ROVI Laboratorios Farmaceuticos — Becat on track; guidance uplifted

ROVI reported operating revenue of €218.9m for 9M18 (+7.6% y-o-y), driven by strong growth in the speciality pharmaceutical business (+14.7% to €180.3m), offsetting declines in the toll manufacturing business (-16.5% to €38.5m). Total revenues (including other operating income of €1.1m) grew 7.6% to €220.0m in 9M18. Highlights for 9M18 include:

ROVI has set out a clear strategy to launch its enoxaparin biosimilar, Becat, into key countries in the EU. As of 30 September, Becat received approval in 23 countries. ROVI has successfully launched Becat in Germany (September 2017), the UK, Italy, Spain (9M18), as well as Austria and Latvia in October 2018. Becat has been launched in France (September 2018) through an agreement with Biogaran, a leading hospital player in the French biosimilar market. ROVI reported €16.7m sales of Becat (enoxaparin biosimilar) in 9M18, of which 70% were in Germany and 16% in Italy, and expects FY18 sales to be at the higher end of its earlier €20–30m guidance for 2018. We have increased our forecast for Becat to €29.2m from €26.7m for FY18, given better than anticipated sales ytd. We continue to forecast total peak sales of €160.2m, which includes Europe and the international opportunity ex-US. Exhibit 1 highlights the sales trajectory across the last four quarters.

ROVI intends to launch Becat in other key European markets before Q119 and has recently established European sales offices that will facilitate the launch. Furthermore, this pan-European sales infrastructure will be leveraged to launch products from its wider portfolio offering in the future.

In terms of international commercialisation strategies, ROVI has signed a licensing agreement with Hikma (April 2018) for the distribution and marketing of its enoxaparin biosimilar across 17 countries in the MENA region (Kingdom of Saudi Arabia, Jordan, Algeria, Egypt, Tunisia, Sudan, Syria, Yemen, Iraq, Oman, UAE, Kuwait, Qatar, Bahrain, Libya, Palestine and Lebanon). Hikma has strong and long-established presence in these countries and this partnership bodes well for enoxaparin in these regions. In June 2018, ROVI signed a licensing agreement with Sandoz (Novartis’ generic and biosimilar division) to distribute and market its enoxaparin biosimilar in 14 countries/regions (Australia, New Zealand, Philippines, Hong Kong, Singapore, Vietnam, Malaysia, Canada, South Africa, Brazil, Colombia, Argentina, Mexico and Central America). Furthermore, under the terms of the agreement, Sandoz has exclusive rights in three of these countries (Hong Kong, Singapore and Vietnam). Partnering with Sandoz (and by extension Novartis) serves as an important validation, given its international presence in global generic and biosimilar markets.

ROVI’s internally developed biosimilar of enoxaparin, Becat, is a key driver of near-term, top-line growth. Future top-line growth and margin expansion rests on the broader portfolio offering. ROVI’s R&D focus is on its proprietary ISM technology, which centres on developing novel, long-acting (once a month or once every three months) formulations of approved drugs. Assets include DORIA ISM (Phase III schizophrenia) and Letrozole ISM (Phase I breast cancer). DORIA is a fast onset of action LAI version of risperidone (off-patent). As well as rapid onset of action, the key advantages are that there is no need for a loading dose or oral supplementation. The schizophrenia market is vast and growing steadily. We believe DORIA’s profile will provide it with a 5% share of the LAI (long-acting injectable) market and drive peak sales of US$411m (US and Europe) in 2027. DORIA is a high gross margin asset (85-95%) and will be the critical long-term driver of operating margins. ROVI expects to present PRISMA-3 DORIA data in Q219 and file the US NDA in H219.

Our valuation of ROVI has decreased to €1.13bn or €20.2 per share from €1.21bn. We have rolled forward our model and updated for net debt at 30 September, which reflects the recent capital raise. We have reviewed our gross margin and operating margin expectations for the business in the mid to long term. We expect some gross margin erosion in 2019-21 due to the lower launch price of Becat in Europe, which we expect to be offset somewhat by reducing our operating expense assumptions in Europe in the longer term as ROVI should leverage DORIA through its newly formed EU infrastructure. We make no change to our US DORIA SGA expenses nor to the cost of sales reps for DORIA EU. We have increased our forecast for Becat sales in 2018 and increased our Neparvis sales in 2018 and 2019, which has been offset by a slight reduction in Hibor international sales. Our valuation is underpinned by the sales potential of Becat and the base business retaining stable, low single-digit growth rates.

We value DORIA US and EU using a standalone NPV calculation (Exhibit 4) and derive value for the rest of the business by using a DCF of our sales and P&L model excluding DORIA (Exhibit 2). Compared to ROVI’s current portfolio of drugs and footprint, the US opportunity for DORIA is large and a key valuation driver (accounting for 17% of our valuation; EU DORIA accounts for 10%).

Our sum-of-the-parts valuation consists of:

In October 2018 ROVI raised gross proceeds of €88m from a capital raise that will be used to fund R&D efforts (DORIA Phase III and Letrozol ISM Phase I) and the ongoing marketing of Becat. We forecast a year-end cash position €88.4m. ROVI is a profit-generating company and the capital raise will ensure that near-term R&D costs are covered and, more importantly, provide an increase in liquidity to the stock with the improvement in free float.

We believe investors should focus on longer-term margin growth prospects for the group. While ROVI reports pre-R&D metrics such as ‘pre-R&D EBITDA’, which helps to demonstrate the profitability (and growth) of the underlying business as it stands currently, fluctuations in R&D and SG&A costs are likely to vary as management looks to maximise return on internal investment by investing in R&D and SG&A as necessary, and should be seen as part and parcel of the business.

ROVI has given guidance for R&D expenses (October 2017 DORIA presentation) in the region of €32m pa in 2018-19 and €22m in 2020 and 2021 to support clinical trials for Risperidone ISM and Letrozole ISM.

EB is a product of the R&D invested by ROVI and the ramp-up of enoxaparin sales has positive longer-term implications for development, mainly through operational leverage. Our original forecast for Becat was at a similar gross margin to Hibor (ROVI does not disclose divisional margins). At the 9M18 results, management outlined an expectation of gross margin erosion in the near term as Becat launches at lower prices in additional countries. We have therefore lowered our gross margin expectations in 2019-20 to reflect this. Gross margin evolution should benefit from 2022 as the high-margin asset DORIA starts to contribute to the top line.

In terms of operating margin, we believe that after the costs of the initial launch period for Becat are met (as ROVI invests in European selling infrastructure) and DORIA is launched in the US and European markets, longer-term total SG&A for the group will grow at a slower rate than sales, and this should provide the operational leverage to enable operating margin expansion.

However, in the near term, operating margins will be affected by the increased R&D spend relating to the Phase III risperidone and Phase I letrozole trials. We expect operating margins to further decrease in 2018 (from 10.7% in 2016 and 6.9% in 2017) to 4.9%, mainly due to higher R&D expenses, but also due to the increase in SG&A to support new product launches. We now anticipate operating margin growth in 2019 to 6.9% (from our pervious assumption of 7.9%), reflecting the reduction in gross margin forecasts. We forecast an absolute 1.4pp improvement in operating margin from 10.7% in 2016 to 12.1% in 2020. Margins should continue to ramp up beyond this period as the operating leverage from enoxaparin sales starts to flow through to the P&L, while R&D levels will decrease to €22m pa in 2020-21.