Teva Pharmaceutical Industries Limited: Q1 2018 Form 10-Q Summary
Business context and reporting period
Teva is a global pharmaceutical company focused on generic medicines, specialty medicines, active pharmaceutical ingredients and distribution. This unaudited report covers the three months ended March 31, 2018, with comparison to the three months ended March 31, 2017. Teva reported under a new operating structure for the first time, comprising North America, Europe and Growth Markets, with prior-period segment information conformed accordingly.
Financial performance and position
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net revenues | $5.065 billion | $5.650 billion | Down 10%; down 15% in local currency |
| Gross profit | $2.348 billion | $2.839 billion | Down 17% |
| Gross margin | 46.4% | 50.2% | Down 3.8 percentage points |
| Operating income | $1.525 billion | $895 million | Up 70% |
| Operating margin | 30.0% | 15.8% | Up 14.2 percentage points |
| Net income attributable to Teva | $1.120 billion | $645 million | Up 74% |
| Net income attributable to ordinary shareholders | $1.055 billion | $580 million | Up 82% |
| Diluted EPS | $1.03 | $0.57 | Up 81% |
| Cash flow from operations | $1.496 billion | $136 million | Significant increase |
Reported earnings benefited substantially from nonrecurring legal settlement income, including the Allergan working-capital settlement, the Rimsa settlement and reversal of the carvedilol litigation reserve. Legal settlements and loss contingencies produced income of $1.278 billion in Q1 2018, compared with a $20 million expense in Q1 2017.
- North America revenue was $2.531 billion, down 22%, and segment profit was $915 million, down 30%. Gross margin fell to 56.6% from 64.2%.
- Europe revenue was $1.442 billion, up 8% in reported dollars but down 6% in local currency; segment profit increased 41% to $377 million.
- Growth Markets revenue was $750 million, up 4% in reported dollars and flat in local currency; segment profit increased to $122 million from $40 million.
- COPAXONE revenue in North America fell 40% to $476 million due to generic competition. North American generic-product revenue fell 23% to $1.088 billion due to lower volumes and price erosion.
- Other revenues were $342 million, down 3%.
At March 31, 2018, cash and cash equivalents were $1.418 billion, compared with $963 million at December 31, 2017. Total assets were $69.181 billion and total equity was $20.102 billion. Debt was approximately $30.8 billion, compared with $32.5 billion at year-end 2017. Short-term debt represented approximately 4% of total debt, versus 11% at year-end.
Teva repaid approximately $6.5 billion of debt and issued approximately $4.4 billion of senior notes during the quarter. The $3 billion revolving credit facility was undrawn. Management stated that resources were sufficient to meet ordinary-course financial obligations for at least twelve months from the filing date. Ordinary-share dividends remained suspended, and preferred-share cash dividends were also suspended in Q1 2018 because of the accumulated deficit.
Material changes versus the prior comparable period
- Revenue declined primarily because of U.S. generic-market deterioration, COPAXONE competition, product divestitures and discontinued activities.
- Gross margin compressed materially, led by lower North American profitability, generic price erosion and reduced COPAXONE revenue.
- Operating and net income increased despite weaker underlying sales because of the $1.278 billion legal-settlement benefit and a $93 million net gain on the women’s-health divestiture.
- Other asset impairments, restructuring and other items increased to $707 million from $240 million, including $432 million of long-lived-asset impairments and $247 million of restructuring expense.
- Teva recorded a $180 million goodwill impairment related to the Rimsa reporting unit.
- Restructuring continued: global headcount had been reduced by approximately 6,200 full-time-equivalent employees since the restructuring plan was announced.
- Financial expenses increased to $271 million from $207 million, partly because of $60 million of early-redemption charges and accelerated debt-issuance-cost amortization.
- Teva adopted ASC 606 using the modified retrospective method; the cumulative adoption effect was immaterial.
Guidance, outlook, commentary and risks
The filing does not provide clear consolidated revenue or earnings guidance for 2018. Management expected an annual 2018 non-GAAP tax rate of approximately 17%, compared with 15% in 2017. Management emphasized cost reductions, restructuring and pipeline optimization, but near-term results remain exposed to generic price erosion, competition to COPAXONE, product launches, regulatory outcomes and foreign-exchange movements.
- Goodwill impairment sensitivity remains significant. Management estimated that a 0.5 percentage-point increase in the risk-free rate could result in additional impairment of approximately $70 million for Rimsa and $100 million for Growth Markets.
- COPAXONE faces existing and potential additional generic and oral multiple-sclerosis competition; patent litigation and appeals remain ongoing.
- Teva faces extensive patent, antitrust, product-liability, pricing, opioid, securities and government-related litigation. The filing states that outcomes may be material in a particular period and that loss ranges are often not reasonably estimable.
- In the Illinois pricing-reporting litigation, the state was seeking approximately $90 million of compensatory damages, subject to potential trebling, plus statutory penalties ranging from $362 million to approximately $1.2 billion.
- Teva reached settlements or recorded provisions in several antitrust matters, including Lidoderm and Aggrenox-related litigation. Other generic-price-fixing investigations and litigation remain pending.
- The PGT Healthcare partnership with Procter & Gamble was agreed to be terminated effective July 1, 2018, subject to regulatory approvals. Teva recorded a $56 million impairment related to an Indian plant and a $94 million impairment of its New Chapter investment in connection with the separation.
- The fasinumab program with Regeneron continued, but higher-dose regimens were discontinued following a safety and efficacy assessment; the lower-dose program may continue.
- Teva expected the FDA approval and launch of fremanezumab before the end of 2018, although the filing stated that approval was not expected by the mid-June PDUFA date.
Important facts for investors to verify
- Whether revenue stabilization and margin recovery can offset continued U.S. generic price erosion and the ongoing COPAXONE decline.
- The sustainability of cash flow excluding the $703 million Allergan payment, the Rimsa settlement and other unusual legal or divestiture proceeds.
- Debt-reduction progress, refinancing needs, interest costs and compliance with the revolving-credit-facility net-debt-to-EBITDA covenant if the facility is drawn.
- Additional goodwill and intangible-asset impairment risk, particularly for Rimsa, Growth Markets and Actavis Generics assets.
- The timing and commercial contribution of new products, including AUSTEDO, fremanezumab, biosimilars and generic launches.
- Developments in opioid, generic-price-fixing, antitrust, patent, securities and other litigation, including the potential for unrecorded losses.
- The impact of the P&G separation, restructuring execution, workforce reductions and plant closures on operating capacity and future costs.
- The effect of foreign-exchange movements and the eventual tax rate, including the provisional accounting for the U.S. Tax Cuts and Jobs Act.