Mercer Capital's Value Focus: Animal Health | Q4 2014 | Segment: Pharmaceutical and Biotechnology

Mercer Capital's Value Focus: Animal Health | Q4 2014 | Segment: Pharmaceutical and Biotechnology

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  VALUE FOCUS Animal HealthIndustry www.mercercapital.com SEGMENT FOCUS Pharmaceutical & Biotechnology 2014 Q1: Veterinary Services Q2: Retail & Pet Services Q3: Veterinary Services Q4: Pharmaceutical & Biotechnology Pharmaceutical & Biotechnology Overview 1 Pharmaceuticals 2 Biotechnology 3 Laboratory Testing 3 Other MA Activity 4 Sector Outlook 5 Animal Health Industry 6 LTM Stock Prices by Industry Segment 6 Publicly Traded Animal Health Companies 6 About Mercer Capital 7
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  © 2015 MercerCapital 1 www.mercercapital.com SEGMENT FOCUS 2014 Fourth Quarter Pharmaceutical Biotechnology BUSINESS VALUATION FINANCIAL ADVISORY SERVICES As demand for improved care for companion animals and livestock increases, the development of animal pharmaceuticals and bio- technology will continue to grow. Laboratory testing is becoming increasingly routine at veterinary clinics, increasing demand for lab services and equipment. Many veterinary clinics offer in-office laboratory tests, but in-office tests are often costly and require the purchase or lease of equipment, maintenance of equipment, and trained technicians. The number of companion pets and food ani- mals also impacts the demand for animal pharmacology and bio- technology. There are currently an estimated 85 million households with at least one pet and the increasing meat consumption has prompted the recovery of livestock herd sizes. Pharmaceutical Biotechnology Overview -50.0% 0.0% 50.0% 100.0% 150.0% 200.0% ChangefromBeginningofPeriod IDXX PETS HSKA ZTS PETX ABAXSource: Bloomberg Pharma / Biotech LTM Historic Stock Prices
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  Mercer Capital’s ValueFocus: Animal Health Industry Fourth Quarter 2014 © 2015 Mercer Capital 2 www.mercercapital.com Pharmaceuticals Animal pharmaceutical companies develop and distribute medica- tions, ranging from flea medicine to heart worm preventative drugs to antibiotics. Pharmaceutical companies often rely on third party suppliers to manufacture some of their products, placing them in a position of elevated risk. Pharmaceutical companies also typically sell their products to distributors who then market the products to vet- erinary service providers. Heska, Corp. (HSKA); Zoetis, Inc. (ZTS); Phibro Animal Health Corp. (PAHC); and Aratana Therapeutics, Inc. (PETX); are publicly traded companies that dominate the production and distribution of animal pharmaceuticals. PetMed Express, Inc. (PETS) distributes pharmaceuticals to pet owners throughout the country. Most of the companies operating in the pharmaceuticals segment of the animal health industry have experienced positive growth trends throughout the past year. Zoetis, Inc., which spun off from Pfizer in 2013, currently ranks as one of the largest animal health companies in the world. Zoetis has experienced modest growth in its share price. On November 12, 2014, William Ackman, a hedge fund manager known for his activist policies, announced his acquisition of an 8.5% stake in Zoetis. Experts believe that Zoetis might become a prominent part of Ack- man’s portfolios. PetMed Express, Inc. announced in January 2013 that revenue for the nine months ending December 31, 2012 had declined 3.0% relative to the same period in the prior year. Despite net income remaining relatively flat, PetMed shares fell 20% by the end of Jan- uary. Lackluster performance has resulted in the stock price being unable to fully recover, and the shares remain depressed, over 16% below their trading value a year ago. Consumers continue to prefer lower-margin and more-easily-obtainable generic medications to the brand name products primarily offered by PetMed Express. Phibro Animal Health Corp. (PAHC), which produces and markets various animal health and nutrition products, executed its IPO on April 10, 2014. Although it raised $176.5 million, Phibro’s shares ini- tially priced at $15, below the expected range of $16-$18. Between the offering and the end of the quarter, however, Phibro’s shares rose almost 50%, closing the third quarter at $22.41. At the time of the IPO, Phibro reported LTM revenue of $672 million and EBITDA of $84.38 