Hedge Fund / Healthcare Valuation Case Study: Mylan [MYL] vs. Actavis [ACT] In this sample stock pitch outline, we’ll make a LONG (“Buy”) recommendation for Mylan [MYL] based on the results of our market and valuation analysis and the DCF output from Part 2 of these tutorials. We’ll explain the reasons for this recommendation, why we’re not saying anything about Actavis, the additional information we’ll need to create a comprehensive pitch, and then conclude with an actual stock pitch outline that you can immediately apply to Mylan, or any other company you’re pitching. 
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Lesson Overview and Why Stock Pitches Are Important What Information You Need for Stock Pitches How to Structure a Stock Pitch and Tips on Each Section Example Stock Pitch – LONG Recommendation for Mylan What Next? NOTES AND DISCLAIMERS: First, please do not construe this as “investment advice.” I am NOT recommending that you invest in any of these companies. This is a tutorial about how to research and pitch companies that you think are interesting, and how to use what we’ve learned so far to support your arguments. Also, keep in mind that the tips covered here move you in the right direction, but are NOT sufficient for an entire case study or stock pitch – for that, you’ll need the resources covered in the full courses on the site, as well as additional research you need to complete on your own. What You Will Learn in This Lesson: 
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Why stock pitches and case studies are so important in hedge fund / asset management, equity research, and even in fields like investment banking, private equity, and corporate finance. What kind of information and analysis you need to properly pitch a stock, and the 6‐point structure that you can apply to any type of investment pitch – even outside of equities, in fields like fixed income or commodities. How to structure a stock pitch, including the 6 key points that you always need to mention, how to avoid the top 3 most common mistakes that will sink your chances, and how you should research each of the 6 points. A real example – you’ll get a stock pitch for Mylan that you could easily re‐use and re‐apply to other companies and investment ideas as well. What Next? Now that you’ve been through the tutorials and you’ve seen real life examples of all these concepts, you’ll learn what your next steps should be – if you want to land internship / job offers, or if you’re already working and simply want to perform better, get promoted, or move to another firm, using the skills you’ve learned here. http://breakingintowallstreet.com http://www.mergersandinquisitions.com Why Are Stock Pitches Important? 
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They’re Critical in Interviews – Even outside of public market roles, you must be able to pitch ideas for investments, clients, potential buyers/sellers, and so on, for interviews across the buy‐
side and sell‐side, and even at normal companies outside the finance industry. They Level the Playing Field – If you don’t have a 4.0 GPA from Harvard or top A‐Levels and an Oxbridge degree, presenting an exceptionally well‐thought out stock pitch is a great way to set yourself apart and get firms to hire you over the “Ivy League crowd.” And if you are in that “crowd,” well, you also need a great stock pitch to set yourself apart from your competition. They ARE What You Do on the Job – You’ll make these pitches all the time when presenting ideas to the investment committee or others at your firm and attempting to “sell” them on your ideas. Even in sell‐side roles such as investment banking, you’ll have to write CIMs and other documents that pitch companies to investors, and to do that you need to understand how investors think about companies. Return to Top. What Do You Need for a Stock Pitch? You need a combination of market/industry research, company‐specific research, and ideas about the valuation. In this case study, we’ve mostly focused on the valuation side because it isn’t particularly interesting to show you how to do Google searches about the healthcare industry or how to contact industry professionals on LinkedIn or other sources. However, all of those are important and you would need to do (more of) them in a real pitch. Here are the 5 major categories we need in this pitch for Mylan: 
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Company Research – Read their filings, investor presentations, and equity research. What we’ve done so far in this case study is a good start, but it’s not quite enough to ensure that we’ve covered all our bases. Specifically, we’ve done a lot of work and analysis around the Agila acquisition, but less work on the company’s generics pipeline and its existing generics business. Industry Research – Read industry reports issued by IDC, the Big 4 accounting firms, and any industry‐specific journals you can find. Look at recent M&A and financing activity, read any recent articles about the industry in The Wall Street Journal or Financial Times, and leave no stone unturned as you figure out the key drivers. For example, for Mylan we might take a look at the PwC report on healthcare deals, or the section on just pharmaceuticals, or the life sciences section of the Deloitte site. Company Documents – Their most recent annual report (the 10‐K for US‐based companies) and any interim reports (10‐Qs), recent investor presentations (see the Investor Relations section of http://breakingintowallstreet.com http://www.mergersandinquisitions.com 
