultz predicts, is looking increasingly slim. Instead, it looks increasingly likely that the company will seek to make bondholders suffer a loss.
A sharp decline in a company’s market value, as has happened to Teva, often makes it an inviting target for a hostile takeover. But Teva has put up defenses such as clauses in the company charter limiting the ability to move operations out of Israel.
In addition, its debt, reduced cash flow, poor growth prospects and the fact that it has already undergone deep cost cutting, leaving little room for more, make Teva an unattractive target. The lawsuits make it downright ugly.
This increases the likelihood that Teva’s board will approve a share offering, reduce its debt and let it repay the rest at a lower interest rate.
On the eve of Schultz’s arrival at the company, the board had explored an offer by the Odessa-born British-American billionaire Len Blavatnik to put $3 billion into the company and assume control.
Schultz has repeatedly rejected the idea of an equity offering on the grounds that it would only be done at a deep discount to Teva’s market price and dilute existing shareholders. Given Teva’s current woes and the new low for its share price, he may now have to compromise.