Laboratorios Farmacéuticos ROVI — Strength in heparins; next up DORIA

ROVI reported operating revenue of €303.2m for FY18 (+10.0% y-o-y), driven by strong growth in the speciality pharmaceutical business (+15.8% to €248.6m), offsetting declines in the toll manufacturing business (-10.6% to €54.6m). The speciality pharmaceutical business consists of approximately 40 marketed products across nine core franchises. Total revenues (including other operating income of €1.6m) grew 9.9% to €304.8m in FY18.

ROVI reported strong growth in its internally developed LMWH franchise (anticoagulants), which consists of its flagship, second-generation LMWH Hibor (bemiparin) and Becat, a biosimilar of enoxaparin (first-generation LMWH). Since launching Becat in Europe (end 2017), ROVI has strengthened its franchise with both Hibor and Becat growing simultaneously in Spain, and will build on over 20 years of experience in the LMWH market as it looks to evolve into one of the top players in the LVMH market.

Becat has experienced a strong uptake in sales (€30.2m) in FY18, beating guidance of €20–30m for the year. The product has received approval in 24 EU countries and is available in eight, including the core EU5 (UK, Germany, France, Spain and Italy). Becat launched in France in September 2018 through an agreement with Biogaran, a leading player in the French biosimilar market; ROVI expects to be directly marketing in France by end Q119. We continue to forecast total peak sales of €160.2m for Becat, which includes Europe and the international opportunity ex-US. Exhibit 1 highlights the sales trajectory across the last five quarters. ROVI is no longer providing guidance for FY19 Becat sales expectations; we forecast Becat annual sales to grow by 80% to €54.4m in 2019 based on the strong quarterly growth seen in H218.

Sales of Hibor in Spain grew to €67.4m in FY18 (+14.7%), which is better than we had expected. In Spain, Hibor has partially benefited from the launch of Becat; Hibor is administered once a day vs Becat twice a day and Hibor has been placed on preferred formulary positioning. Furthermore, availability of enoxaparin biosimilars has translated to reduced detailing by Sanofi for its branded enoxaparin (Clexane) in Spain. Hibor sales in international markets declined 5% (€23.8m), reflecting shifts in market dynamics caused by the launch of Becat (enoxaparin biosimilar) in Europe and the impact of exchange rates (particularly the TRL/euro rate). We forecast Hibor sales of €96.8m in 2019.

In the broader portfolio of in-licensed products, growth in Neparvis (heart failure, in-licensed from Novartis) and Volutsa (benign prostate hyperplasia, in-licensed from Astellas) sales offset declines in the mature portfolio. The cholesterol franchise (Vytorin, Orvatez and Absorcol) faces challenging conditions as the active principle of these products (ezetimibe) went off-patent in Q218. ROVI has provided operating revenue guidance of high single-digit growth for 2019. We have increased our FY19 total revenue forecast to €335.4m from €322.0m (implying 10.6% y-o-y growth) from an increase in our expectation of Hibor and Becat, mitigating reducing the sales expectation of mature products.

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 Letrozole ISM Phase I), ongoing marketing of Becat, and the in-licensing or acquisition of additional products. ROVI is a profit-generating company and the capital raise ensures these near-term costs are covered, importantly, it has also provided an increase in liquidity to the stock with an improvement in the free float. ROVI reported end-FY18 net cash at €61.3m (FY17 net debt at €2.5m) based on cash of €95.5m and debt of €34.2m (FY17: cash of €40.7m and debt of €43.2m).

ROVI reported gross profit of €176.2m (+5.4%) in FY18; we note a reduction of gross margins to 57.8% from 60.3% in FY17. This is a function of lower volumes in the higher-margin injectables business, Becat launches in several new markets and an increase in LMWH raw material prices (30% higher in 2018). Operating profit decreased to €17.5m in FY18 and operating profit margins declined to 5.7% FY18 (6.6% in FY17), reflecting higher R&D and SG&A expenses plus €1.1m non-recurring expense linked to compensating employees for a change in the working conditions at the Frost Iberica plant.

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, 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. We forecast an absolute 1.1pp improvement in operating margin from 10.7% in 2016 to 11.8% in 2020. Margins should ramp up beyond this as the operating leverage from enoxaparin sales starts to flow through to the P&L, whereas R&D levels will decrease to €22m pa in 2020–21.

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. Becat is a product of the R&D invested by ROVI and the ramp-up in sales of this enoxaparin biosimilar has positive longer-term implications for development, mainly through operational leverage.

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, which should provide the operational leverage to enable operating margin expansion. Gross margin evolution should benefit from 2022 as the high-margin asset DORIA starts to contribute to the top line. In the nearer term, given management’s guidance the gross margin depression is likely to persist until 2020 (due to the inflation in LMWH raw materials). We have reduced our guidance for gross margin to 57.5% for 2019 (from 58.5%); however, our guidance for PBT has increased slightly to €26.9m (from €26.1m), driven by the 24.5% growth we now anticipate in revenues from the LMWH franchise (€151.2m).

ROVI’s internally developed biosimilar of enoxaparin, Becat, is a key driver of near-term, top-line growth. With proceeds set aside from the capital raise to rejuvenate the product portfolio, ROVI has recently acquired rights to market three new products (Falithrom, Polaramine and Polaracrem), which had combined net sales of c €9m in 2017 (for a total cost of €22.5m).

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 long-acting injectable (LAI) 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 revised valuation of ROVI is €1.23bn or €21.9 per share, from €1.13bn. We have rolled forward our model, reflected the current FX spot ($1.14/€) and updated for net cash of €61.3m at 31 December 2018. We have tweaked up our Hibor and Becat sales forecasts for 2019 and 2020, and lowered expectations for the mature pipeline. We value DORIA US and EU using a standalone NPV calculation (Exhibit 5) and derive value for the rest of the business by using a DCF of our sales and P&L model excluding DORIA (Exhibit 4). Compared to ROVI’s current portfolio of drugs and footprint, the US opportunity for DORIA is large and a key valuation driver, accounting for 17.7% of our valuation (EU DORIA accounts for 10.4%).