Cambrex cbm
December 18, 2007 - 1:06pm EST by
mark81
2007 2008
Price: 8.20 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 242 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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  • Specialty Pharma
  • Potential Sale
 

Description

THESIS:
Cambrex (CBM) is a specialty pharma company with a strong niche API business and in 2008 is on track to do $27m in EBIT and $50m in EBITDA. At a $312m EV, Cambrex is trading at 11.6x EV/EBIT and 6.2x EV/EBITDA on 2008 numbers, and 5.6X our ’09 EBITDA estimate.  For a number of reasons detailed below, we see it as likely that the business will be sold within the next year, and an acquirer could easily take out $10m in corporate overhead (from discussions with Cambrex management), putting the company at significantly lower effective multiples for an industry buyer.  The underlying business, selling active pharmaceutical ingredients (“APIs”) for niche generics and branded drugs, is in good shape and concerns about competition from China and India are overblown.
 
VALUATION:
FD Shares – 29.5m
Price - $8.20
Market Cap - $242m
Cash - $45m
Cash outflows in 2008q1 - $18m – (see 2007q3 conference call)
Debt - $97m
Net debt - $71m
EV - $312m
 
BUSINESS DESCRIPTION:
Up through late 2006, Cambrex had three business segments: Bioproducts, Biopharma (collectively, “Bio”), and Human Health.  Bio was sold to Lonza, a European strategic player, for $460 million in October 2006.  The remaining Human Health segment can be broken down in two ways:
 
By function:
Custom development – Contract outsourcing of drug development for pharma companies.  Currently, 50 projects underway, 15 projects in Phase III clinical trials.
Custom manufacturing / Proprietary technologies – Long-term contracts (7-10 years) to produce branded APIs for pharma companies.    Focus on oncologics (cancer drugs), DEA controlled substances, and development of in-house intellectual property through R&D.
Generics – Contract manufacturing of generic APIs for pharma companies.  Short-term contracts, higher-margin.  They aim at niche APIs – 66% are sub-$5 million market drugs.  A favorable dynamic exists here because of duel-sourcing requirements.
Other - Non-core legacy business – Manufacture of feed additives and specialty chemicals
 
By product:
APIs – Active ingredients in drugs.  Manufacture both Branded and Generics.
Pharmaceutical Intermediates – Inputs into APIs.
Other – Non-core legacy business - mainly feed additives and specialty chemicals
 
The company has three main plants: Milan, Italy focusing on generic APIs; Karlskoga, Sweden, focusing on branded APIs; and Charles City, Iowa, focusing on custom development work, controlled substances, oncologics, developing proprietary drug-delivery IP, and the legacy fine chemical business.  Up until 2005, the company was mostly focused on Bio and did not invest much in the Human Health plants.  The company is now in the middle of an upgrade cycle which should end in early 2009 with all three plants in excellent shape.  The company invested $25m to upgrade Italy from 2005-2007, is investing $20m to upgrade Sweden from 2007-2009, and is investing $4m in Iowa in 2008.  Capex should fall to $32.5m in 2008 and then down to a $22m in 2009 and beyond.  The Italy facility is very high quality and operates more or less as a standalone unit and is an attractive and saleable asset.
 
Management is optimistic about business, guiding to mid-single digits revenue growth over the next few years.  This will be driven by development of proprietary technologies, a strong pipeline in custom development, and tailwinds in generics due to regulatory change in Europe and Medicare changes in the U.S.  The market seems to be very worried specifically about competition on the generic side, but we believe this business is solid.  For Cambrex, 66% of the generic business is aimed at niche drugs with under $5m of sales (for the API, not the final drug.  API is about 5% of final drug selling price).  For contracts this small, the switching costs for drug manufacturers outweigh the benefits. 
Corporate overhead has been cut to a run rate of $17.5m in 2007 q4, and management expects $16m in 2008.
 
