Australia | Sep 08 2009
By Chris Shaw
Sigma Pharmaceuticals ((SIP)) was busy yesterday, announcing a $60 million acquisition and a 1-for-3 rights issue at $1.02 per share to pay for the deal and to reduce debt, while at the same time pre-releasing its interim earnings result that was scheduled to be released next week.
The acquisition is for the distribution rights in Australia and New Zealand for 15 ethical pharmaceutical and healthcare brands along with a manufacturing facility from Bristol-Myers Squibb and a deal for contract manufacturing for the company for five years. Bank of America Merrill Lynch notes the price of $60 million before around $10 million in acquisition costs implies an earnings before interest, tax, depreciation and amortisation (EBITDA) multiple of around 3.5-4.0 times.
On these numbers, the broker expects the deal will be earnings accretive in its first full year, which is FY11. BA-ML also notes the additional manufacturing facility being acquired gives Sigma three in total and this implies some synergy benefits in the future as one of the facilities will potentially be closed.
JP Morgan suggests the deal is a good fit with the company’s existing assets, especially as the price paid appears reasonable. But as Citi notes, the company already had some excess capacity at its Dandenong facility and this fact sees the broker question the rationale for the deal, especially as the products being acquired are generally niche type products. As well, Citi points out the deal means a greater manufacturing presence, which is actually where the company has to deal with low margins and where it has the least competitive advantage.
UBS points out as with most generic products the ones being acquired in the acquisition are in decline, but it notes management will attempt to extend their life through improvements in distribution and bundling. The other issue UBS has is the scope for government regulation to further impact on margins in the generic sector, which also makes it question the rationale of the deal. Bank of America Merrill Lynch makes the point while generic margins continue to fall given an increasingly competitive market, the deal should at least see the company increase margins in its manufacturing division.
The accompanying rights issue will, on RBS Australia’s numbers, lower group gearing to 29% on a net debt to net debt plus equity basis, down from 41% previously. As Credit Suisse notes, around $220 million of the capital raising proceeds will be used to repay debt.
Aside from news of the acquisition, Sigma also pre-released its interim earnings result, the $78.6 million in earnings before interest and tax coming in around 18% lower than Bank of America Merrill Lynch had expected. Given the accompanying guidance, BA-ML has revised its growth forecasts lower in coming years, factoring in growth of 1-4% now against its previous estimate of 5%.
With the company issuing new shares, equity brokers generally have cut their earnings per share (EPS) forecasts to account for the dilutionary impact of the issue, Citi lowering its FY10 EPS number by around 8% to 12c, while in FY11 it is forecasting EPS of 10c.
UBS is expecting EPS of 12c and 13c respectively, while Bank of America Merrill Lynch is more cautious in forecasting 8.3c and 9c for the two years and Deutsche Bank’s forecasts stand at 11 and 12c. Consensus forecasts according to the FNarena database are 10c and 10.3c.
Earnings risk appears to be to the downside according to Credit Suisse. CS notes management has maintained guidance of modest earnings growth for the full year, which after the interim implies a 61% skew to the second half. While this is a similar skew to previous years, the broker suggests it may prove to be a stretch in FY10.
J Morgan agrees as it had been forecasting 10% net profit growth for FY10 and management’s guidance appears to make this too difficult a target, though the broker won’t review its numbers until the interim result is officially released next week. As a result there is no change to JPM’s Underweight rating, which reflects its view the stock is expensive at where it last traded and is no more than fair value at the $1.02 offer price for the new shares.
Similarly Bank of America Merrill Lynch has an Underperform recommendation on the stock, which is in line with the ratings of Credit Suisse and GSJB Were as well. Citi has retained its Hold recommendation, while post the update UBS has upgraded to Hold from Sell on valuation grounds. UBS’s target has increased to $1.09 from $1.04.
Overall the FNArena database shows Sigma is rated as Hold six times and Sell four times with an average price target of $1.06. Shares in Sigma today are still suspended. They last traded at $1.215. This compares to a trading range over the past year of $0.865 to $1.48.