headache-1540220

An update on several fronts

PDL BioPharma 18 November 2015 Update

PDL BioPharma

An update on several fronts

Q315 earnings

Pharma & biotech

18 November 2015

Price

US$3.72

Market cap

US$611m

Net debt ($m) at end Q315

101.7

Shares in issue

164.2m

Free float

92.3

Code

PDLI

Primary exchange

NASDAQ

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(18.8)

(38.2)

(52.4)

Rel (local)

(19.5)

(36.6)

(52.6)

52-week high/low

US$8.26

US$3.72

Business description

PDL BioPharma has reinvented itself through a two-pronged strategy of investing in royalty streams of marketed and development-stage therapeutics, and providing high-yield debt financing to medical device and diagnostic companies with near-term product launches.

Next events

Launch of Zalviso in EU

H116

Solanezumab Phase III data

Q416/Q117

Analysts

Maxim Jacobs

+1 646 653 7027

Christian Glennie

+44 (0)20 3077 5727

PDL BioPharma is a research client of Edison Investment Research Limited

In its Q315 earnings release, PDL announced that Valeant may not have met some of the contractual obligations of its Depomed royalty agreement and PDL is now expecting to begin a royalty audit process by the end of the year. In addition, due to the recall of the Auvi-Q allergy injector on 28 October, there is a question about the Kaleo note, as a long absence from the market could lead to constraints in cash flow from that company. We do not believe any of these issues is major and at this stage are not making any significant changes to our forecasts. More recently, PDL announced that LENSAR, a company that had been put up for sale, was sold, reviving that investment, which had been impaired.

Year end

Revenue ($m)

PBT*
($m)

EPS*
($)

DPS
($)

P/E
(x)

Yield
(%)

12/14

581.2

501.3

2.04

0.61

1.8

16.4

12/15e

559.0

501.7

1.95

0.59

1.9

15.9

12/16e

206.3

154.6

0.59

0.60

6.3

16.1

12/17e

73.3

18.9

0.07

0.60

53.1

16.1

Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

Valeant has not been reporting or paying on time

Valeant is contractually obliged to report and pay monthly royalties on Glumetza, but appears to have failed to do so. PDL did not receive any payments in Q315, although it did receive payment in late October. In response to this and to other issues (note that Valeant acquired Glumetza via its takeover of Salix, which had been guilty of massive channel stuffing), PDL expects to initiate a royalty audit process by the end of 2015. The timing of its conclusion is unclear.

Auvi-Q recalled, but there is an interest reserve

Sanofi, which markets and manufactures Auvi-Q, announced its recall due to manufacturing issues, and it is unclear when Auvi-Q will return to the market. The $150m Kaleo note is backed by Auvi-Q royalties from Sanofi, so a long absence from the market could affect cash flow to PDL. However, with a $20m reserve account, interest payments to PDL should be covered through at least Q116.

LENSAR sold with ALPHAEON assuming debt

LENSAR has been sold to ALPHAEON with ALPHAEON, assuming $42m in debt and issuing PDL $12.5m in company stock. The note will now be functional again, providing PDL with cash flow through Q318.

Valuation: $6.30 per basic share

We have slightly increased our valuation from $1,024m or $6.20 per basic share to $1,034m or $6.30 per basic share. This increase is due to the inclusion of an additional note deal, the LENSAR acquisition, lower net debt and shares outstanding than we expected, although it was partially mitigated by lower than expected Glumetza royalties in 2015.

Q315 earnings

With the final royalty payments linked to the Queen et al patents coming in Q116, PDL is about to turn a page on a new phase of its existence. In preparation, PDL has been acquiring both royalty and debt-based, income-generating assets, with the hopes of funding both its operations and dividend into the foreseeable future.

Valeant’s murkiness strikes Glumetza

In October 2013, PDL acquired the royalty and milestone rights related to several products (see Exhibit 1) for the treatment of Type II diabetes from Depomed for a total of $240.5m, the largest royalty acquisition deal that PDL has made to date.

Exhibit 1: Royalties acquired from Depomed

Product

Company

Royalty rate

2014 sales

Glumetza (extended release metformin)

Santarus/Salix/Valeant

32% until 2014, 34.5% from 2015, gross margin split post generic intro (~45%)

$298m

Janumet XR (Januvia + extended release metformin)

Merck

~2%

$419m

Invokana + extended release metformin

Jannsen

Unknown

N/A

Jentadueto XR (Tradjenta + extended release metformin)

Boehringer Ingelheim

Unknown

N/A

Jardiance + extended release metformin

Boehringer Ingelheim

Unknown

N/A

Extended release metformin in Korea and Canada

LG Life Sciences and Valeant

Unknown

Unknown

Source: PDL, Wolters Kluwer

Currently, the bulk of the Depomed royalties comes from Glumetza, an extended-release metformin, which is the number one metformin on the market today. It had been receiving a 32% royalty until the end of 2014, will receive a 34.5% royalty for 2015 and later and then will split the gross margin once a generic is introduced (we estimate this should effectively translate to a 45% royalty, depending on the final price).

