CHICAGO--(BUSINESS WIRE)--Fitch Ratings has affirmed the ratings of Actavis, Inc. (NYSE: ACT), including the Issuer Default Rating (IDR), at 'BBB-'. The Rating Outlook is Stable.
A full list of rating actions follows at the end of this release. The ratings apply to approximately $6.4 billion of debt outstanding at June 30, 2013.
KEY RATING DRIVERS
Recent Acquisitions Strengthen Competitive Position: Fitch believes the 2012 acquisition of the Actavis Group (legacy Actavis) and the pending acquisition of Warner Chilcott plc (NASDAQ: WCRX; Warner Chilcott) improves the company's competitive position and growth prospects. Fitch expects ACT to emerge from successful business integration with a stronger international presence, a bigger and better portfolio of branded drugs, higher profit margins, and more robust cash flows.
Solid Liquidity, Good Cash Generation: ACT has a solid liquidity profile, supported by consistently robust cash generation. Fitch expects cash flows to increase significantly in 2013-2014 and beyond, largely the result of recent and pending M&A, with annual free cash flow (FCF; cash from operations minus dividends minus capex) approaching $2 billion over the ratings horizon.
Balance Sheet Focus: Over the past several years, ACT has demonstrated its commitment to maintaining a strong balance sheet and an investment grade credit profile by routinely following debt-funded transactions with a period of diligent debt repayment. Fitch believes ACT will achieve reported gross debt leverage of 2.5x-3.0x by year-end 2014 and will operate generally within this range over the ratings horizon.
Expansionary M&A: Fitch believes ACT will be positioned to engage in targeted small- to medium-sized M&A activity subsequent to the Warner Chilcott deal. Acquisition targets will most probably be branded drugmakers with complementary product portfolios or operations in markets to which ACT currently has limited exposure.
Favorable Long-Term Industry Outlook: The pace of branded-to-generic conversions is set to slow in the U.S. and Europe post-2014. However, Fitch sees a moderately favorable operating environment for global generic firms over the next several years, with the expectation for gradually improving generic penetration rates in many developed European countries, the opportunity for continued expansion into developing markets, and the prospects of a burgeoning biosimilars market in the 2016 timeframe and beyond.
Maintenance of 'BBB-' ratings will generally require ACT to operate with gross unadjusted debt leverage of around 3.0x or below, accompanied by consistent base business growth and meaningfully positive FCF. Successful integration of both legacy Actavis and Warner Chilcott will also support the current 'BBB-' ratings. Fitch notes that ACT's credit profile subsequent to the acquisitions of legacy Actavis and Warner Chilcott will likely provide some additional flexibility in the event of temporarily leveraging M&A.
Fitch does not expect ACT to abandon its long-standing commitment to maintaining an investment grade credit profile. But a negative rating action could result from a leveraging transaction and/or deteriorating operations leading to gross debt leverage that is expected to be sustained considerably above 3.0x or FCF that is significantly reduced from current levels. Large settlements or other litigation-related cash payouts could also negatively impact ratings.
A positive rating action could be precipitated by Fitch's expectation for gross debt leverage to be sustained below 2.5x, accompanied by consistent FCF margin of at least 6%. Additional de-leveraging and improved cash flows in the near-to-intermediate term could result from better-than-expected synergies from recent business combinations and/or new product launches.
WARNER CHILCOTT DEAL IS CREDIT POSITIVE
The addition of Warner Chilcott's complementary branded drug portfolio will strengthen ACT's positions in especially women's health, while adding exposure to the therapeutic areas of dermatology and gastroenterology. There is some risk associated with Warner Chilcott's somewhat declining product portfolio, however. Its three best-selling franchises, Asacol, Loestrin, and Actonel, which accounted for nearly two-thirds of 2012 sales, will each lose patent protection in the first half of 2014. A history of relatively successful brand switching, including the recent conversion of patients to Delzicol from Asacol, mitigates this risk.
Fitch expects ACT to achieve higher margins over the ratings horizon, owing to the addition of the Warner Chilcott business and significant synergy potential from an improved tax structure and certain interest, manufacturing and other operational efficiencies, particularly during 2014. Fitch thinks the company's stated $400 million of synergies is at the low end of what could be achieved in the first couple of years post-transaction, especially given ACT's history of successful business integrations. The deal will also result in immediate de-leveraging on a pro forma basis, due to its equity financing.