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their site), earnings call transcripts, and potentially even equity research (but be careful – see the section below on mistakes to avoid). Channel Checks and “Experts” – This step is extremely important and a lot of people miss it completely. It’s not enough just to do online research when pitching stocks and completing case studies – you need to talk to real people on the ground, such as customers, suppliers, distributors, retailers, and so on, to figure out what’s going on and what they think of the company’s products and prospects. For example, for Mylan we should reach out to a few employees at their biggest customers via LinkedIn, speak with any hospitals or medical groups that use their pharmaceuticals, and reach out to key suppliers and partners, especially if we can find anyone in the emerging markets that will drive future growth. Valuation – We already have the DCF for Mylan, and you should complete some type of DCF analysis for any company you pitch (unless it’s an industry where the DCF is not applicable, such as commercial banks). What’s missing here are the public comps and precedent transactions – those are both covered in detail in the full courses on the site. How can you tell when you already have enough research? Ask yourself whether or not you have specific answers to the following questions: 
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Are you recommending for or against investing in this company, and what are the 3 main qualitative and quantitative reasons why? How much money could you make if it increased or decreased to the share price that you think it’s actually worth? What are 2‐3 key events or potential events (“catalysts” – see the action below) over the next 6‐
12 months that could cause its stock price to change? What are the top 2‐3 risks to your targeted stock price, what’s the approximate numerical impact of each risk, and how could you mitigate each risk? If you CANNOT come up with good answers to those questions, keep working until you can. What to Avoid When Gathering Information: 
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Over‐Reliance on Equity Research – Yes, get industry data from it and use it to find out more about the market, but DO NOT form your own investment thesis based on sell‐side research. These reports tend to be overly optimistic and fail to consider the risk factors in many cases. Online‐Only Research – You might be able to get away with this sometimes, but do you want to take the chance in a competitive interview process? Candidates who perform the best talk to real people in the market and do the channel checks described above. Only One Source – Just like you would diversify your portfolio to reduce risk, you also need to diversify your sources or you’ll risk using biased, incomplete information. http://breakingintowallstreet.com http://www.mergersandinquisitions.com You can also now understand why we avoided Actavis in this stock pitch: we don’t even have close to enough information on it to do everything above. At least with Mylan, we have a fair amount of market and valuation data and we can use that to outline what a stock pitch might look like. Return to Top. How Do You Structure a Stock Pitch? Here’s the 6‐point structure I recommend using: 
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Recommendation – Long or short, and what do you think the company/asset is really worth? “Neutral” recommendations are not recommended because you need a pricing imperfection to make money. Company Background – What are its products, how much revenue/EBITDA does it have, what is its market cap, and what are its current valuation multiples? Investment Thesis – The stock is priced imperfectly because of these 2‐3 key factors. The market has not factored them in because…. But you believe they’ve been overlooked, and that there’s a chance to gain significantly by longing/shorting this stock. Catalysts – And certain key events in the next 6‐12 months will cause the market to “realize” this pricing imperfection, resulting in a correction and the potential to make money. Key events might be new product launches, acquisitions (as in the case of Mylan and Agila), earnings announcements, competitors’ tactics changing, divestitures, positive clinical trial data (again, important for Mylan but we have less insight into this), and financing activities such as share repurchases and issuing debt or equity. Valuation – For a long recommendation, you need to show that there’s a good chance that the stock is undervalued in some way (e.g. right now it’s trading at $25, but there’s a reasonable chance it’s worth $30‐$35) by showing your public comps, precedent transactions, and DCF analyses; for short recommendations, you do the opposite and show why the stock is overvalued. Risk Factors and How to Mitigate Them – What are the main reasons why you might be wrong? And yes, everyone is wrong sometimes. You have to lay out the top 2‐3 market and company‐