million. At the $15 IPO per share price, Phibro had an implied market capitalization of $581.9 million, implying rev- enue and EBITDA multiples of .86 and 6.89, respectively. Following its IPO in June 2013, Aratana Therapeutics is yet to report positive net income. As a result, its share price has fallen almost 40% during the last twelve months. Aratana currently has several dog and cat medications in development, including new treatments for lymphoma, although these medications are still pending regulatory approval and are not expected to be launched until 2016. -10.00% -5.00% 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00% 35.00% 40.00% $0.00 $5.00 $10.00 $15.00 $20.00 $25.00 Stock Price Percent Change from IPO Source: Bloomberg PAHC Post – IPO Performance
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  Mercer Capital’s ValueFocus: Animal Health Industry Fourth Quarter 2014 © 2015 Mercer Capital 3 www.mercercapital.com Biotechnology Laboratory Testing Animal health biotechnology companies research, develop, and test health-related equipment, tests, and products for companion ani- mals and livestock. Biotechnology helps diagnose, treat, and pre- vent costly diseases. There is currently uncertainty surrounding the future of animal biotechnology, which will be largely affected by gov- ernment regulation and public opinion. Although the FDA said that Aquabounty’s genetically engineered salmon was safe for human consumption in December 2012, Aquabounty is still waiting for approval as the FDA decides whether it will allow genetically engi- neered salmon to be a food product. Heska Corp, in particular, has experienced stock price growth in excess of 100% during the last twelve months. In March 2014, Hes- ka’s stock price jumped over 25% in a single day based on its fourth quarter earnings release. Although the company experienced a modest net loss for the year, revenue jumped almost 8.0%, largely due to exceptional fourth quarter improvements. Heska has continued its ongoing acquisition activities by acquiring an equity stake in one of its suppliers. Heska also acquired a con- trolling interest in Cuattro Veterinary USA, LLC, an animal health imaging and radiography distributor. Cuattro was and remains a key supplier for the company. Heska paid $7.57 million for a 54.6% interest in Cuattro, implying a total enterprise value of $13.8 million for the equipment sales company. Following the transaction, Heska rebranded Cuattro as Heska Imaging. Heska funded the transaction using currently available cash and equity, without resorting to using debt or a initiating a capital raise. Abaxis, Inc. has experienced modest growth after share prices dipped in the fourth quarter of 2013. Abaxis, which manufactures medical equipment for both human and animal health purposes, conducts business on an international level. Abaxis is heavily dependent on MWI Veterinary, Inc., which distributes approximately 20% of its equipment worldwide. During the six months that ended September 30, 2014, revenue from veterinary instruments declined 23%, while revenue from veterinary consumables increased 23% relative to the same period in 2013. Other veterinary products and services increased 72%. The routine use of diagnostic testing at veterinary clinics has increased demand for veterinary laboratories. IDEXX Labora- tories, the veterinary testing laboratory with the largest share of industry revenue, estimates that half of all diagnostic veterinary lab testing is outsourced to third party labs. In general, laboratory testing service providers require significant investment in equip- ment and machinery. Based on strong earnings throughout the past year, IDEXX’s share price has risen 18% during the last twelve months, performing slightly better than the SP 500 during the same period. Rev- enue and net income had increased 11% and 8%, respectively, during the nine month period ending September 30, 2014, relative to same period in the prior year. IDEXX has narrowed the focus of its operations recently, investing in a veterinary testing laboratory and divesting itself of a veterinary hospital operator, both within the last seven months. Abaxis, Inc. which also operates in the laboratory testing field, has also reported increased demand for laboratory testing services, resulting in greater revenues. Abaxis has experienced declining costs in laboratory services, enabling it to expand its gross margin.