In the Q315 earnings release, PDL announced that Valeant may not be meeting its reporting and payment obligations. It is contractually obligated to report and pay monthly royalties on Glumetza, but had failed to do so. PDL received no payments in Q315, although it did receive a net $16.9m payment in late October covering the July to September period. Valeant had also failed to provide timely explanation about the absence of reports on Glumetza sales in July and August. Given this situation and the fact that Glumetza was the subject of massive channel stuffing by Salix, which led to erratic and somewhat unverifiable royalties, PDL expects to initiate a royalty audit process by the end of 2015. It is unclear how long the process will take and whether PDL has in fact been underpaid any royalties.

Good outcome for LENSAR following impairment

LENSAR is commercialising its laser cataract surgery system in both the US and EU. This is a competitive area where the systems are expensive (~$400,000 per machine) and, based on comments from refractive surgeons, it remains unclear whether it improves outcomes. PDL had previously announced that it had entered into a forbearance agreement with LENSAR following violation of a liquidity covenant. As at the Q315 results, the LENSAR note was considered impaired while PDL funded LENSAR as it negotiated a sale. It is therefore good news that ALPHAEON has agreed to assume the $42m debt to PDL and has issued it with $12.5m in common stock. The note will now be functional again, providing PDL with cash flow through Q318.

Auvi-Q recall may put Kaleo cash flow at risk

Auvi-Q is an epinephrine product that was developed by Kaleo, but is manufactured and marketed by Sanofi. On 28 October, Sanofi announced that the product was being recalled as a result of inaccurate dosing in some of the units and it is unclear how long Auvi-Q will be off the market. Kaleo currently owes PDL $150m, which is backed by 100% of Auvi-Q’s royalties and 10% of Evzio (its naloxone-based product) sales. As part of the agreement with PDL, Auvi-Q created an interest reserve account with $20m of the $150m received from PDL. With this reserve account, PDL’s cash flows from Kaleo are likely to be safe through to at least the end of Q116, but an extended market absence could put them at risk. For now we are not changing our forecasts for Kaleo cash flows to PDL.

First CareView tranche paid

On 29 June 2015, PDL announced a new credit agreement with CareView, a company focused on patient care monitoring. The company’s products include virtual bed rails, which can detect if a patient is in danger of falling out of bed, and allow for remote patient monitoring, reducing the cost of having a sitter in the room with high-risk patients. As part of the agreement, PDL agreed to provide two tranches of $20m each based on the achievement of milestones. The first tranche was paid on 7 October after CareView acquired a new revenue-generating product and has a 13.5% coupon. The second tranche will be based on a milestone attained on or before the end of June 2017 and will have a 13% coupon. Each tranche will last for five years. PDL also received a warrant to purchase 4.4m shares of stock at $0.40 per share (approximately 5% warrant coverage), which expires on 26 June 2025. Following the payment of the first tranche, we are now including CareView in our NPV calculation and have increased our forecast accordingly.

An additional $4m for Paradigm Spine

Paradigm Spine is a spine implant technology company. Its coflex Interlaminar stabilization device is approved in the US and 40 other countries across six continents. Originally it owed PDL $50m at 13% interest, but has just amended the credit agreement so that Paradigm could receive an additional $4m for general purposes and promotional activities. As part of the deal, Paradigm can borrow a second tranche of up to $3m through Q216.

Valuation

We have slightly increased our valuation from $1,024m or $6.20 per basic share to $1,034m or $6.30 per basic share. This increase is due to the inclusion of the CareView deal in our NPV, an upward adjustment to the value of the LENSAR note following its acquisition and lower net debt than we had estimated for end Q315, as well as fewer shares outstanding, although it was partially mitigated by lower than expected Glumetza royalties in 2015. The company should remain profitable through 2018, although it may have to raise additional capital or cut the dividend to pay off all of the $300m in debt due in that year. It plans to make additional investments over the next few years that will have near-term, income-generating prospects, which should help PDL retain its cash flow-positive qualities. However, there is a question mark over the long-term sustainability of its model, as most of its income-generating deals are set to expire in 2018-19 (and a few are already impaired) and some of the royalty deals may disappoint. However, if solanezumab reaches the market as we expect in 2018, it could be a turning point for PDL’s long-term prospects and cash flow position, as it is expected to be a multi-billion product from which PDL would receive 2% royalties. Solanezumab royalties would last 12.5 years and would not be associated with any additional costs.