specific reasons why your investment thesis might be wrong, and then explain what you can do to hedge against these risks… even if you’re wrong, could you at least limit your losses? Here are a few tips and tricks on each section before we go into the actual stock pitch for Mylan: Recommendation The goal of every single stock or investment pitch is to convince the other person that your idea has an asymmetric risk profile. In other words, by investing, they have a 75% chance of gaining 15% and only a http://breakingintowallstreet.com http://www.mergersandinquisitions.com 25% chance of losing 15%... or whatever the actual numbers are. The “expected value” must be positive for the pitch to be convincing. The trick is that you don’t want to be super‐specific because that will just lead to questions you cannot answer, such as, “So how do you know there’s exactly a 75% chance of gaining 15%?” You can be (relatively) specific with the potential to gain or lose a certain percentage since that should come from your valuation, but you don’t want to get into specific probabilities – it’s better to leave it as “a significant chance” or “a greater than 50% chance” or something like that. I recommend structuring the initial recommendation like this: 1. Long or short, current share price, percentage by which it’s overvalued or undervalued, and the top 2‐3 reasons why the stock price will change in the next 6‐12 months. 2. 2‐3 potential catalysts that will result in the stock price changing in the next 6‐12 months (see the section below on catalysts). 3. 2‐3 investment risks (company‐specific and/or market‐specific) and how you might mitigate those risks through other investments, protective options, etc. You’ll see firsthand how to apply this structure when we get to the example pitch for Mylan. Company Background This is the easiest section of the entire stock pitch because you just list key financial stats about the company (revenue, EBITDA, market cap, and current multiples) and a quick overview of what it does and its key business segments. Don’t just copy in the descriptions from the company’s filings or annual reports – you need to summarize and focus on the most important points, while leaving out the corporate‐speak and boilerplate language. Investment Thesis Here’s your template for this section: “Currently, the market thinks of this company in X way, and as a result it trades at approximately $Y per share. However, I think the stock is priced imperfectly because of reasons W and Z. The market hasn’t priced in these factors yet because of reasons A, B, and C. As a result, I am making a [LONG/SHORT] recommendation on the company, with a target price of [$D – $F] in the next 6‐12 months. http://breakingintowallstreet.com http://www.mergersandinquisitions.com These reasons are significant because [Explain how each of them directly ties into the company’s implied valuation, ideally showing sensitivity tables or any other output from your analysis – your reasons must be specific to be effective]. Even if only one of these reasons ends up making an impact, there’s still significant upside potential in the stock price because [And then point to any other analysis linking just one of these factors to the implied share price].” Catalysts It’s more difficult to give a “template” for this section because it depends on the specific catalysts you’re citing. But here are a few examples for what you might say in this part: 1. “Catalysts in the next 6‐12 months include… [Summarize them briefly in the beginning].” 2. “Catalyst #1 is significant because the company could generate an additional $X in revenue from it, which would result in additional EBITDA or earnings of $Y, boosting its share price by $Z if its current valuation multiples remain the same.” 3. “Catalyst #2 is significant because the market has not yet priced in the implications of the regulatory environment in [Country X], which will be a major source of growth for the company going forward. If its recent acquisition there closes on schedule, in its first earnings call XX months from now it will announce results and that could lead to a market correction.” 4. “Catalyst #3 is significant because its competitor’s recent acquisition is in a high‐risk and unproven area, which means that investors may flee the stock as the deal closes in the next 12 months and move into [Our Company] instead, pushing up its share price. Additionally, the competitor has not yet offered detailed disclosures on the company it has acquired, which may result in a continued sell‐off.” You’ll see the exact catalysts we cite for Mylan in the example pitch below. Valuation This section mostly contains the output from your public comps, precedent transactions, and DCF analysis for the company in question. In this case, of course, we don’t have public comps or M&A comps for Mylan, so that’s something you’d have to do on your own, and something that we cover in detail in the full courses on the site. In addition to pasting in your output, however, you need to justify your assumptions and, ideally, show a company’s valuation across different sets of assumptions to illustrate that you’ve thought about a wide range of possible outcomes. If, for example, you’ve only considered the case where the company grows by 10% per year in your DCF, you’re going to have a very difficult time explaining how you know that will be the exact growth rate. http://breakingintowallstreet.com http://www.mergersandinquisitions.com It’s better to look at a range of possible growth rates, highlight the ones that seem more likely, but at the same time also show that you’ve given thought to the downside cases as well. With public comps and precedent transactions, you’re not defending your assumptions so much as explaining why your selection criteria was correct and how these companies and M&A deals apply directly to the company you’re pitching. With Mylan, for example, if we had created a set of public comps and then added in health insurance companies or pharmaceuticals companies that do not focus on generics, it would be very difficult to justify the set. Even in the current set used in the DCF to calculate WACC, adding in companies like Pfizer and Merck is questionable (since they’re much bigger and more diversified), and you would get questions on this decision if someone dug into your analysis. Risk Factors and How to Mitigate Them This is the most commonly overlooked or misinterpreted section of any stock pitch. Yes, the most obvious risk for a long/short recommendation is that the stock