TEVA PHARMACEUTICAL INDUSTRIES LTD annual report, Q4 FY2011

Teva Pharmaceutical Industries Ltd. — Form 20-F Summary

Business context and reporting period

This annual report covers the fiscal year ended December 31, 2011, prepared under U.S. GAAP. The filing is an annual Form 20-F rather than a standalone fourth-quarter filing; fourth-quarter information is included only where separately disclosed. Teva is a global pharmaceutical company focused on generic pharmaceuticals, branded and specialty products, active pharmaceutical ingredients, biosimilars and over-the-counter products.

In 2011, approximately 56% of revenue came from generics, 35% from branded products and the remainder from OTC and other activities. Geographic revenue mix was approximately 48% United States, 31% Europe and 21% rest of world.

Key financial metrics

U.S. dollars in millions, except per-share data	2011	2010	Change
Net revenues	$18,312	$16,121	14%
Gross profit	$9,515	$9,065	5%
Gross margin	52.0%	56.2%	Down 420 bps
Operating income	$3,109	$3,871	(20%)
Operating margin	17.0%	24.0%	Down 700 bps
Net income attributable to Teva	$2,759	$3,331	(17%)
Diluted EPS	$3.09	$3.67	(16%)
Net cash from operating activities	$4,134	$4,136	Approximately flat

Net R&D expense was $1,095 million, or 6.0% of revenue, compared with $951 million, or 5.9%, in 2010. Approximately 57% of 2011 R&D spending supported branded products.
Selling and marketing expense increased to $3,478 million from $2,968 million. General and administrative expense increased to $932 million, but declined to 5.1% of revenue from 5.4%.
Legal settlements, acquisition, restructuring and other expenses and impairment totaled $901 million, compared with $410 million in 2010. This included $471 million of legal settlements, $201 million of impairment, $192 million of restructuring and other expenses, and $37 million of acquisition costs.
Reported income before taxes was $2,956 million and the income tax provision was $127 million, representing a 4% effective tax rate. Management expects future tax rates to be higher as product and geographic mix changes.

Revenue and operating trends

Generics revenue increased 3% to $10,196 million. U.S. generic revenue declined 32% to $3,957 million because of lower sales of prior launches and supply constraints associated primarily with the Irvine and Jerusalem facilities. European generic revenue increased 44% to $3,810 million, while rest-of-world generic revenue increased 64% to $2,429 million.
Branded-product revenue increased 34% to $6,493 million, driven by Copaxone and the October 2011 acquisition of Cephalon. Central nervous system revenue increased 38% to $4,412 million.
Copaxone revenue was approximately $3,570 million; global in-market sales reached approximately $3.9 billion, up 18%. U.S. Copaxone sales increased 22% to approximately $2.8 billion, supported by a 14.9% January 2011 price increase and volume growth.
Cephalon contributed fourth-quarter revenue of approximately $350 million from Provigil, $86 million from Nuvigil and $131 million from Treanda. The filing expects Provigil U.S. revenue to decline materially when competition begins in April 2012.
OTC revenue increased 54% to $765 million, primarily reflecting the full-year inclusion of ratiopharm. The PGT Healthcare joint venture with Procter & Gamble began operations in November 2011 and had limited impact on 2011 results.

Liquidity, cash flow and debt

Total assets increased to $50,142 million from $38,152 million, largely due to acquisitions. Working capital was approximately $3,766 million.
Cash, cash equivalents and marketable securities totaled approximately $1,748 million at year-end, including $1,096 million of cash and cash equivalents.
Inventory increased to $5,012 million from $3,866 million, while inventory days improved to 168 from 180. Net accounts receivable declined to $1,800 million, aided by the securitization of approximately $558 million of receivables; net DSO improved to 30 days from 41.
Total debt increased to $14,516 million from $6,881 million, and financial leverage increased to approximately 39% from 24%. Long-term debt was $10,236 million and short-term debt, including current maturities, was $4,280 million.
Teva issued approximately $5.0 billion of notes in November 2011 and incurred approximately $6.5 billion of debt in connection with the Cephalon acquisition. Management stated that all financial covenants were satisfied.
Capital expenditures were approximately $1,053 million, compared with $710 million in 2010. Operating cash flow less capital expenditures and dividends was approximately $2.4 billion, down $475 million from 2010.
Management expected to repay $1.0 billion and refinance $2.6 billion of short-term debt in 2012. Available liquidity included cash, liquid securities, internally generated funds and a $2.5 billion revolving credit facility.