HISTORY OF SALE ATTEMPT
In the fall of 2005, Cambrex decided to reverse its strategic plan to move more heavily into the Bio business and engaged Bear Stearns in order to break up the company.  The board recognized that each segment was sub-scale to run as an independent concern.  They looked to sell the Bio business to a strategic buyer, the Human Health business to a financial buyer, or the whole company to the highest bidder. As part of this process, , the CEO, David Leone, who had come aboard in mid-2004 to lead an expansion of Bio, stepped down and James Mack, the previous CEO from 1990-2004, stepped back in as the acting CEO.
 
Throughout 2006, Cambrex engaged in an attempted auction of both Bio and Human Health, with limited interest in the latter (only one bidder showed much interest).  Lonza, a European strategic player, won the Bio bidding in October 2006 for $460 million.  Cambrex decided to retain Human Health and try to increase profitability through cost cutting, specifically corporate overhead, while still looking to sell.  In addition, the company sold two old and unprofitable Human Health facilities in Cork, Ireland (“Cork”) and Landen, Belgium (“Landen”), avoiding shutdown costs of roughly $20 million.
 
It seems likely that the remaining business will be sold within the next year for the following reasons:
1) James Mack, the formerly-retired-and-current CEO wants to retire again and has stated he will step down within the next 12 months.  He gets a $1.5 million cash bonus if he “achieves further strategic alternative goals”.
2) Cambrex is the only pure-play API producer in the U.S. and the board’s rationale for trying to sell the company in late 2006 still holds (too small to justify operating as a standalone).  Management estimates a strategic acquirer could take out $10 million of costs vs. 2008 corporate overhead of $17 million.
3) The three main factors scaring away bidders in 2006 have all been settled – a) a $100m headline-value lawsuit over the sale of the company’s former Rutherford Chemicals division, b) the sale of the money-losing legacy Cork & Landen facilities and elimination of the associated $20m in shutdown costs and c) the presence of the money-losing Biopharma business.
4) A number of rising Indian players could use the established U.S. presence.  Jubilant Organosys & Nicholas Piramal, specifically, are expanding in the API segment and both have expressed interest in buying Cambrex in the past.
 
Management as stated that they are going to revisit the sale decision in early-to-mid 2008, and at that point either sell or hire a new CEO and continue as a standalone.
 
OTHER NOTES
Comparable transactions
Clean comparable transaction data is hard to come by, as there are few players who do exactly what Cambrex does, and many acquisitions involve divisions of larger companies with limited reporting.   The closest comp is Groupe Novasep , bought in an LBO at  8x TTM EBITDA ($553m) in 2006, and discussions with players in the industry indicate that a transaction would likely take place around that range.
 
Taxes
Currently, Cambrex makes a good deal of money in Italy and Sweden and loses money in the U.S.  This leads to a very high effective tax rate.  The company had built up a large tax asset which it utilized almost completely in the Bio sale.  Currently, the company pays roughly 40% tax in Italy and 28% tax rate in Sweden.  This is another reason for either a sale or acquisitions in the U.S., as the current setup is tax inefficient.

Catalyst

Sale of company
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    Description

    THESIS:
    Cambrex (CBM) is a specialty pharma company with a strong niche API business and in 2008 is on track to do $27m in EBIT and $50m in EBITDA. At a $312m EV, Cambrex is trading at 11.6x EV/EBIT and 6.2x EV/EBITDA on 2008 numbers, and 5.6X our ’09 EBITDA estimate.  For a number of reasons detailed below, we see it as likely that the business will be sold within the next year, and an acquirer could easily take out $10m in corporate overhead (from discussions with Cambrex management), putting the company at significantly lower effective multiples for an industry buyer.  The underlying business, selling active pharmaceutical ingredients (“APIs”) for niche generics and branded drugs, is in good shape and concerns about competition from China and India are overblown.
     