price moves in the opposite direction… but what causes that to happen? To determine that, you have to go back to your investment thesis and catalysts and link the risk factors directly to those points. The key here is specificity. Whenever possible, you need to tie each risk factor to a specific dollar impact on the company’s implied share price and indicate how you might protect against it, or at least reduce your potential losses. Here is the structure I recommend: 1. The Top 2‐3 Risk Factors – For Mylan, for example, key risk factors would be new products failing to launch on time, the Agila acquisition not closing or not performing as well as planned, the growth rates in emerging markets being lower than expected, and so on. You would then attempt to estimate the implied per share impact from each of these (even a wide range is better than nothing at all). 2. How to Mitigate the Risks – For long/short equity strategies and stock pitches, you mitigate the risks mostly via protective options (e.g. put options for long recommendations and call options for short recommendations) and by longing or shorting other companies’ stocks that may move in the opposite direction from the company you’re analyzing. 3. And Even in the Worst Case… – Let’s say that you’re really, really wrong. How much are the company’s net assets worth if it goes bankrupt? Does it have any assets or divisions that it could sell off in the case of extreme financial distress? For short recommendations, how will you limit http://breakingintowallstreet.com http://www.mergersandinquisitions.com your losses if you’re completely wrong and the company’s stock price skyrockets? Does your valuation indicate that, even in the worst case, there’s a low probability of the company’s share price falling below a certain number or rising above a certain number? The Top 3 Most Common Mistakes in Your Stock Pitch Structure and How to Avoid Them Here are the 3 most common mistakes we’ve seen with clients and students of our courses who are researching and valuing companies (or other investments) for use in their own pitches: 1. Inability to Support Assumptions – Why are you assuming higher revenue growth or margins in a certain year? What research or channel checks support that assumption? Why do you think the company will grow at a higher‐than‐expected or lower‐than‐expected rate? If they get into a detailed discussion and you can’t back up every number in your analysis, you’ll be in trouble. 2. Poor or Non‐Existent Catalysts – If your catalysts are beyond the 6‐12 month range, that’s too far into the future for most hedge funds (remember, they are reporting performance to their LPs very frequently). Also, if you list catalysts but you’re vague about the specific price per share impact, or your catalysts are not company‐specific (e.g. “The economy will rebound due to new fiscal policy!”) you’re also making a mistake. 3. Poor or Non‐Existent Risk Factors and Mitigants – The most common mistake is to leave these risk factors out altogether, or to give risk factors that are too vague (e.g. “Emerging markets growth will be slower than expected” – yes, but what dollar amount of potential losses does that translate into for you?). Failing to give mitigants that are properly matched to the risks you state is another common mistake in this section. Return to Top. How Do You Outline and Write a Stock Pitch? Finally, what you’ve been waiting for. Note that this is a lengthy pitch and is not something you would say in response to a simple interview question unless they want to make the whole interview an extended discussion of a stock. This is more of an outline that you would use to prepare for a formal presentation of a stock pitch or case study in an interview. Here’s the example stock pitch outline for Mylan, along with a few notes and comments in between: http://breakingintowallstreet.com http://www.mergersandinquisitions.com Stock Pitch – LONG Recommendation for Mylan [MYL] Recommendation I recommend longing Mylan [MYL], a generics pharmaceuticals company, which currently trades at $28.60 per share, because it is undervalued by 10‐20%, the market has incorrectly overemphasized price competition in its EpiPen product line, and there is significantly more upside to its recently announced Agila acquisition than the market has given it credit for. Additionally, even if growth in its generics segment declines at faster‐than‐expected rates, there is still at least 10% potential upside in the stock. Catalysts to increase its share price in the next 6‐12 months include the close of its recently announced $1.6 billion Agila acquisition (expected in Q4), the company’s first earnings announcement post‐
acquisition, and the launch of Xeloda, an oral cancer drug, in the middle of the year. Key investment risks include the Agila acquisition failing to close, integration being more challenging than expected (resulting in lower revenue growth and/or margins), and the company’s new product launches for the year, such as Xeloda, generating lower‐than‐expected revenue. We could mitigate those risks via protective put options or covered calls, or by longing the stock of peer companies that have invested more heavily in other geographies or in competitive products. Company Background 14 M
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Volume
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Mylan ‐ Price‐Volume Graph (Past Year)
$35.00
