Teva - taking position
All,
Please find our updated analysis and model here.
We have become to build a position, long 2027’s and short 2020’a Euro bonds, with a view to benefiting from an early settlement of the opioid litigation, while protecting ourselves from an excessive default risk but not from risk associated with a protracted litigation.
Over the last week, we have been answering the below questions:
1 Ratings: Effect of further potential ratings downgrades and the impact on the bonds and the availability of the RCF.
There is no impact on the RCF availability subject to ratings changes. There is a matrix of margins and ratings for the RCF but we are currently at the lowest ratings so no further increase in margins is possible on the RCF.
Fitch downgraded Teva from BB to BB- in June 2019 and Moody’s affirmed the rating at Ba2 in August’19 but revised the outlook to negative from stable. S&P have Teva on negative outlook, BB since February. All three rating agencies have similar concerns: Legal exposure via the Opioid crisis and price fixing litigation, Price declines in their core generic business, persistent high leverage and failure to refinance large debt maturities falling due in 2021. The rating agencies are comfortable that the Company has the FCF plus cash reserves to meet debt maturities in 2020.
Neither the share price or the price of the bonds have produced a material reaction to either of the above downgrades. Nevertheless, any future downgrades will be from BB to single B and could therefore produce a more substantial reaction.
It is unlikely further downgrades is forthcoming before new numbers for Q3 or more likely any adverse settlement or otherwise in relation to the litigation.
Therefore, downgrade to single B is unlikely in the short term, and even in such an situation, RCF availability would remain intact.
2 Litigation Process:
Will it turn out to be a similar process and quantity to the Tobacco settlements?
The tobacco settlements with 46 states compensated with more than $200bn for decades of tobacco-related healthcare costs. The Opioid epidemic is not anywhere close to that scale: the crisis has taken place over a shorter time frame and hasn’t resulted in as many deaths. More than 47,000 Americans died from opioid overdoses in 2017, including heroin and fentanyl, a synthetic opioid. Cigarette smoking is responsible for 10x as many deaths.
Fitch have reported that lawsuits may be able to recoup some governmental expenditure for treating addiction and social fallout of addiction but redress as a result of court decisions or legal settlements is not likely to significantly affect government budgets. Compensation will not be as much as provided for in the 1998 tobacco master settlement agreements. Another argument in favour of the opioid producers is opioids are FDA approved prescription medication, and the sale of opioids are a small fraction of tobacco product sales.
Notwithstanding this, there is significant potential liabilities. Teva has settled in Oklahoma for $85m and have provisioned $646m in Q2 accounts for legal costs, majority for the Opioid litigation risk. The Oklahoma case is significant in that the judge dismissed Teva’s argument that its liability be limited, because those drugs can’t be marketed and are shipped with the prior approval of the FDA.
Sizing Teva’s potential liability.
From our analysis, we infer a potential $5bn liability for Teva, both from extrapolating its reached settlement in Oklahoma and in comparison to external settlements:
Oklahoma:
- Johnson and Johnson only company to conclude the trial process in Oklahoma (although they are going to appeal the award). J&J were ordered to $572m in damages.
- Teva settled early 2019 for $85m
- Purdue Pharmaceuticals settled for $270m
Ohio
- Endo and Allergen have settled for $15m to avoid trial in October 2019. (This caused the share price of Teva to rally 7% on expectation of lower liabilities if these cases were used as precedents).
- Mallinckrodt have tentatively agreed to a $30m settlement to settle two cases in Ohio. Note Mallinckrodt are highly indebted and are trying to divest their contract manufacturing unit and are constantly rumoured to be heading for Chapter 11 (we have not made any analysis on Mallinckrodt). Mallinckrodt, which has U.S. headquarters in St. Louis but is domiciled in Ireland, makes branded and generic medicines as well as raw materials for rivals’ products. The company has manufactured opioids for years. From 2006 to 2012, its opioids represented 38% of the total prescription opioids sold in the U.S., making it the country’s single largest manufacturer of prescription opioid pills during that period, according to an analysis by The Wall Street Journal of more than 378 million transaction records in a Drug Enforcement Administration database.
The other companies set to face trial in October 21st include Purdue Pharmaceuticals, Teva, and J&J with additional distributors also to face trial including Cardinal, AmericourceBergen and McKesson.Press reports suggest that distributors have offered $10bn (countered by $45bn) to settle their liability in the opioid crisis.
There is still a possibilty of a lower settlement given Teva’s involvement primarily on the generic drug.
Happy weekend
Tomas