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From the Survey: Perrigo
Perrigo (PRGO) has a long history of distributing drugs and has moved into a market leadership role among the over-the-counter (OTC) drug producers. Increases in quality and competitive prices have helped create a trend towards store branded medicine, as opposed to national drug brands. Sales and profits at the company have been largely boosted by well-timed acquisitions and strong product development. The stock was added to the S&P 500 Index in December of 2011, and has climbed from a low of $18.50 during the 2008-2009 recession to recent all-time highs above $120 a share.
Luther Perrigo established the company in 1887 in order to distribute drugs for resale by rural stores. Currently, the company makes private label OTC drugs, nutritional products, active pharmaceutical ingredients and veterinary generics. Its lineup contains over 1,800 products, which have largely diversified the company against any one medicine. Wal-Mart (WMT - Free Wal-Mart Stock Report) is the largest customer accounting for 20% of sales, while CVS Caremark Corporation (CVS) also partners with Perrigo.
Strong research and development has led to a diverse sales mix. The past pipeline has included generic versions of Nicorette Gum and Xenical (2006), Lamisil, Loprox and Zyrtec (2007), Prilosec (2008), Zoloft (2009), Monistat and MiraLax (2010), Allegra and Nasacort (2011), Rogaine and Claritin-D 12 (2012) and Mucinex (2013). Many more drugs will be brought forth in the coming years.
A substantial portion of PRGO’s cash flow is currently being spent on new acquisitions and research and development projects. Purchases have helped to increase the product line to over 1,800 offerings. Perrigo’s new products are then able to capitalize on the company’s economies of scale and existing customer relationships, spurring additional revenue growth. That said, management has chosen to keep the dividend low, especially when compared to other drug companies.
The acquisition strategy has led to new industry positions over the past few years. The PBM Holdings purchase created a new instant formula segment, while the purchases of Sergeant and Velcera have created a stalwart in the generic veterinary products. The Cam-Am Care purchase has provided the company with a foothold in generic diabetes supplies, and other acquisitions have further boosted product diversity. Increasing balance sheet strength and financial stability have allowed for more acquisitions to occur.
The long-term trend of consumers switching from Rx drugs to generics has been a staple of Perrigo’s strategy, as it introduces a less expensive version of a profitable product when it comes off patent. Because existing sales fall when drugs come off patent, other drug companies must innovate, leaving Perrigo with many new drugs to reproduce. Competitor recalls also have benefited the company, leaving a clearer field and by the time the competitor has the problem fixed, consumers have switched to the store branded item and may have found a better value.
One of the threats to Perrigo is government regulation. A government mandated switch from psuedoephedrine to phynelephrine in 2005 hurt the bottom line, for example. As the number of product lines increases, so does government scrutiny. Another problem includes other drugmakers suing for patent protection, which can delay product launches. These delayed product launches increase the total cost of innovation. Elsewhere, although the percentage of sales to Wal-Mart has decreased from 26% to 20% since 2005, relying so heavily on one customer could potentially cause problems.
Many opportunities for growth exist in the current landscape. The company’s strong fiscal position will allow for more aggressive and possibly more sizable acquisitions. Perrigo’s strong pipeline currently has generic versions of drugs in progress that have $10 billion in annual sales. Meanwhile, the acquisition of Can-Am care in 2012 for $36 million has been considered a small purchase in terms of yearly revenues, but the possible growth worldwide in diabetes medicines continue to grow. Though total sales are mostly in the U.S., the company has notable sales in the U.K., Israel, Mexico, and Australia. The company also has outstanding sales potential should it increase its presence in China, India and Europe.
The threats to Perrigo appear mostly contained. Larger OTC drug makers could introduce their own generics. This has happened a few times in the past, including when Johnson & Johnson (JNJ - Free Johnson & Johnson Stock Report) created an OTC version of Zyrtec in 2007, which increased competition in the antihistamine space. That said, these types of cases seem to be the exception to the rule. Drugmakers also have vigorously protected their patents, and lawsuits over intellectual property are common. That said, legal issues don’t appear to be causing any sustained damage.
Perrigo remains well positioned to take advantage of the growth in OTC medicines. Having a strong partner in Wal-Mart allows for increased stability. The company’s track record of generic drug development and strong acquisitions will lead to further growth in the future, while growth in earnings should push the stock to fresh new heights.
At the time of this article’s writing, the author had positions in WMT and JNJ.