Mylan is a global pharmaceuticals company that operates in 2 segments: generics and specialty pharmaceuticals (primarily EpiPen). Total revenue in FY 2012 was $6.8 billion, with EBITDA of $1.7 billion (24% margin), and the company has grown revenue at 10‐12% for the past 2 years, mostly through acquisitions of generics and specialty businesses from other companies. Its generics segment accounted for 88% of total revenue and 85% of operating income in FY 2012, but its percentage of total revenue has declined slightly from over 90% 3 years ago. Mylan currently trades at trailing multiples of 2.3x EV / Revenue and 9.3x EV / EBITDA. Forward multiples in our “base case” revenue and margin assumptions are 2.1x EV / Revenue and 9.0x EV / EBITDA in FY 2013, excluding the impact of the Agila acquisition (which is set to close in Q4 of FY 2013). http://breakingintowallstreet.com http://www.mergersandinquisitions.com Investment Thesis Currently, the market views Mylan as a fairly standard generics pharmaceuticals company in “the middle of the range” of its peer companies in the industry. As a result, it also trades at valuation multiple squarely in the middle of that range, and its multiples are close to those of Actavis, its closest peer (excluding the impact of acquisitions). However, the stock is priced imperfectly for the following reasons: 1. There is significantly more upside to the Agila acquisition than the market has priced in – as demonstrated by channel checks we performed in emerging markets such as Brazil, which comprises 27% of Agila’s revenue. Factoring in higher‐than‐projected growth rates, our analysis implies a valuation of at least $31.00 – $32.00 per share vs. Mylan’s current price of $28.60. 2. There is significantly less downside in the decline of its specialty segment than the market has attributed to it. Even with more conservative estimates, the specific decline rate of this segment only accounts for approximately $0.75 – $1.00 of Mylan’s implied per share value. In most reasonable scenarios, a faster‐than‐expected decline rate would push down Mylan’s valuation by at most $0.50 per share. 3. While some have expressed concern over growth in its core generics segment, even with lower assumed growth rates over the next 5 years, there is still potential upside of at least 10% over the next 12 months; furthermore, the launch of key new products such as Xeloda in the middle of this year reduces the risk of lower‐than‐expected revenue growth. Each of these reasons ties in directly to the company’s valuation and will make a substantial impact (in the case of reasons #1 and #3 above), or will make far less of an impact than what the market currently expects, even in a downside scenario (for reason #2). Even if some of these reasons turn out to be incorrect, any one of the factors above represents a significant difference from the current market view of the stock and could result in substantial upside. If all of the factors above turn out to be incorrect, then Mylan is valued appropriately at its current stock price and an investment would represent minimal downside risk, even if there’s no room for share price appreciation. Catalysts Catalysts in the next 6‐12 months include: 
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The close of the recently announced $1.6 billion Agila acquisition (expected in Q4 FY 2013); The company’s first earnings announcement post‐acquisition; and The Xeloda launch in the middle of the year. http://breakingintowallstreet.com http://www.mergersandinquisitions.com Catalysts #1 and #2 are interrelated and are the most significant in terms of valuation. Specifically, the acquisition of Agila may result in $450+ million in additional revenue in FY 2014 and over $120 million in EBITDA, with revenue growing to over $900 million and EBITDA growing to $300+ million in FY 2017. This makes a difference of over $7.00 per share in the base case assumptions in our DCF analysis (discount rate of 6.8%, terminal FCF growth rate of 1.0%, and generics revenue growth at 7% initially, falling to 4% by FY 2017): WITHOUT Agila, Mylan’s implied share price is in the $20.00 ‐ $30.00 range: Mylan, Inc. ‐ Net Present Value Sensitivity ‐ Terminal Growth Rates
Terminal Growth Rate
$ 24.35
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
5.0%
$ 72.63
59.26
49.70
42.54
36.97
32.51
5.5%
$ 57.89
48.52
41.49
36.02
31.65
28.07
6.0%
$ 47.36
40.47
35.10
30.81
27.30
24.37
6.5%
$ 39.46
34.20
29.99
26.54
23.67
21.24
Discount Rate
7.0%
7.5%
$ 33.32 $ 28.40
29.18 25.08
25.80 22.31
22.98 19.97
20.60 17.96
18.55 16.19
8.0%
$ 24.37
21.66
19.36
17.39
15.64
14.11
8.5%
$ 21.02
18.76
16.81
15.09
13.59
12.27
9.0%
$ 18.18
16.25
14.56
13.09
11.79
10.63
Its implied share price is exactly $24.35 without the acquisition, but it jumps to $31.00+ per share with the acquisition included in future years (the highlighted area below demonstrates more of the “downside case” – 30‐35%+ revenue growth is likely based on our channel checks): Agila ‐ Annual Decline in Revenue Growth Rate
Mylan, Inc. ‐ Net Present Value Sensitivity ‐ Initial Agila Revenue Growth vs. Decline in Revenue Growth Rates in Subsequent Years
Initial Agila Revenue Growth
$ 31.41
15.0%
20.0%
25.0%
30.0%
35.0%
40.0%
45.0%
50.0%
55.0%
(1.0%)
$ 27.96 $ 28.85 $ 29.90 $ 31.13 $ 32.56 $ 34.22 $ 36.13 $ 38.33 $ 40.83
(1.8%)
27.73 28.57 29.57 30.75 32.12 33.71 35.54 37.64 40.05
(2.5%)
27.50 28.31 29.26 30.38 31.69 33.21 34.97 36.99 39.30
(3.3%)
27.29 28.05 28.96 30.03 31.28 32.73 34.41 36.35 38.57
(4.0%)
27.09 27.81 28.67 29.69 30.88 32.27 33.88 35.74 37.87
(4.8%)
26.89 27.58 28.40 29.37 30.50 31.83 33.37 35.15 37.20
As shown in the table, even if Agila’s revenue declines at faster‐than‐expected rates (the bottom several rows), there is still upside and a $30.00+ per share price is plausible with the Agila contribution. Consensus estimates currently peg Agila’s revenue growth at 25% in FY 2014, falling to 10% by FY 2017, but we have assumed a premium to these numbers because of the following factors: 
