Yesterday (4/17/19) after the market closed LH announced it has entered an agreement to acquire Envigo’s (non-public, not covered) preclinical contract research business. As part of the deal, LH will sell Covance’s U.S. research products business to Envigo – leaving Envigo as a pureplay research models and services business. We think the transaction makes strategic sense for both parties and LH’s increased scale and focus in the higher growth preclinical market should be well received. The transaction is expected to close within the next 2 months.
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Following our recent launch on the drug distribution space we have updated our generic drug market tracking files to reflect February data. While February data is now slightly dated, we have gotten feedback that our generic tracking reflects a fairly holistic view of the market and thought some of the insights below were worth sharing. See pages 2-4 for charts and tables illustrating the trends discussed below. Importantly, please note that this data represents product movement into dispensing locations, not product movement from dispensing locations to patients.
Yesterday (4/8/2019) the comment period for HHS’s proposed changes to rebate safe harbor protection closed and stakeholder comments were posted publicly. Here we review the comment letter submitted by the Healthcare Distribution Alliance (HDA), the industry’s trade group. HDA’s comments were primarily focused on the industry’s unique ability to process point-of-sale payment reductions, as well as some relatively minor technical comments. Please email us for a copy of the letter – ours came from the HDA as we couldn’t find the comment letter online.
Wolfe Research Healthcare Technology & Distribution Analyst, Steve Baxter, hosted a webcast to discuss his initiation on the drug distributor, lab, and CRO industries.
We are initiating coverage of Syneos Health with a Peer Perform rating and $53 year-end 2019 PT, ~2% upside. While the strategic rationale of a scaled-up CRO and an integrated commercialization business is sound, results and stock performance to date have been anything but smooth – resulting in 4 trading days with price changes >15% since the May 2017 deal announcement (3 negative, 1 positive), with the most recent drop coming from SYNH delaying EPS / 10-K and disclosing an SEC investigation into revenue accounting. These issues have clearly been reflected in the stock, with SYNH trading 3-4x below the rest of the group. Operating momentum appears to be improving, but we are not prepared to step in with this degree of uncertainty and see better risk-adjusted return elsewhere.
We are initiating coverage of PRA Health Sciences with a Peer Perform rating and $112 year-end 2019 price target, ~2% upside. While PRAH has done an impressive job growing the topline in recent years, a handful of factors leave us cautious despite an otherwise attractive relative valuation: softening gross bookings in 2H18, the revenue ramp and significant margin improvement imbedded in guidance for 2019, and no guidance for Symphony (coming with Q1 results apparently).
We are initiating coverage of Medpace Holdings with an Outperform rating and $64 year-end 2019 price target, ~9% upside. MEDP caught the market off-guard when it reported earnings in February, issuing 2019 guidance that was well below consensus and flagging softening RFP flow and higher cancelations in Q4. We see the lower guidance primarily as a function of consensus not heeding management’s messaging that 2018 margins were unsustainable following significantly stronger-than-anticipated topline growth. Our discussions with the company indicate they see moderating biotech fundraising levels and political / headline considerations as slowing decision-making, a phenomenon they have seen in the past. Despite these challenges, revenue is expected to grow 13% organically in 2019 vs. 14% organic growth CAGR from 2013-2018 – highlighting MEDP’s exposure to the fastest-growing part of the outsourced development market. The company has focused on delevering post its August 2016 IPO but is quickly approaching a net-cash position. With P/E sponsor Cinven Capital Management fully out of the picture post an August 2018 secondary offering, we believe MEDP is likely to repurchase shares more aggressively going forward. While dealing with a more nascent segment of the biopharma market naturally produces volatility, this magnitude of organic growth at a modest premium to a S&P multiple is hard to resist.
We are initiating coverage of IQVIA Holdings with a Peer Perform rating and $148 year-end price target, ~3% upside. Organic growth in both Technology & Analytics and Research & Development Solutions accelerated in Q4 and growth should remain attractive in 2019 as IQV starts to deliver on its stated target of 100-200bps of topline acceleration following the merger of legacy IMS Health and Quintiles. We think IQV is likely to increase its medium-term revenue growth guidance to HSD % from MSD % at its Investor Day in June, with adjusted EBITDA growth solidly in excess of revenue growth but below the current 1.5x revenue growth target. The company is clearly driving innovation across the drug development continuum by utilizing an impressive collection of assets and capabilities to meet biopharma sponsor needs. At the same time, we can currently find similar organic growth across the CRO group at lower multiples with stronger FCF yields, which in our view provides a clearer path to near-term outperformance without arguing for further multiple expansion.
We are initiating coverage of ICON plc with an Outperform rating and $149 year-end 2019 price target, ~9% upside. ICLR has done an admirable job of leveraging growth in recent years, turning 6-7% revenue growth into 9-10% EBITDA growth. We expect this formula to persist although we note margin expansion could be more gradual going forward given the near certitude that SG&A $ can’t be held flat forever. While net book-to-bill trends have weakened modestly during 2018 we believe that ex-Pfizer they remain healthy. The company has generally eschewed major acquisitions and significant share repurchase but absent any change in policy here we estimate ICLR’s net cash position will shortly become the largest in their history, potentially adding a capital deployment angle to the story. We see ICLR as the least complicated story in the CRO group and can envision a path to upside that does not require growth to accelerate or a premium multiple.
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