Exhibit 2: PDL valuation

Royalty/Note

Type

Expiration year

PDL balance sheet carrying value

NPV

Queen et al

Royalty

2015

N/A

$138.4

Depomed

Royalty on Glumetza and other products

2024

$178.2

$261.4

VB

Royalty on Spine Implant

Undisclosed

$16.9

$23.6

University of Michigan

Royalty on Cerdelga

2022

$71.6

$29.4

Lilly

Royalty on solanezumab

2030

N/A

$161.4

DirectFlow

Note

2018

$51.8

$49.8

Wellstat

Note (Impaired)

Unknown

$50.2

$50.2

Hyperion

Note (Impaired)

Unknown

$1.2

$1.2

Avinger

Royalty

2018

N/A

$3.7

Lensar

Note

2018

$50.3

$58.5

Paradigm Spine

Note

2019

$49.9

$55.3

Kaleo

Note

2029

$151.5

$155.0

Acelrx

Royalty on Zalviso

2027

$65.3

$67.5

Ariad

Royalty on Iclusig

2033

$49.9

$80.1

Careview

Note

2022

N/A

$19.0

Total

 

 

 

$1,135

Net Debt (Q315) ($m)

($101.7)

Total firm value ($m)

$1,034

Total basic shares (m)

164.2

Value per basic share ($)

$6.30

Total options

0.8

Total number of shares

165.0

Diluted value per share ($)

$6.27

Source: Edison Investment Research, company reports

Financials

PDL reported $227.5m in cash and cash equivalents in Q315. This decrease was mainly due to the $115m that was invested in the Iclusig and Zalviso royalty streams. With PDL still receiving royalties for the Queen et al patents through 2015 and the beginning of 2016, we expect it to be very profitable and cash flow positive through this period, as it has a low operating cost base. However, in February 2018 it will have $300m in debt due, which will either need to be paid or refinanced. Based on our current projections, PDL may need to make an additional capital raise to pay it off in full or to cut the dividend.

Exhibit 3: Financial summary

$’000s

2013

2014

2015e

2016e

2017e

Year end 31 December

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

 

581,225

558,969

206,266

73,265

Cost of Sales

0

0

0

0

Gross Profit

581,225

558,969

206,266

73,265

General & Administrative

(34,914)

(31,123)

(33,612)

(36,301)

EBITDA

 

 

 

546,311

527,847

172,653

36,964

Operating Profit (before GW and except.)

 

 

546,311

527,847

172,653

36,964

Intangible Amortisation

0

0

0

0

Other

0

0

0

0

Exceptionals

0

0

0

0

Operating Profit

546,311

527,847

172,653

36,964

Net Interest

(38,896)

(26,151)

(18,065)

(18,023)

Other

(6,143)

0

0

0

Profit Before Tax (norm)

 

 

 

501,272

501,695

154,588

18,941

Profit Before Tax (FRS 3)

 

 

 

501,272

501,695

154,588

18,941

Tax

(179,028)

(175,593)

(54,106)

(6,629)

Deferred tax

(0)

(0)

(0)

(0)

Profit After Tax (norm)

322,244

326,102

100,482

12,312

Profit After Tax (FRS 3)

322,244

326,102

100,482

12,312

Average Number of Shares Outstanding (m)

158.2

167.1

170.4

173.8

EPS - normalised (c)

 

 

 

203.66

195.20

58.97

7.08

EPS - FRS 3 (c)

 

 

 

2.04

1.95

0.59

0.07

Dividend per share (c)

61.1

58.8

60.0

60.0

Gross Margin (%)

100.0

100.0

100.0

100.0

EBITDA Margin (%)

94.0

94.4

83.7

50.5

Operating Margin (before GW and except.) (%)

94.0

94.4

83.7

50.5

BALANCE SHEET

Fixed Assets

 

 

 

606,453

705,298

637,793

579,241

Intangible Assets

0

0

0

0

Tangible Assets

62

51

81

111

Royalty rights

259,244

370,256

378,389

341,785

Other

347,147

334,991

259,323

237,345

Current Assets

 

 

 

355,897

286,782

285,725

276,263

Stocks

0

0

0

0

Debtors

300

594

594

594

Cash

291,377

243,691

221,304

218,342

Other

64,220

42,497

63,827

57,327

Current Liabilities

 

 

 

(187,983)

(36,267)

(11,425)

(299,384)

Creditors

(318)

(421)

(421)

(421)

Short term borrowings

(175,496)

(24,842)

0

(287,959)

Other

(12,169)

(11,004)

(11,004)

(11,004)

Long Term Liabilities

 

 

 

(313,930)

(330,759)

(333,582)

(48,474)

Long term borrowings

(276,228)

(282,285)

(285,108)

0

Other long term liabilities

(37,702)

(48,474)

(48,474)

(48,474)

Net Assets

 

 

 

460,437

625,055

578,511

507,646

CASH FLOW

Operating Cash Flow

 

 

 

292,281

288,284

49,147

(33,855)

Net Interest

0

0

0

0

Tax

0

0

0

0

Capex

(49)

(18)

(30)

(30)

Acquisitions/disposals

21,360

(77,398)

33,735

73,207

Financing

0

0

0

0

Dividends

(96,557)

(98,307)

(102,240)

(104,284)

Other

(159,420)

(7,252)

22,000

62,000

Net Cash Flow

57,615

105,308

2,612

(2,962)

Opening net debt/(cash)

 

 

 

300,978

160,347

63,436

63,804

HP finance leases initiated

0

0

0

0

Exchange rate movements

0

0

0

0

Other

83,016

(8,397)

(2,981)

(2,851)

Closing net debt/(cash)

 

 

 

160,347

63,436

63,804

69,617

Source: Company accounts, Edison Investment Research

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