NEW YORK--(BUSINESS WIRE)--Fitch expects to assign an initial Issuer Default Rating (IDR) of 'BBB+' and short-term IDR of 'F2' to Baxalta Incorporated (Baxalta). The Rating Outlook is Stable. Fitch further expects to assign a rating of 'BBB+' to any senior unsecured debt issued by the company in advance of its spin-off from Baxter International, Inc. (Baxter), which is scheduled to occur on July 1, 2015. A full list of rating actions follows at the end of this release.
KEY RATING DRIVERS
--Fitch expects debt leverage to exceed 2.5x in 2015, which is moderately higher than the target for the 'BBB+' ratings. EBITDA growth and stable debt levels should drive debt-to-EBITDA closer to 2.3x by the end of 2017, which Fitch views as supportive of a 'BBB+' rating.
--Baxalta is making progress moving a number of projects through its pipeline and expects approximately 20 new product launches generating more than $2.5 billion in sales by 2020. New products, combined with increased penetration in existing markets, support Fitch's outlook for mid-single digit organic growth over the next several years.
--Baxalta does not face patent expirations that will meaningfully impact the company's revenues or operating margins over the next several years. Despite not enjoying market exclusivity, Baxalta's key products maintain leading market positions.
--Fitch's outlook for operating EBITDA margins in the mid-30%'s and a manageable debt load should lead to strong cash generation, which will further benefit when capital expenditures decrease to normalized levels beginning in 2016. Fitch expects that free cash flow (FCF) will be modest in 2015 but build fairly quickly to approach $800 million by year-end 2018.
--Baxalta's financial policy and strategic focus as a stand-alone entity are untested. Fitch expects Baxalta to employ a disciplined approach to capital management and M&A but it remains to be seen whether the company possesses adequate scale and resources to compete effectively with some of its much larger competitors or if the company will face pressure to adopt a more aggressive posture to capital deployment than currently anticipated.
RATING SENSITIVITIES
The 'BBB+' IDR incorporates the expectation that Baxalta's gross debt leverage will ultimately stabilize at levels between 2.0x-2.3x. This will provide Baxalta with some flexibility to increase leverage to pursue occasional, targeted investments to augment the company's drug development pipeline while maintain a 'BBB+' rating.
While Fitch does not anticipate a positive rating action in the near term, future developments that could lead to such an action include if Baxalta were to consistently maintain gross debt leverage of 1.75x or lower, while sustaining strong operational performance including relatively stable to positive trends in revenues, margins and FCF.
Future developments that may individually or collectively lead to a negative rating action include sustained gross debt leverage greater than 2.5x or higher. This could result from EBITDA declines due to marketplace pressures, adverse actions from regulatory bodies or unfavorable clinical developments.
Fitch could also downgrade Baxalta's ratings if the company were to pursue a transformational acquisition outside of Baxalta's current areas of focus (innovative therapies affecting discrete patient populations) or if the company executed a transaction (acquisitions/share repurchases) that placed pressure on gross leverage without the expectation of deleveraging in a timely manner.
POST SPIN CAPITAL STRUCTURE:
Baxalta management has publicly targeted a gross unadjusted debt-to-EBITDA ratio of 2.0x, which Fitch views as achievable based on forecasted EBITDA growth over the next three to four years. Baxalta plans to issue roughly $5 billion of senior unsecured debt in advance of its spin-off from Baxter, $4 billion of which will be used to pay a tax-free dividend to Baxter. Based on 2014 pro forma EBITDA of $1.8 billion, this implies a gross leverage ratio of roughly 2.7x immediately following the spin-off, which Fitch expects to decline to roughly 2.3x by year-end 2017 due to EBITDA growth. Fitch would view steady state leverage of between 2.0x-2.3x as supportive of the 'BBB+' rating category, while providing Baxalta with sufficient flexibility to pursue occasional, targeted investments to augment the company's drug development pipeline.
BUSINESS PROFILE SUPPORTED BY LACK OF PATENT EXPOSURE, GOOD GROWTH PROSPECTS IN KEY MARKETS:
Hemophilia/Hematology, which represents the majority of Baxalta's business, is a large, growing and durable market that is significantly underpenetrated with only approximately 30% of patients treated on a prophylactic basis globally. Organic growth in this area should benefit from improving treatment standards, particularly in emerging markets, as well as conversion to recombinant therapies. Fitch believes that Baxalta's hemophilia and inhibitor therapies will continue to benefit from strong brand loyalty due to the critical nature of the drugs and users' reluctance to switch away from a therapy that has proven to be safe and effective.
Importantly, Baxalta does not face near team patent expirations that will meaningfully impact the company's revenues or operating margins over the next several years. Despite facing a number of competitors, ADVATE, Baxalta's key hemophilia drug, maintains a market share of approximately 50% in the U.S. and the number one position globally.
Fitch's outlook for positive organic growth is further supported by Baxalta's expectation of approximately 20 new product launches that could generate more than $2.5 billion in sales by 2020. In the near term, Baxalta is developing a longer-acting Factor VIII product, BAX855, that is expected to launch in the U.S. at the end of 2015 or early 2016. Over time, Fitch expects that Baxalta will continue to augment internal R&D by investing in innovative, differentiated therapies that address critical needs of discrete populations. A recent example of this approach was the company's May 2015 announcement that it will acquire the Oncaspar product portfolio from Sigma-Tau Finanziaria S.p.A. for $900 million. Oncaspar is a first-line biologic used as part of a multi-agent chemotherapy regimen to treat acute lymphoblastic leukemia.
SOLID LIQUIDITY PROFILE:
Fitch expects Baxalta to maintain a solid liquidity profile through strong FCF generation and ample access to the credit markets. Baxalta will have cash on hand of approximately $1.5 billion at the time of spin, including approximately $500 million in the U.S. A portion of this cash will be used to finance the Oncaspar acquisition discussed above. Going forward, roughly half of Baxalta's cash flow will be generated in the U.S., which Fitch expects will be more than sufficient to service the company's U.S. operations in addition to annual interest expense, and dividends, which are expected to consume about $300 million of cash from operations annually.
Baxalta's strong margins and manageable debt load are supportive of the expectation for strong cash generation, which will further benefit when capital expenditures decrease to normalized levels beginning in 2016. Baxalta's pro forma capital expenditures have been elevated in recent periods due to capacity expansion projects, most notably the construction of a plasma manufacturing facility in Georgia. This project is expected to be largely complete in 2015, after which Fitch expects CAPEX to fall closer to a run rate level between $600 million-$800 million versus roughly $ 1 billion in 2014 and $1.2 billion in 2015.
UNTESTED AS STAND ALONE ENTITY:
Fitch expects Baxalta's financial policy and strategic focus to be largely consistent with its historical approach as part of Baxter, which employed a fairly conservative and disciplined approach to capital deployment and M&A.
It remains to be seen whether the stand-alone company possesses adequate scale and resources to compete effectively with some of its much larger competitors. Over the next several years, Baxalta will also need to develop its own infrastructure and replace services previously shared with Baxter.
Fitch has assigned the following expected ratings to Baxalta:
Baxalta Incorporated
--IDR at 'BBB+';
--Short-term IDR at 'F2';
--Commercial paper program at 'F2';
--Senior unsecured debt at 'BBB+'.
The Rating Outlook is Stable.
Additional information is available on www.fitchratings.com.
Applicable Criteria
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 28 May 2014)
https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393
Additional Disclosures
Solicitation Status
https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=985451
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https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31
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