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  Mercer Capital’s ValueFocus: Animal Health Industry Fourth Quarter 2014 © 2015 Mercer Capital 4 www.mercercapital.com MA Activity 4Q 2013 1Q 2014 2Q 2014 3Q 2014 VCA, Inc. (WOOF) 10.12 10.24 10.67 11.36 MWI Vet Supply (MWIV) 19.64 18.11 16.03 15.46 PetMed Express (PETS) 9.49 7.70 8.19 7.82 Heska, Inc. (HSKA) nm 71.84 40.12 14.17 Zoetis, Inc. (ZTS) 16.78 13.90 14.97 16.55 Pet Smart (PETM) 8.17 7.42 6.55 7.53 IDEXX Laboratories (IDXX) 17.46 19.93 21.31 18.34 Phibro Animal Health (PAHC) nm nm 14.40 13.08 Abaxis, Inc. (ABAX) 23.69 24.36 31.60 33.08 Aratana Therapeutics (PETX) nm nm nm nm Source: Capital IQ Presented pricing multiples represent enterprise value relative to EBITDA from the prior twelve months EBITDA: Earnings before interest, taxes, depreciation, and amortization Trends in EBITDA Pricing Multiples Mergers and acquisitions in the pharmaceutical and biotechnology industry generally reflect consolidations of larger firms with access to a vast RD network and smaller firms with specific patents or drugs. This trend has been evident in the last twelve months. This consolidation is expected to continue through at least the next five years, resulting in potential cost efficiencies that may increase profits at the surviving companies. Elanco Animal Health, Inc., a wholly-owned subsidiary of Eli Lilly and Company (LLY), announced its planned acquisition of Novartis AG’s animal health segment in April 2014. The transaction would boost Elanco and make it one of the largest animal health compa- nies in the world, second only to Zoetis in terms of revenue. This transaction is part of Lilly’s expansion beyond human pharmaceuti- cals. As a result, animal pharmaceuticals are expected to generate 9% of Lilly’s total revenue. Additionally, Lilly expects to reduce the newly acquired business’s expenses by approximately 10%. Lilly paid $5.35 billion for the operating unit, around $2 billion of which was funded by debt. Novartis’s Animal Health segment reported revenue of $1.1 billion in 2013, implying a transaction multiple of 4.9x revenue. The transaction is subject to anti-trust review, but has already by approved by European and Indian regulators. In August 2014, Jaguar Animal Health, Inc. (JAGX) announced a planned IPO. The animal pharmaceutical company, which special- izes in developing gastrointestinal medications for companion and livestock animals, launched its first product in September 2014 and has several other products seeking approval from the FDA. With an expected price range of $7.00 to $9.00, the company is valued between $35 million and $45 million. The company expects to use the proceeds of its IPO to commercialize its products in order to distribute them broadly across the United States. Although no date has been announced for the IPO, Jaguar Animal Health hopes to complete the offering as soon as possible.
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  Mercer Capital’s ValueFocus: Animal Health Industry Fourth Quarter 2014 © 2015 Mercer Capital 5 www.mercercapital.com Sector Outlook The economic growth outlook for the animal health biotech industry is positive. Increasing demand for products and technology to treat companion animals, which are increasingly being considered full members of the family, will prompt continued investment in the industry. Biotech companies rely heavily on research and development. Evidence indicates that future growth of the industry will primarily be driven by increased testing of companion animals. New labs are expected to open in animal hospitals and the industry will see a trend to outsourcing of specialty lab tests. The increased use of human-based medical equipment and pharmaceuticals in animal health research should spur innovations in the animal health industry. The impact of governmental actions (including regulations, funding grants, and local tax laws) can have significant impacts on the industry. Innovations in commercial animal health continue as well. The application of GMO practices to animals will result in new areas of application for animal pharmaceuticals and biotechnology. In par- ticular, aquaculture is expected to grow rapidly in the next decade, due to recent productivity innovations. Aquaculture produced 66.5 million tons of fish in 2012, and farmed fish consumption surpassed captured fish consumption for the first time in 2014. According to the UN’s Food and Agriculture Organization, aquaculture production has the potential to grow as much as 4% annually. Number of Pets and Pet Expenditures
