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B.A. in economics and MBA from top 10 business school. I have over 10 years of M&A / corporate finance experience. Currently head the New York Shock Exchange, a youth mentorship program that teaches investment management skills and ... more

Teva: Berkshire Believes Bondholders Will Provide 'Mullet Money'

Date: Saturday, February 24, 2018 3:42 PM EST

 

Teva CEO Kare Schultz

Teva (TEVA) has been reeling since Mylan's (MYL) generic Copaxone was approved Q4 2017. Having one's most-profitable drug go generic is never a good thing. Teva has also been hampered by the $40 billion acquisition of Allergan's (AGN) generics business. The company's credit metrics have been in a steady state of decline. It could potentially wilt under its $32 billion debt load, yet the stock is up over 80% since reporting disappointing Q3 earnings in November. 

Bershire Hathaway (BRK-B), (BRK-A) even took a position in the Teva, which really assuaged Teva bulls. Below I explain what Berkshire could see in Teva.

Teva Will Survive

Despite being up 80% since its Q3 2017 earnings report Teva is still down by over 43% Y/Y. It is the largest generics drug maker in the world and the last time I checked branded drugs were still going generic and consumers were still buying them. This phenomenon will not change any time soon. Secondly, the company's credit metrics have continued to decline. Its debt/run-rate EBITDA was 5.0x in Q2 2017, 5.3x in Q3 2017 and 5.4x in the most recent quarter. This occurred despite paring debt from $35 billion in Q2 2017 to $32 billion in Q4 - albeit aided by asset sales.

The rating agencies have reacted rather negatively to Teva's deteriorating credit metrics. Fitch downgraded the company's debt two notches to junk status in November. Moody's downgraded Teva to junk in January and S&P followed suit earlier this month. However, despite having a high debt/EBITDA ratio the company's reputation and status as the largest generic drug manufacturer means that banks will likely be willing to let Teva restructure its debt. According to Bloomberg, the company is working with Evercore to review strategic options for its debt. That includes potentially shrinking its revolving credit facility and extending the payment period for some term loans.

Teva generates $1.5 billion in quarterly EBITDA. Management could spin a story that expected savings from cost cuts ($3 billion) and plant closings could buffet further EBITDA declines. By delaying debt maturities the company could kick the can down the road for years. This could give traders ample time to speculate on the stock and voice wild predictions on how high TEVA could go. Valeant's (VRX) debt/run-rate EBITDA is hovering around 7x. The company has been paring debt via asset sales. VRX hit a 52-week low in the first half of 2017 shortly after lead investor, Bill Ackman of Pershing Square (PSHZF), abandoned the stock. VRX has more than doubled off its 52-week low due to asset sales, a reduction in deferred tax liabilities and bets on its survival. Berkshire could be betting on a similar melt up for Teva.

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