By Sameer Jain (Wharton School), Eden Yang (London School of Economics)
Photo: Freestocks (Unsplash)
Overview of the deal
Spin Off: Sandoz
Implied Equity Value: N/A
Total Transaction Size: N/A
Closed date: Expected completion in H2 2023
Target advisor: N/A
On August 25, 2022, Novartis announced its intention to separate Sandoz, its generics and biosimilars division, through a spin-off. This announcement did not take the market by surprise, given poor market conditions and the overall underperformance of the generics unit. The split will refocus the growth strategies of innovative medicines company Novartis and its Sandoz business. For Novartis, this means becoming ultra-focused on new medicinal breakthroughs and strengthening the company’s return on capital. On the other hand, Sandoz will work on its existing biosimilar pipeline of over 15 molecules. Joerg Reinhardt, Chair of the Board of Directors of Novartis, said, “a 100% spin-off is in the best interest of shareholders, allowing shareholders to benefit from the potential future successes of a more focused Novartis and a standalone Sandoz which offer differentiated and clear investment theses”. Post-transaction, Sandoz will likely be incorporated in Switzerland and listed on the SIX exchange, with a dual listing in the US through an American Depository Receipt (ADR).
Company Details (Novartis)
Novartis is an innovative medicines company with a footprint in 155 countries, boasting 30 new molecular entities in its global clinical pipeline. The company has a strong position in five core therapeutic areas: Hematology, Solid Tumors, Immunology, Neuroscience, and Cardiovascular. Its technology platforms cover Gene Therapy, Cell Therapy, Radioligand Therapy, Targeted Protein Degradation, and xRNA.
Founded in 1996, headquartered in Basel, Switzerland
CEO: Vasant Narasimhan
Number of employees: 110,000 (2021)
Market Cap: $176.7bn (as of 07/09/2022)
LTM Revenue: $52.8bn
LTM EBITDA: $31.9bn
LTM EV/Revenue: 3.56x
LTM EV/EBITDA: 5.89x
Company Details (Sandoz)
Sandoz is a developer and manufacturer of pharmaceutical generics and biosimilars - synthetic and biological drugs produced in a way that imitates the chemical characteristics of existing drugs once the relevant patents expire. Its portfolio includes approximately 1,000 molecules and, in recent years, has served 500 million patients worldwide annually.
Founded in 1886, headquartered in Basel, Switzerland
CEO: Richard Saynor
Number of employees: N/A
Market Cap: N/A
LTM Revenue: $9.602M (as of 19/07/22)
LTM EBITDA: N/A
LTM EV/Revenue: N/A
LTM EV/EBITDA: N/A
Projections and Assumptions
Spin-offs are not new to Novartis, which spun off eye care specialist Alcon back in 2019. The transaction will be smooth given that preparation work has been underway for a few years, and Sandoz’s manufacturing operations are already separate from the group’s. In the words of Novartis’ CEO, Sandoz is in a good position to compete at the relevant cost structure and be a leading generics player. Against a weak market backdrop and strong fears of recession, we foresee greater volatility in the share price of Sandoz if market conditions do not improve by H2 2023. An immediate risk to its share price would be a sell-off of spin-off shares by parent shareholders, who may do so due to a mismatch in investment mandates. However, we ascertain that this risk is relatively small, given that institutional ownership of Novartis stands at 8.44%. Investors will closely follow the businesses’ transition to growth post-spin-off. If the financial benefits of operational focus and capital structure simplification show through in their H2 2023 and 2024 performance, Novartis and Sandoz will likely have higher valuations. For an already profitable business, the focus will be on profit margins and capital reinvestment moving forward.
Sandoz has struggled to meet business expectations in recent years, especially since the beginning of the pandemic. The non-proprietary nature of the generics business and the strict regulatory standardization to which pharmaceuticals are subjected means competition generally revolves around pricing. Sandoz’s sales have suffered from increased pricing pressures, with the company recording a 2% decline in 2021 European revenues and a 15% tumble in US revenues on a constant currency basis. COVID lockdowns and the resulting temporary decrease in the transmission of cold and flu viruses had an acute impact on demand for over-the-counter medication, which Sandoz still hasn’t fully recovered from.
The spin-off will position both companies to focus on their respective core competencies. For Novartis, the split is part of an ongoing series of moves to prune the company’s business interests. Past divestments have included Alcon, its eye care segment in 2019 and last November’s vote to sell off a third of its stake in Roche. With the spin-off, Novartis is a step closer to establishing an exclusive focus on Innovative Medicines. The margin improvements, greater operational efficiencies, and simplified capital allocation needs are the main selling points cited by management in its justification of the spin-off. Sandoz stands to become a pure-play market leader in the generics and biosimilars space. Several secular tailwinds drive growth in this business, including a greater push among regulators to increase access to generics and positive shifts among physicians in attitudes toward biosimilars. The spin-off will provide Sandoz greater operating freedom and allow it to fully realize the synergies between its generics and biosimilars segments when it comes to commercial execution and sales channels.
Risks and Uncertainties
Sandoz has struggled to maintain a positive growth trajectory in recent years as sales have begun to slip, and the industry at large has faced several significant headwinds. While the spin-off gives the firm more control over its operational and capital allocation, it is uncertain how that freedom will translate to net sales growth in a turbulent industry. Following the spin-off, Sandoz will also lose access to a large corporate structure, removing a critical source of liquidity which has historically supported them during business decline. Investors will closely monitor the company’s financial performance over the next few years and see if Sandoz can successfully execute an inorganic roll-up growth strategy through acquisitions.
Finally, the spin-off removes a financial cushion and diversification from Novartis. A revival of the generics/biosimilars space could have a material negative shift in the company’s view on this deal in retrospect despite the current dampened outlook of the industry.