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  Mercer Capital’s ValueFocus: Animal Health Industry Fourth Quarter 2014 © 2015 Mercer Capital 6 www.mercercapital.com Company Name Ticker 30-Sept Price ($) 52 Wk Perform (%) Sales ($) Enterprise Value ($M) Debt/ Equity EBITDA Margin EV/ EBITDA (x) EV / Next Yr EBITDA (x) P/E (x) Veterinary Services VCA Inc. WOOF 39.33 43.2% 85.29 7,462.40 16.4% 18.5% 11.56 10.52 26.57 MWI Veterinary Supply, inc. MWIV 148.40 -0.6% 12.86 4,014.94 3.9% 4.3% 15.33 14.01 26.27 Median-Veterinary Services 93.87 21.3% 49.08 5,738.67 10.2% 11.4% 13.44 12.26 26.42 Pet Retail PetSmart Inc PETM 69.89 -7.0% 6,959.11 7,462.40 7.0% 13.50% 7.95 7.86 16.72 PetMed Express Inc PETS 13.42 -12.2% 228.84 272.03 0.0% 12.56% 9.46 9.66 15.79 Median-Pet Retail 41.66 -9.6% 3,593.97 3,867.21 3.5% 13.0% 8.71 8.76 16.26 Animal Pharmaceuticals and Biotech Heska Corp HSKA 13.19 127.4% 89.02 79.35 2.8% 8.19% 10.89 8.04 27.48 Zoetis Inc ZTS 36.88 nm 4,719.00 22,135.30 16.5% 23.99% 19.55 14.91 32.93 IDEXX Laboratories Inc IDXX 117.83 18.2% 1,487.92 6,412.42 11.3% 23.11% 18.65 16.02 30.68 Abaxis Inc ABAX 50.62 21.0% 184.27 1,140.56 0.0% 19.18% 32.27 27.80 66.60 Aratana Therapeutics Inc PETX 10.04 -38.6% 0.64 356.87 4.2% nm nm nm nm PetMed Express Inc PETS 13.42 -12.2% 228.84 272.03 0.0% 12.56% 9.46 9.66 15.79 Median- Pharma/Biotech 25.15 18.2% 206.55 748.72 3.5% 19.2% 18.65 14.91 30.68 Source: Bloomberg Note: Aratana’s recent IPO has resulted in nonmeaningful multiples and ratios in the short term. -30.0% -20.0% -10.0% 0.0% 10.0% 20.0% 30.0% ChangefromBeginningofPeriod Veterinary Pharma and Biotech RetailSource: Bloomberg Publicly Traded Animal Health Companies Median Percent Change in LTM Stock Prices by Industry Segment (Price-Weighted Indices)
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  Mercer Capital Animal Health Industry Services ContactUs Copyright © 2015 Mercer Capital Management, Inc. All rights reserved. It is illegal under Federal law to reproduce this publication or any portion of its contents without the publisher’s permission. Media quotations with source attribution are encouraged. Reporters requesting additional information or editorial comment should contact Barbara Walters Price at 901.685.2120. Mercer Capital’s Industry Focus is published quarterly and does not constitute legal or financial consulting advice. It is offered as an information service to our clients and friends. Those interested in specific guidance for legal or accounting matters should seek competent professional advice. Inquiries to discuss specific valuation matters are welcomed.To add your name to our mailing list to receive this complimentary publication, visit our web site at www.mercercapital.com. Mercer Capital has expertise providing business valuation and financial advisory services to companies in the animal health industry. Industry Segments Mercer Capital serves the following industry segments: • General, Specialty, and Emergency Care • Pharmaceutical Biotechnology • Retail and Pet Services Services Provided • Valuation of animal health companies and veterinary practices • Transaction advisory for mergers and acquisitions • Valuations for purchase accounting and impairment testing • Fairness and solvency opinions • Litigation support for economic damages and valuation and shareholder disputes Contact a Mercer Capital professional to discuss your needs in confidence. Nicholas J. Heinz, ASA 901.322.9788 [email protected] Samantha L. Albert 901.322.9702 [email protected] Mercer Capital 5100 Poplar Avenue, Suite 2600 Memphis, Tennessee 38137 901.685.2120 (P) www.mercercapital.com BUSINESS VALUATION FINANCIAL ADVISORY SERVICES