    VALUATION:
    FD Shares – 29.5m
    Price - $8.20
    Market Cap - $242m
    Cash - $45m
    Cash outflows in 2008q1 - $18m – (see 2007q3 conference call)
    Debt - $97m
    Net debt - $71m
    EV - $312m
     
    BUSINESS DESCRIPTION:
    Up through late 2006, Cambrex had three business segments: Bioproducts, Biopharma (collectively, “Bio”), and Human Health.  Bio was sold to Lonza, a European strategic player, for $460 million in October 2006.  The remaining Human Health segment can be broken down in two ways:
     
    By function:
    Custom development – Contract outsourcing of drug development for pharma companies.  Currently, 50 projects underway, 15 projects in Phase III clinical trials.
    Custom manufacturing / Proprietary technologies – Long-term contracts (7-10 years) to produce branded APIs for pharma companies.    Focus on oncologics (cancer drugs), DEA controlled substances, and development of in-house intellectual property through R&D.
    Generics – Contract manufacturing of generic APIs for pharma companies.  Short-term contracts, higher-margin.  They aim at niche APIs – 66% are sub-$5 million market drugs.  A favorable dynamic exists here because of duel-sourcing requirements.
    Other - Non-core legacy business – Manufacture of feed additives and specialty chemicals
     
    By product:
    APIs – Active ingredients in drugs.  Manufacture both Branded and Generics.
    Pharmaceutical Intermediates – Inputs into APIs.
    Other – Non-core legacy business - mainly feed additives and specialty chemicals
     
    The company has three main plants: Milan, Italy focusing on generic APIs; Karlskoga, Sweden, focusing on branded APIs; and Charles City, Iowa, focusing on custom development work, controlled substances, oncologics, developing proprietary drug-delivery IP, and the legacy fine chemical business.  Up until 2005, the company was mostly focused on Bio and did not invest much in the Human Health plants.  The company is now in the middle of an upgrade cycle which should end in early 2009 with all three plants in excellent shape.  The company invested $25m to upgrade Italy from 2005-2007, is investing $20m to upgrade Sweden from 2007-2009, and is investing $4m in Iowa in 2008.  Capex should fall to $32.5m in 2008 and then down to a $22m in 2009 and beyond.  The Italy facility is very high quality and operates more or less as a standalone unit and is an attractive and saleable asset.
     
    Management is optimistic about business, guiding to mid-single digits revenue growth over the next few years.  This will be driven by development of proprietary technologies, a strong pipeline in custom development, and tailwinds in generics due to regulatory change in Europe and Medicare changes in the U.S.  The market seems to be very worried specifically about competition on the generic side, but we believe this business is solid.  For Cambrex, 66% of the generic business is aimed at niche drugs with under $5m of sales (for the API, not the final drug.  API is about 5% of final drug selling price).  For contracts this small, the switching costs for drug manufacturers outweigh the benefits. 
    Corporate overhead has been cut to a run rate of $17.5m in 2007 q4, and management expects $16m in 2008.
     
    HISTORY OF SALE ATTEMPT
    In the fall of 2005, Cambrex decided to reverse its strategic plan to move more heavily into the Bio business and engaged Bear Stearns in order to break up the company.  The board recognized that each segment was sub-scale to run as an independent concern.  They looked to sell the Bio business to a strategic buyer, the Human Health business to a financial buyer, or the whole company to the highest bidder. As part of this process, , the CEO, David Leone, who had come aboard in mid-2004 to lead an expansion of Bio, stepped down and James Mack, the previous CEO from 1990-2004, stepped back in as the acting CEO.
     
    Throughout 2006, Cambrex engaged in an attempted auction of both Bio and Human Health, with limited interest in the latter (only one bidder showed much interest).  Lonza, a European strategic player, won the Bio bidding in October 2006 for $460 million.  Cambrex decided to retain Human Health and try to increase profitability through cost cutting, specifically corporate overhead, while still looking to sell.  In addition, the company sold two old and unprofitable Human Health facilities in Cork, Ireland (“Cork”) and Landen, Belgium (“Landen”), avoiding shutdown costs of roughly $20 million.
     
    It seems likely that the remaining business will be sold within the next year for the following reasons:
    1) James Mack, the formerly-retired-and-current CEO wants to retire again and has stated he will step down within the next 12 months.  He gets a $1.5 million cash bonus if he “achieves further strategic alternative goals”.
    2) Cambrex is the only pure-play API producer in the U.S. and the board’s rationale for trying to sell the company in late 2006 still holds (too small to justify operating as a standalone).  Management estimates a strategic acquirer could take out $10 million of costs vs. 2008 corporate overhead of $17 million.
    3) The three main factors scaring away bidders in 2006 have all been settled – a) a $100m headline-value lawsuit over the sale of the company’s former Rutherford Chemicals division, b) the sale of the money-losing legacy Cork & Landen facilities and elimination of the associated $20m in shutdown costs and c) the presence of the money-losing Biopharma business.
    4) A number of rising Indian players could use the established U.S. presence.  Jubilant Organosys & Nicholas Piramal, specifically, are expanding in the API segment and both have expressed interest in buying Cambrex in the past.
     
