Bristol Myers Squibb (BMY) has been a stock which has seen its news flow being dominated by the early in 2019 announced purchase of Celgene. Little over one and a half year later the company is making another splashing deal, albeit quite a bit smaller, to further expand and broaden the pipeline. All these events warrant an update on the investment case.
Where Do We Stand?
To understand the current position of Bristol Myers we have to go back to January 2019 as the company announced a $90 billion purchase of Celgene in the first week of the year. That deal was not well-received by the market as shares dropped to the mid-$40s overnight, down 15% at some point in time. This reaction was driven by the +$26 billion premium paid and investors not seeing the real logic of two somewhat struggling pharma names combining their operations.
When doing the math I pegged pro-forma sales at $37 billion, EBIT at around $16 billion, a diluted share count of 2.36 billion shares and net debt at around $52 billion. Based on an interest cost assumption of 5% and assumption of 15% in tax rates, I pegged adjusted earnings at $4.80 per share, although more favorable financing being available and early synergies created upside to that number.
With shares trading at just below 10 times this pro-forma earnings number, the situation looked compelling yet leverage was high as I furthermore noted that both companies are quite aggressively making adjustments to the adjusted earnings, excluding stock-based compensation (and many other items) of course. Despite the challenges at hand it was the low valuation and potential for deleveraging to boost earnings in the years to come which made that I initiated a small position at $46.
What happened has been a few tough quarters since the deal was announced and shares even hitting the low $40s in the early summer of 2019. Since that point in time, good news arrived, notably on the pipeline as in August the company sold the global rights of OTEZLA in a $13.4-billion deal to Amgen (AMGN). By November, the Celgene acquisition finally closed. Progress on this deal, leverage being reduced in a big way ahead of closing and progress on the pipeline made that management was confident. In fact, the board hiked the dividend by nearly 10% at the end of the year.
The Current Take
In February, the company reported its 2019 results. The deal with Celgene is of course reflected on the balance sheet, yet the contribution was less than two months to the overall results in terms of revenues and earnings. The balance sheet looks good as a pro-forma net debt position of $52 billion upon deal announcement only came in at $30.6 billion, driven by the OTEZLA divestment and organic cash flow generation.
Furthermore, the guidance was particularly good. For the year 2020 the company guided for sales at a midpoint of $41.5 billion, some $4.5 billion ahead of the pro-forma results upon the deal announcement, as this outlook even factors in the OTEZLA divestiture of course. Non-GAAP earnings were seen at a midpoint of $6.10 per share, far ahead of the pro-forma number again, although GAAP earnings were only seen at $0.80 per share.
The company furthermore already issued an adjusted $7.30 per share guidance for 2021, both very comforting signs and the reason why shares had risen to the mid-$60s in February.
Truth be told that I cut out of my position at $60 already late in 2019, as a 30% return in less than a year sounds pretty good to me. At this point in time the 2020 outlook was of course not yet given, as that certainly boosted my estimate of fair value. Soon after the 2020 outlook was provided, the company like the rest of the world was occupied with Covid-19, as shares did see a modest fall for obvious reasons. In May, the first-quarter results were solid despite Covid-19 with net debt down to $27.7 billion and organic growth coming in at high single-digits.
In August the second-quarter results showed spectacular improvements, of course as the Celgene deal had not been completed the year before. Adjusted for the deal, sales were flat with adjusted earnings of $1.63 per share down 9 cents on a sequential basis, with net debt down further to $24.5 billion. Note that flat growth is a bit misleading here as the company has been hit by temporary halt of ”regular” treatments, just like all of its peers with the healthcare sector fully focusing on Covid-19.
While the company cut the full-year sales guidance a bit as a result of Covid-19, adjusted earnings were hiked to a midpoint of $6.17 per share. Based on this outlook, shares trade around 10 times adjusted earnings, the same as the multiple at the time of the announcement of the deal. Net debt has been cut more than in half on an absolute basis, with relative multiples rapidly getting very modest. After all, adjusted EBITA already runs at a rate in excess of $18 billion.
Based on a share count of 2.26 billion shares currently trading at $59, Bristol Myers is now valued at $133 billion, or about $158 billion after incorporating its net debt load, equivalent to about a 4 times sales. This is a reasonable multiple given that the organic business is still seeing solid growth amidst good research results in the pipeline and its scale allowing for fat margins (albeit adjusted earnings). With the integration so far going quite well, in part reflected already in the share price developments, Bristol Myers is quick to making another big bet.
At the start of October, the company announced the $13.1 billion cash deal to acquire MyoKardia (MYOK), boosting the net debt load to $37-38 billion, still relatively manageable for a firm the size and profitability of the company. Bristol Myers will pay $225 per share in cash for this clinical-stage biopharmaceutical company which is focusing on treatments for cardiovascular diseases.
The deal is driven by Bristol obtaining mavacamten, a potential product used to treat obstructive hypertrophic cardiomyopathy (HCM), a chronic heart disease. Following great research results, the company expects to submit an NDA with the FDA in the first quarter of 2021. Bristol Myers expects accretion from 2023 onward as Bristol Myers could accelerate commercialization and distribution, and will furthermore expand its own cardiovascular portfolio. Based on the deal tag, the deal is valued at 8% of the enterprise value of Bristol Myers, making it a little larger than just a bolt-on deal.
Truth be told, the company is leveraging up the balance sheet a bit again to make a bet on its pipeline as the deal certainly is not cheap. Great research results pushed shares up from $60 in May to $120 overnight, to trade at $140 ahead of the deal announcement. The roughly $85 premium paid by Bristol is equivalent to a premium of roughly $5 billion.
Despite this premium, which is equivalent to little over $2 per share in terms of Bristol Myers’ shares, the same shares hardly reacted despite the premium being paid. I do think that the premium is rich, in part based on peak sales estimate around $2 billion by some and approval still has to come in of course.
Truth be told I think that Bristol Myers is largely fairly valued to somewhat attractively valued at these levels. Shares trade at 10 times adjusted earnings, which are very adjusted, but we have seen significant cash flow generation in the first year since the announcement of the Celgene deal. That being said, the recent deal looks quite aggressive as the company is paying a steep sales multiple based on potential peak sales with approval not yet in, even if this might be just a formality. Furthermore, estimates of peak sales are not always reliable (both to the upside and downside).
I do not consider shares as very attractive despite the low earnings multiples, as GAAP earnings are highly distorted, yet on the other hand, cash flow conversion has been quite solid. While debt was under control and I have been quite compelled with the integration of Celgene, the latest deal looks a bit like a rush and even while the deal is just a game-changer, it might just reveal some sort of overconfidence by management in pursuing the M&A route.
If you like to see more ideas, please subscribe to the premium service “Value in Corporate Events” here and try the free trial. In this service we cover major earnings events, M&A, IPOs and other significant corporate events with actionable ideas. Furthermore, we provide coverage of situations and names on request!
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Originally published on Seeking Alpha