Via channel checks, we spoke with several healthcare professionals in emerging markets and they all agreed that Agila’s market position in Brazil (which currently represents 27% of its revenue) is highly desirable and very difficult to replicate given government regulations there and the requirement to manufacture locally. Effectively, it has close to a monopoly in this fast‐
growing market and will maintain that for the next several years. http://breakingintowallstreet.com http://www.mergersandinquisitions.com 
Furthermore, several customers in Brazil mentioned that they expect demand for injectables will be higher than expected and that the growth rate in Brazil will be even higher than overall injectables growth in emerging markets as a whole. As a result, we believe that 35%+ growth initially followed by a slower‐than‐expected decline is reasonable, which in turn will boost Mylan’s share price once the market gains knowledge of this and prices it in appropriately. The second catalyst, the company’s first earnings announcement post‐acquisition, is significant because this event may make the market realize the pricing imperfection in Mylan’s stock once the company provides higher‐than‐expected guidance for FY 2014 as a result of the acquisition. It is possible that the acquisition may not close, or may not be approved by government authorities, or may not work as well as expected, but we address these risks below in the section on Investment Risks. Finally, catalyst #3, the launch of the Xeloda brand, is significant because it is a $700+ million brand with the potential to boost Mylan’s total over revenue over the next 5 years by anywhere between 2% and 5% depending on the revenue contribution each year. This sensitivity table shows the impact of Mylan’s generics segment revenue growth and its overall operating margin over the next 5 years on its implied share price: Mylan, Inc. Standalone Operating Margin
Mylan, Inc. ‐ Net Present Value Sensitivity ‐ Generics Revenue Growth vs. Operating Margin (Excl. Acquisition)
Initial Generics Revenue Growth (Annual change of (0.8%))
$ 31.41
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%
17.5%
$ 28.39 $ 29.61 $ 30.88 $ 32.20 $ 33.56 $ 34.98 $ 36.44 $ 37.96
17.0%
27.48 28.66 29.89 31.17 32.49 33.86 35.28 36.75
16.5%
26.57 27.71 28.90 30.13 31.41 32.74 34.11 35.54
16.0%
25.66 26.76 27.91 29.10 30.34 31.62 32.95 34.32
15.5%
24.74 25.81 26.92 28.07 29.27 30.50 31.78 33.11
15.0%
23.83 24.86 25.93 27.04 28.19 29.38 30.62 31.90
11.0%
$ 39.53
38.27
37.01
35.75
34.49
33.23
While this table does not directly show the impact of cumulative revenue and revenue growth over 5 years, you can see the impact of even a 1% change in initial revenue growth in FY 2013: approximately 1% in extra revenue growth translates into around $1.25 in extra per share value. With Xeloda and other new products, we believe at least 6‐7% revenue growth, falling by 0.5%‐1.0% per year, is reasonable, which would imply valuations of at least $29.00 ‐ $30.00 per share, and potentially over $32.00 per share. All of the above represent catalysts that could boost Mylan’s share price to our targeted range of $32.00 ‐ $34.00 per share in the next 12 months; if they all come true and work as expected, the price may be near the upper end of that range, and if one or more is false, there is still potential upside in the stock but it would be reduced to the lower end of that range, or slightly below it. http://breakingintowallstreet.com http://www.mergersandinquisitions.com Valuation We have valued Mylan using public comps, precedent transactions, and the DCF analysis. To select comparable public companies and precedent transactions, we have used the following criteria: [You would explain the criteria here in a real stock pitch – this selection process and the calculations you need to make are covered in the full courses on the site]. Here are the implied valuation ranges from these methodologies: [You would display the ranges from this analysis in a real stock pitch and explain what the valuation ranges tell you about the company – might it be undervalued? Overvalued? Valued appropriately? These charts and discussions are covered in the full courses on the site.] The discounted cash flow analysis uses the following “base case” assumptions: 
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Initial Generics Segment revenue growth of 7.0%, declining by 0.8% per year (based on Mylan’s product pipeline, expected launch dates, and consensus estimates, which we have seen no reason to deviate from) Initial Specialty Segment revenue growth of 10.0%, which then reverses into a 20.0% annual decline each year starting in the second year – most analysts project this segment to grow for 2 years before declining, but we are being extra conservative with the base assumptions here Operating Margin of 16.5% and Tax Rate of 35.0%, in‐line with historical levels $1.6 billion in debt raised for the Agila acquisition in FY 2013, with a $125 million cash earnout in FY 2014; Agila’s revenue grows from $454 million in FY 2014 to $908 million in FY 2017, with Operating Income rising from $121 million to $283 million – these numbers exceed consensus estimates due to our channel checks and additional research 6.8% discount rate (based on public comps and WACC), 1.0% terminal FCF growth rate, and standard discount periods Here’s the DCF down to the NOPAT line so that you can see the revenue and operating income contributions from different segments and the Agila acquisition: http://breakingintowallstreet.com http://www.mergersandinquisitions.com Mylan, Inc.‐ Free Cash Flow Projections
Fiscal Year Ends December 31,
Generics & Other Revenue:
