Lacuna HC Observer #51: Let's look beyond the noise

There’s a little argument that Covid-19 reshaped our world. Families and the Government went through a roller coaster filled with challenges imposed by lockdowns and back-to-back variants. Well, the investors, whether incumbents or newbies, also went through the ride filled with euphoria, disbelief, and agony based on which company they chose and when they hopped on, during the last two years of Covid. While it is safe to say that most of the pandemic is behind us, I think it is high time for investors also to see businesses excluding the covid effects!

In this article, we speak about one such investment idea.

About the business

Laboratorios Farmaceuticos Rovi (BME:ROVI) is a Spanish-based pharmaceutical company specialized and engaged in research and development, licensed manufacturing, and marketing of small molecules and biological specialties.

Founded in 1946, the company has established itself as one of the world leaders in manufacturing Low Molecular weight Heparins (LMWH) with its two flagship products. It launched Bemiparin Hibor in 1998 and started marketing Enoxaparin biosimilar Becat in 2017. The two products contributed 36% to the topline in 2021. The company also markets 15 in-licensed prescription-based pharma products.

Besides specialty pharma, Rovi also engages in contract manufacturing of injectables and solid oral-form pharmaceuticals.

Covid times

Between 2007-2020, Rovi’s stock price has grown by ~8% cagr. However, since 9th July 2020, the stock price moved upward sharply. Between the above-mentioned date and 31st Dec 2021, the stock price went up by ~3x. The main reason behind this can be attributed to the company’s announcement on 9th July 2020 of a large-scale collaboration of fill-finish manufacturing of Moderna’s mRNA Covid-19 vaccine candidate. US-based Moderna was one of the front runners to manufacture the much-needed Covid-19 vaccines. It was targeting to manufacture 700mn doses of the vaccine in 2021 and for achieving the same, the company was looking for partners in the US and Europe who had the expertise to undertake a large-scale rollout. This is where the euphoria for most of the investors kicked in which took the share price up by ~3x.?

However, year to date the stock price is down almost by 50%, wiping out most of the gains of the above-mentioned 16 months. The best explanation over here can be that the investors who rode the vaccine manufacturing wave realized that the vaccine volumes can also go down as the world got ready to put the pandemic behind them. As I mentioned in the beginning your journey may be of euphoria or agony, it just depends on where you start your ride.

What interests us?

“The daily blips of market are, in fact, noise – noise that is very difficult for most investors to tune out” – Seth Klarman

We understand that many investors are looking Rovi as a covid play and in the light of declining vaccine volumes, they may want to book the profit. But we feel that the market is forgetting about the existing LMWH franchise and the products in the pipeline.

1)?????Dominant position in the LMWH market

Rovi’s first internally developed heparin product, Bemiparin Hibor, has the #1 market position in Spain with a 33% market share and is presence in 70 countries. The second product Enoxaparin Biosimilar Becat which was launched in 2017 is another huge opportunity for Rovi in the market. It has an untapped global market of EUR 2,6bn where >50% comes from Europe. It is a world leading product in the LMWH market and with its biosimilar and decades of experience, Rovi is well-positioned to be a top player in Europe. Currently, it is launched in 38 countries and the management has laid down the strategy to expand the outreach to 81 countries over the next three years.

2)?????Attractive Pipeline

Risperidone ISM, Rovi’s long-acting injectable (LAI) of Risperidone to treat schizophrenia has recently got approval by the EMA in Europe under the brand name Okedi. The drug is expected to get approved by USFDA by Jul-2023 under the brand name Risvan. Schizophrenia is a chronic mental disorder affecting 21mn people worldwide with high lifetime prevalence. Penetration rates are extremely low in US and Europe at 5,8% and 8,4% respectively. Strict compliance of medication is needed to avoid relapse. LAIs are now being preferred over solid orals to improve adherence and effectiveness which implies reduced hospitalization and healthcare costs which then leads to improvement in penetration. The total schizophrenia market value stands at USD 9,5bn, out of which the market value for LAI stands at USD 5,8bn. There are no LAIs in Europe when it comes to treating moderate to severe schizophrenia in Europe which implies a major tailwind for Okedi. It has already been rolled out in Spain and Germany and soon by the 2023 year end the company is planning to launch in other EU countries. Apart from EU, the USFDA approval can be a major boost and addition to the company’s topline as the US is the largest Schizophrenia market.

Rovi is developing another LAI formulation of Letrozole (Currently in phase II trials) that is used for treating hormone dependent breast cancer. Currently, there is no LAI approved for Letrozole in the market so this product can disrupt the market. Breast cancer is the most common cancer worldwide and around 2,2mn cases are diagnosed every year. The sell-side experts estimate that on approval, Letrozole ISM can add EUR 500mn to the topline of the company.

3)?????Strengthening collaboration with Moderna

Initially, the agreement with Moderna was only a fill and finish line for its Covid-19 vaccine vials as well as inspection, labeling, and packaging. However, the agreement was subsequently extended to three F&F lines and another line to manufacture the active substance. The agreement has now been extended for 10 years which is set to include further capacity additions not only for the covid vaccines but also for other mRNA medicines. Currently, 90% of the Prefilled syringes (PFS) capacity is utilized. This is planned to be doubled by 2024e, showcasing a robust order book for Rovi. Also, do not forget, that Rovi is one of the top 3 leaders in the fill-and-finish contract manufacturers.

?4)?????Management and Capital allocation

This is a family-owned business with ~60% holding by the promoters. They have slowly and steadily over the last 7 decades established Rovi as a dominant leader in LMWH and fill and finish contract manufacturing space. With prudent capital allocation, the company has managed to generate strong returns for its investors. In the last two years, the promoters did two buybacks at EUR 52,2 in 2021 and EUR 64,5 in 2022. Currently, the stock price is below EUR 40. The company maintains a net debt free balance sheet. Although, they classify Rovi as a ‘growth company’, the management did not want to chase inorganic opportunities at crazy valuations. Going forward, the management may look to add and expand their product pipeline if they get any opportunity at decent valuations, and at the same time they may further buyback.

5)?????Risks

a)?In the last two years, the company has faced increased pricing pressure for Raw materials used to manufacture heparins. However, the pressure has now started easing off and this should help the margins going forward.

b) Covid vaccines volume coming down can further put pressure on the margins, but we don’t see this as a high risk, because the new product, Okedi, is a high-value margin-accretive product which should offset any pressure coming due to decreasing volumes

c)?Letrozole LAI will be undergoing phase II trials. The success of the drug is crucial because of Rovi’s thin pipeline.

Conclusion

Rovi has been a great performer in the specialty pharma space and we believe with the current set of products the company has a lot to offer going forward. As per our estimates, the business currently trades at Fwd PE of 13x and Fwd EV/EBIT of 10,5x. Given the business is set to grow ~8% over the next five years and the business generates ROTCE of >20%, we see this as an interesting investment opportunity at an attractive price. We believe that it’s a high-quality business and can generate strong returns in the future.

Disclaimer

If we provide stock market information, it does not constitute investment advice. The statements contained herein are not to be understood as an offer or recommendation of specific investment products. It applies also if individual issuers or securities are mentioned.