    Management as stated that they are going to revisit the sale decision in early-to-mid 2008, and at that point either sell or hire a new CEO and continue as a standalone.
     
    OTHER NOTES
    Comparable transactions
    Clean comparable transaction data is hard to come by, as there are few players who do exactly what Cambrex does, and many acquisitions involve divisions of larger companies with limited reporting.   The closest comp is Groupe Novasep , bought in an LBO at  8x TTM EBITDA ($553m) in 2006, and discussions with players in the industry indicate that a transaction would likely take place around that range.
     
    Taxes
    Currently, Cambrex makes a good deal of money in Italy and Sweden and loses money in the U.S.  This leads to a very high effective tax rate.  The company had built up a large tax asset which it utilized almost completely in the Bio sale.  Currently, the company pays roughly 40% tax in Italy and 28% tax rate in Sweden.  This is another reason for either a sale or acquisitions in the U.S., as the current setup is tax inefficient.

    Catalyst

    Sale of company

    Messages


    SubjectInsider selling and API manufa
    Entry12/18/2007 08:09 PM
    Memberelke528
    3 questions:

    1) How do you get comfortable with their competitive position with their geographic locations? As far as I understand, API production is moving fast to India from Europe because of labor costs.

    2) If there was only one offer before for the Human Health business, why would someone want it now?

    3) Judging by huge insider selling during Q1 and Q2, it looks like the management and board know their stock well. How do we reconcile the big insider selling since September (including some this week by the CEO) with a potential sale catalyst?

    SubjectInsider selling and API manufa
    Entry12/19/2007 05:59 PM
    Membermark81
    Good questions. Responses are below:

    1) How do you get comfortable with their competitive position with their geographic locations? As far as I understand, API production is moving fast to India from Europe because of labor costs.

    > API production is moving to China and India, especially with the bulk APIs. However, this is not where Cambrex makes its money. 2/3rd of Cambrex’s API’s are under $5m in sales per year. There are switching costs for changing API production, one of them being a 12-18 month regulatory/validation process. When those drugs get up into the $10m-$15m range, it becomes worth it and the companies make the switch.

    There are also reliability and safety issues. Ultimately, pharma companies weigh the benefit of switching from a long-time European-based partner who has an excellent regulatory and quality record to a less-automated plant in China/India with no regulatory and quality record who is looking to eventually compete with them, all in order to to save at the margin on a product that is roughly 5% of final selling price.


    2) If there was only one offer before for the Human Health business, why would someone want it now?

    > There was significant hair attached to the Human Health business during the sale process that is now gone.

    a) The biggest issue was a lawsuit relating to Cambrex’s sale of its old Rutherford Chemicals business that had a headline value of over $100m. That was settled in August for $4m.
    b) Cambrex had two old API plants in Cork, Ireland and Landen, Belgium that they estimated would cost $20-$25m to shut down. These were sold to a European group at zero net cost to Cambrex at the end of 2006.


    3) Judging by huge insider selling during Q1 and Q2, it looks like the management and board know their stock well. How do we reconcile the big insider selling since September (including some this week by the CEO) with a potential sale catalyst?

    > There has been $524k of stock sold since the end of August, with $390k of that from the old CFO who departed in mid-2007. The CEO sold $50k worth of stock earlier this week and still holds roughly $5m.

    One note on insider selling in the past year – much of that took place before the $14 special dividend in April, so the gross amount is actually much higher than the net amount (a sale at 100k shares at $24 per share in March for $2.4m would equate to a sale at $10 per share for $800k today). Most of the selllng since the dividend has taken place at prices significantly higher than the current price.
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