Generics Revenue Growth Rate:
Specialty (EpiPen) Revenue:
Specialty Revenue Growth Rate:
Total Revenue:
Overall Revenue Growth Rate:
Operating Income:
Operating Margin:
2010
Historical
2011
2012
2013
2014
Projected
2015
2016
2017
$ 5,028 $ 5,583 $ 5,996 $ 6,416 $ 6,817 $ 7,192 $ 7,533 $ 7,835
N/A
11.0%
7.4%
7.0%
6.3%
5.5%
4.8%
4.0%
423 547 800 880 704 563 451 360
N/A
29.3%
46.3%
10.0%
(20.0%)
(20.0%)
(20.0%)
(20.0%)
$ 5,451 $ 6,130 $ 6,796 $ 7,296 $ 7,521 $ 7,755 $ 7,984 $ 8,195
N/A
12.4%
10.9%
7.4%
3.1%
3.1%
3.0%
2.6%
722 1,005 1,109 1,204 1,241 1,280 1,317 1,352
13.2%
16.4%
16.3%
16.5%
16.5%
16.5%
16.5%
16.5%
Less: Taxes, Excluding Effect of Interest:
(421) (434) (448) (461) (473)
Net Operating Profit After Tax (NOPAT):
782 807 832 856 879
Contribution from Agila: Revenue:
Revenue Growth Rate:
Operating Income:
Operating Margin:
NOPAT:
Tax Rate:
70 129 193 255 344 454 586 739 908
84.3%
49.6%
32.1%
35.0%
32.0%
29.0%
26.0%
23.0%
32 49 66 91 121 169 223 283
24.7%
25.4%
25.9%
26.3%
26.6%
28.8%
30.2%
31.2%
68 91 126 168 212
25.0%
25.0%
25.0%
25.0%
25.0%
Combined Company Revenue:
Combined Company Operating Income:
Combined Company NOPAT:
7,296 7,975 8,341 8,722 9,103
1,204 1,362 1,448 1,541 1,635
782 897 958 1,024 1,091
Here are the most relevant sensitivity tables based on key variables in this analysis, such as the discount rate, terminal growth rate, and revenue growth and margins: Terminal Growth Rate
Mylan, Inc. ‐ Net Present Value Sensitivity ‐ Terminal Growth Rates
$ 31.41
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
5.0%
$ 89.51
73.40
61.90
53.27
46.56
41.19
5.5%
$ 71.77
60.48
52.02
45.43
40.17
35.86
6.0%
$ 59.10
50.80
44.34
39.17
34.94
31.41
6.5%
$ 49.60
43.26
38.19
34.04
30.58
27.66
Discount Rate
7.0%
7.5%
$ 42.21 $ 36.30
37.24 32.31
33.16 28.97
29.77 26.16
26.90 23.74
24.44 21.64
8.0%
$ 31.47
28.20
25.43
23.06
21.00
19.20
8.5%
$ 27.44
24.72
22.39
20.37
18.61
17.04
9.0%
$ 24.03
21.74
19.76
18.03
16.47
15.08
Key Takeaways: The analysis is highly sensitive to both of these assumptions – however, these terminal growth rates are also quite conservative and even in the case of 0.0% or 0.5% growth, the company would only be valued at slightly less than its current stock price. The bigger question is the discount rate – is 7.0% (or 6.8% more precisely) appropriate? That may require some additional research. Here’s another table for the initial revenue growth in Mylan’s generics segment (with the revenue growth rate falling by 0.75% each year, i.e. the second year would be 6.3%), along with the company’s overall operating margin: http://breakingintowallstreet.com http://www.mergersandinquisitions.com Mylan, Inc. Standalone Operating Margin
Mylan, Inc. ‐ Net Present Value Sensitivity ‐ Generics Revenue Growth vs. Operating Margin (Excl. Acquisition)
Initial Generics Revenue Growth (Annual change of (0.8%))
$ 31.41
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%
17.5%
$ 28.39 $ 29.61 $ 30.88 $ 32.20 $ 33.56 $ 34.98 $ 36.44 $ 37.96
17.0%
27.48 28.66 29.89 31.17 32.49 33.86 35.28 36.75
16.5%
26.57 27.71 28.90 30.13 31.41 32.74 34.11 35.54
16.0%
25.66 26.76 27.91 29.10 30.34 31.62 32.95 34.32
15.5%
24.74 25.81 26.92 28.07 29.27 30.50 31.78 33.11
15.0%
23.83 24.86 25.93 27.04 28.19 29.38 30.62 31.90
11.0%
$ 39.53
38.27
37.01
35.75
34.49
33.23
Key Takeaways: If you look at the highlighted area, you’ll see that even in downside scenarios, the valuation implies, at worst, approximately a 15% discount to Mylan’s current share price, and each 0.5% in margin contributes about $1.00 per share, with each additional 1.0% of revenue growth adding $1.25. The more optimistic scenarios and implied values over $35.00 per share are less likely, but from this table it certainly seems like the potential upside exceeds the potential downside. We have already shown the tables for the Specialty Segment revenue growth vs. decline rates and the analysis of Agila’s initial revenue growth and decline rate in the Catalyst section; the key takeaways are that the Specialty decline rate is almost irrelevant, and that additional upside from Agila contributes substantially to implied valuation, at around $1.25+ per share for each 5% of initial Year 1 revenue growth. Based on our research and channel checks, we believe there is a high likelihood that actual revenue growth will meet or exceed these numbers due to Agila’s favorable geographical split and strong competitive advantage in emerging markets. Investment Risks The top risk factors include: 1) The Agila acquisition failing to close; 2) Integration being more challenging than expected (resulting in lower revenue growth and/or margins); and 3) The company’s new product launches for the coming year, such as Xeloda, generating lower‐
than‐expected revenue. We’ll address each of those risk factors in turn and explain how to mitigate them: Agila Acquisition Fails to Close If the Agila acquisition does not close or is held up by regulatory approval or by other factors, the company might be worth closer to the $25.00 – $30.00 per share range (see the tables in the Catalysts section above). http://breakingintowallstreet.com http://www.mergersandinquisitions.com While that is not dramatically different from its current price of $28.60, there is a chance that the market may overreact and send the stock price down, or that the stock price could fall as the company guides to lower revenue and EPS in FY 2014 as a result of the delay. To hedge against this risk, we could buy protective put options on Mylan’s stock at a strike price of $27.17 (or something close to that) to limit our losses to 5%; this is not an investment with massive upside, so we don’t see a reason to accept greater than 5% losses if the potential gain is only 