Material changes versus the prior comparable period

Revenue growth was acquisition-led, reflecting a full year of ratiopharm, the July acquisition of Taiyo, the October acquisition of Cephalon and the January acquisitions of Theramex and Infarmasa.
Profitability deteriorated despite higher revenue. Gross margin fell because of U.S. product mix, acquisition-related inventory step-ups, intangible-asset amortization and regulatory remediation costs. Operating margin declined to 17.0% from 24.0%.
Operating income and GAAP net income declined primarily because of higher selling and marketing, R&D, amortization, legal, restructuring and impairment expenses.
Teva repurchased approximately $899 million of shares during 2011 and completed its $1 billion repurchase authorization. The board authorized an additional $3 billion repurchase program in December 2011.
Quarterly dividend declarations increased during 2011, with the fourth-quarter dividend set at NIS 1.00 per share, or 26.8 cents based on the exchange rate cited in the filing. A 25% Israeli withholding tax applied to the fourth-quarter 2011 dividend.

Guidance, outlook, risks and unusual items

Management expected 2012 Copaxone revenue to benefit from Teva assuming full European marketing responsibility from Sanofi, while also assuming additional marketing and administrative costs and paying Sanofi 6% of applicable in-market sales for two years.
Provigil was expected to face U.S. competition beginning in April 2012, with a material revenue decline.
Amortization of Cephalon and Taiyo intangible assets was expected to increase substantially in 2012, disproportionately in the first quarter.
Key operating risks include generic price erosion, government reimbursement and tender pressure, patent challenges, regulatory and manufacturing compliance, foreign-exchange exposure, customer concentration and acquisition integration.
Copaxone was a major contributor to profit and operating cash flow but faced patent challenges and increasing competition from oral multiple-sclerosis therapies. The company stated that U.S. Orange Book patents expire in May 2014 and another U.S. patent expires in September 2015.
Teva incurred approximately $117 million of 2011 costs related to remediation and inventory write-offs at the Irvine injectable facility and expected full production to resume in the second half of 2012. The facility carried approximately $214 million of fixed assets and inventory and $49 million of intangible assets at year-end.
An $85 million fourth-quarter impairment was recorded for the U.S. animal-health site. The business remained subject to FDA remediation and received authorization to resume certain manufacturing and distribution activities in February 2012.
Product-liability exposure remained significant. Teva had paid or reserved approximately $270 million for propofol-related hepatitis C cases; jury verdicts in four cases totaled approximately $800 million, although Teva stated that it did not believe additional awards were probable.
The Protonix patent litigation presented a significant contingent risk. Wyeth asserted approximately $2.1 billion of damages and prejudgment interest, while Teva stated that it disputed liability and damages and believed liability was not probable.
Potential future milestone payments under various agreements could reach approximately $2.2 billion if all applicable milestones and sales targets were achieved. Cephalon-related contingent consideration had an estimated fair value of $171 million at acquisition.
Goodwill and identifiable intangible assets totaled approximately $28.6 billion at year-end, creating exposure to future impairment charges. Estimated intangible-asset amortization was $1,328 million in 2012, $1,124 million in 2013 and $1,088 million in 2014.

Most important facts an investor should verify

Whether Copaxone maintains pricing, volume and market share as patent challenges and oral multiple-sclerosis competition develop.
The timing and financial impact of U.S. competition to Provigil beginning in April 2012.
Progress and total cost of remediation at the Irvine, Jerusalem and animal-health facilities, including any effect on product supply and approvals.
Cephalon and Taiyo integration results, expected synergies, restructuring costs and the substantial increase in amortization expense.
Debt refinancing and repayment execution, interest expense, covenant compliance and leverage after the Cephalon acquisition.
Resolution or settlement exposure related to Protonix, Copaxone, product liability, government reimbursement, antitrust and other patent litigation.
Cash flow after capital expenditures, dividends, share repurchases and working-capital requirements, particularly as inventory and sales-reserve balances remain elevated.
The sustainability of the unusually low 4% reported effective tax rate and the impact of Israeli tax benefits, uncertain tax positions and pending tax assessments.