Upon the close of the transaction, Fitch expects to rate the new Actavis borrowing and issuing entities and associated new debt, as well as the Warner Chilcott borrowing entities and currently outstanding bonds, in line with the current ratings at ACT. Fitch anticipates the new capital structure will be organized such that appropriate guarantees provide for pari passu ranking among all debt issued therein.
STRONG CASH FLOWS USED FOR DEBT REPAYMENT; POSSIBLE SHAREHOLDER PAYOUTS IN LONG-TERM
Fitch expects ACT will continue to direct excess cash flows toward debt repayment in 2013-2014, consistent with its past practice of rapid debt repayment following a leveraging transaction. However, the amount of debt paydown required to achieve debt leverage in line with the company's credit profile will be reduced subsequent to the close of the all-stock acquisition of Warner Chilcott. Fitch estimates that ACT will achieve pro forma gross debt leverage of 2.8x-3.0x at year-end 2013.
Fitch forecasts materially increased cash flows beginning in 2014, with FCF approaching $2 billion over the ratings horizon. ACT is not expected to reduce gross debt leverage significantly below 2.5x. So it is possible that the company will initiate share repurchase programs and/or a regular dividend as a use of its materially increased cash generation in in lieu of strategic M&A.
EXPANSIONARY M&A LIKELY IN INTERMEDIATE TERM
Given the immediate de-leveraging expected from the proposed equity-financed Warner Chilcott deal, Fitch believes ACT will be poised to engage in targeted M&A as early as 2014. Acquisitions will likely target branded drugmakers, as Fitch believes the combination of legacy Watson and legacy Actavis resulted in generic operations which are able to grow adequately through internal business development. As such, deals of material size could include those that provide complementary branded products, particularly in ACT's focus areas of women's health and urology. ACT could also seek transactions that provide the company with access to markets where it is currently underrepresented. Fitch expects ACT to engage in M&A activity with attention to maintaining a solid investment grade credit profile.
LONG-TERM INDUSTRY OUTLOOK POSITIVE DESPITE 'REVERSE PATENT CLIFF'
The unprecedented amount of branded drug patent expirations is set to come to an end in the 2014-2015 timeframe, potentially leaving a void in generic drugmakers' growth and margin profiles. However, Fitch views the longer-term outlook for the generic drug industry as favorable. Relatively stable growth in the low- to mid-single digits will be fueled for global generic drugmakers by a gradual increase in generic utilization in in developed European nations, as well as by continued expansion into emerging markets. Continued expansion into branded/specialty pharmaceuticals should also provide a growth and margin driver.
Furthermore, the potential rewards associated with a nascent biosimilars market could prove to be significant. Fitch believes ACT's collaboration with Amgen Inc. with regard to biosimilar development and commercialization stacks up well on paper, as it combines the know-how of a leading biopharmaceutical firm (Amgen) with the generic commercialization competency of a global generic firm (ACT). However, the collaboration and biosimilars in general are still in their very early stages; so the ultimate credit impact on ACT is, at this time, very difficult to predict.
Fitch affirms ACT's ratings as follows:
--IDR at 'BBB-';
--Senior unsecured bank facilities at 'BBB-';
--Senior unsecured notes at 'BBB-'.
The Rating Outlook is Stable.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage' (Aug. 5, 2013);
--'Global Pharmaceutical R&D Pipeline - Novel Drug Approvals Ease' (Sept. 23, 2013);
--'Trekking the Path to Biosimilars - Forging Ahead' (Aug. 5, 2013);
--'U.S. Healthcare Stats Quarterly - First Quarter 2013' (June 25, 2013);
--'Fitch: Warner Chilcott Deal In Line with Actavis' 'BBB-' Ratings' (May 20, 2013);
--'Specialty Pharmaceuticals Snapshot - Key High Yield Consolidator Trends and Targets' (Apr. 18, 2013)
--'Global Pharmaceuticals Sector and Companies Overview' (Jan. 29, 2013);
--'Pharmaceuticals Sector Credit Factor Compendium' (Nov. 13, 2012);
--'Rating Pharmaceutical Companies' (Aug. 9, 2012).
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage
Global Pharmaceutical R&D Pipeline (Novel Drug Approvals Ease)
Trekking the Path to Biosimilars -- Forging Ahead
U.S. Healthcare Stats Quarterly - First-Quarter 2013
Specialty Pharmaceuticals Snapshot - Key High Yield Consolidator Trends and Targets