10‐15%. Integration is More Challenging than Expected / Emerging Markets Grow More Slowly As shown in the tables above, this investment thesis is heavily dependent on growth in emerging markets exceeding estimates and the Agila acquisition making a substantial contribution to revenue and operating income from FY 2014 through FY 2017. If that does not happen, the company’s implied per share value would be closer to $25.00 – $30.00 per share in the case where initial revenue growth from Agila is between 15% and 30% and the annual revenue growth decline rate is 3.0% – 5.0% rather than the 3.0% we’ve assumed in the base case. That doesn’t represent a massive potential loss, but we could hedge against this outcome by longing a competitor with less exposure to emerging markets, such as Actavis, or even a much larger pharmaceuticals company with a more diversified pipeline, such as Pfizer or Merck. New Product Launches (Xeloda) Generating Lower‐than‐Expected Revenue As shown above, the analysis here is dependent on solid revenue growth in Mylan’s generics segment going into FY 2013 and beyond – if the initial revenue growth is in the 3.0% – 6.0% range rather than the 7.0% in our base case, and the operating margin falls from 16.5% to closer to 15.0%, the company’s implied value per share falls to the $23.00 – $27.00 range. This is a sizable discount to the company’s current $28.60 share price, so we could hedge against this risk via protective put options (purchased at $26.00 – $27.00 strike prices), or by longing the stock of a competitor that is focused on other segments of the pharmaceuticals market, or one that offers products in the same segment (oral cancer drugs) but with more competitive pricing or other benefits. This would require additional research on the market and peer companies to execute properly. The Worst Case Scenario Another risk is that we could be wrong about everything outlined above, from the revenue growth rates and margins to the acquisition, new product launches, and more. http://breakingintowallstreet.com http://www.mergersandinquisitions.com A true “worst case scenario” might result in an implied share price of between $15.00 and $20.00 if you assume dramatically lower revenue growth, lower margins, a significantly higher discount rate, and a terminal FCF growth rate of less than 1.0%. Assets minus Liabilities on Mylan’s Balance Sheet is currently $3.4 billion, which equates to a stock price of $8.60. If you subtract out Intangible Assets and Goodwill, however, the picture is not as favorable since Tangible Assets minus Liabilities is actually a negative number – as is often the case for pharmaceutical firms with IP‐heavy portfolios. So there is not much “Balance Sheet protection,” but we could protect against these extreme downside scenarios via protective put options, longing the stock of peer companies such as Actavis, or investing in another company in the sector with a different geographical and/or product focus. Additionally, there is another way to hedge against this extreme downside with Mylan: since it has acquired so many companies in recent years, it could sell off any divisions that have not already been fully integrated, or even ones that have been more fully integrated (and accept a discount to market value for them). We would need to conduct additional research and do more valuation work on what these divisions might be worth, but the company has spent nearly $1 billion on these deals in the past several years – on the surface, that is also a low per‐share value, but potentially they could be sold for significantly more than that $1 billion depending on how market values have changed over time. Return to Top. http://breakingintowallstreet.com http://www.mergersandinquisitions.com What Next? Now that you’ve completed this case study, looked at the DCF analyses for both companies, and read this stock pitch above, what’s next? What can you do to master these concepts and get more practice with all of this? Here’s what I recommend: 1. Flesh Out the Missing Pieces Here – For example, do your own channel checks and your own industry research and see if you can confirm / deny some of these assumptions, or at least make your own arguments for or against what we’ve laid out above. 2. Learn How to Complete the Rest of the Valuation – This is covered in the Fundamentals, Advanced, and BIWS Premium courses on the site, as well as in the industry‐specific courses. I recommend clicking here and signing up for the Premium course to start with, so you can see the additional calculations that go into the DCF analysis, learn the more advanced additions, and learn how to select and run the numbers for public comps and precedent transactions. 3. Practice with Your Own Company – Use what you’ve learned here to generate your own investment ideas and stock pitches, in any industry you’re interested in. The same structure always applies, but the model inputs, research, and valuation will be different. You could pick Actavis and do a deep‐dive on them, or you could pick any other company or industry you’re interested in and repeat what we’ve done above. 4. Use These Skills to Win Offers / Advance on the Job – The ability to research, pitch, and support your investment ideas is critical in any field of finance, whether you’re interviewing for roles as a recent graduate or you’re on the job and you’re using these ideas to convince your PM that you’re correct and that he should listen to your ideas. And, of course, being able to present a polished case study and write‐up like this will give you a massive advantage over everyone else in interviews, and on the job. Return to Top. http://breakingintowallstreet.com http://www.mergersandinquisitions.com