Takeover of Elan the perfect fit in Perrigo’s prescription for growth

The signs on the walls say Elan but Perrigo boss Joe Papa is very much in charge at what was, until recently, Ireland's largest indigenous drug company.

The unheralded Michigan-based pharma business was first out of the blocks when Elan put itself on the market last year as part of its defence against a hostile approach from patent revenue business Royalty Pharma.

Its $8.6 billion cash and stock offer was enough to close the deal at a time when rival drugmaker Forest Labs and generics group Mylan, among others, were reported to the circling.

For all three, availing of Ireland’s lower corporation tax rate was a key attraction of the deal. Perrigo plays corporation tax of 35 per cent in its home US market and, before the Elan deal, about 30 per cent on group profits, including international business.

In his first comments on the deal, which closed last December, Papa said he hoped the new Irish-headquartered group would cut that nearly in half – providing a large portion of the $150 million in savings it projects from the acquisition.

Grabbing first-mover advantage is something on which Perrigo prides itself. It has made a business of targeting first-mover advantage in its generics business where the first company to file a generic equivalent of a drug secures a 180-day exclusivity period during which generic rivals are frozen out of the market as it establishes itself.

But tax, though important, wasn’t the sole attraction for Perrigo. A guaranteed long-term royalty income stream from Elan’s former multiple sclerosis drug, Tysabri, following its sale to Biogen will significantly boost Perrigo’s income and cashflow, while its $1.9 billion cash pile took much of the pain out of the cash element of the deal.

From Papa’s point of view, however, all the advantages are measured in the context of the opportunity for Perrigo to expand its international presence.

“As we sit here, about 80 per cent of my business is in the US and only about 20 per cent [is] outside the US,” Papa says. “But I would argue that the needs for healthcare, what we refer to as quality affordable healthcare, are prevalent not only in the US but globally so we have been on a path to expand and consider international expansion for some time.

New markets
"As we thought about Elan, we said what a perfect gateway it would be in our expansion plans to come in, be a much stronger organisation outside the US and we felt the Irish domicile would help us tremendously with that."

Papa has been instrumental in driving the company's expansion. In his seven years at the helm of Perrigo, he has radically reshaped the business which had been headquartered in the small Michigan town of Allegan since 1887 until the Elan takeover.

In that period, he has driven 17 acquisitions that have moved Perrigo into new geographic markets and product areas.

But, if the Elan deal is such a game changer for Perrigo, how come it sat back and allowed Royalty Pharma a clear run at taking over the company.

“I would say we were in the background following very closely. It has never been my game to be active, outspoken; Perrigo as a company has made tremendous progress and one of the things we said is to be low profile.”

Low profile indeed. It may not be a household name but Perrigo is among the top five pharmaceutical companies worldwide in terms of the number of tablets and capsules produced annually.

“Our sales [revenue] numbers aren’t anywhere close to the big pharma, mostly because we don’t get as much per tablet as they do. But in terms of actual tablets and capsules manufacture, we do 47 billion tablets, and additional liquids. Right now, every second of every day somewhere in the world, 1,500 people take one of our product.”

Most of those are in over the counter (OTC) remedies for colds and allergies as well as vitamin and nutritional supplements, delivered as store brands for retail chains such as WalMart – which accounts for around 20 per cent of group sales – Walgreen, CVS and others.

Its consumer health division last year accounted for almost 60 per cent of group revenues, producing 2,700 different items, but as most are store brands.

And it wasn’t as though Elan was an unknown quantity for Perrigo. In fact, the companies’ connections go back 15 years and involve the product for which Elan first made a name for itself – the transdermal nicotine patch.

The patch was the brainchild of Elan founder, the Irish-American Don Panoz. His initial struggles to get it developed in the US were behind his decision to establish a drug-delivery business in Athlone when he first arrived in the country to found Elan.

Initially the patch was a prescription product but, in 1999, Elan and its US partner, Perrigo, won FDA approval to make the patch available as an over-the-counter product.

In that light, the relocation of the now much larger Perrigo to become an Irish company is a neat piece of symmetry.

Perrigo’s expansion under Papa has been driven by what he calls the “three big megatrends” that he believes will dominate the pharmaceuticals market over the coming years and will prove as resonant in Europe as they are in the US: the rising appeal to customers of store brands on cost grounds; increased numbers of products moving off prescription to over-the-counter status, where Perrigo is a noted “first follower”; and development of new products in underserved areas such as pet and eyecare.

“My personal view, and this reflects my view of how I have tried to run the company, is that there are going to be two winners in this,” says Papa, a pharmacist by training who began his career in retail and hospital pharmacy before migrating to the pharmaceuticals industry where he has worked for the past 31 years.

“One is going to be the absolute new innovation, like people developing new drugs for MS such as Tysabri. At the opposite of the spectrum is what I would refer to as quality affordable healthcare and that is where the legacy Perrigo has played.

“And as companies spend more dollars in R&D to come up with new products for innovation to truly address the medical needs that we have in society, society has to find a way to afford those medications,” he notes, especially in a world where people are living longer and drug use over the age of 65 is recognised as twice the level it is below that age.

“Somewhere we are going to have to cut back and we believe part of that answer is that they will come to products like Perrigo makes to try to find a quality product that takes care of the symptoms with the efficacy required but also is more affordable.”

He points to research showing that the “most informed consumers” – doctors, pharmacists and the like – opt for store brand over national brand remedies in the OTC market to illustrate the potential for growth in a market where just 35 per cent of the general population makes the same choice.

In Europe, where store brands do well in most consumer areas except OTC pharmaceuticals, he wants to build on the experience of those who make the switch, referencing data that indicates 91 per cent of those who do try the store brand over the national equivalent tend to stay with it.

Key to its success in the generics business, apart from first mover advantage, is that Perrigo has targeted a niche area – products absorbed topically (through the skin or via the lungs and nose) – which are seen as more difficult to produce competing therapies.

“If you can prove bioequivalence, you can get a fair price and great return for your shareholders,” Papa says. “Twenty people can do an oral product but if we can be among two or three that do it topically, and do it fast, we can set ourselves apart for our customers.”

More affordable drugs in these areas benefit consumers, Perrigo’s customers (the retailers) and ultimately the company’s bottom line, argues Papa.

Affordability has also driven expansion at the group’s nutritional division, which in the past four years has moved aggressively into the fast-growing infant formula market where Papa says it can offer consumers goods equivalent to branded products at around 50 per cent of the price.

Organic growth
The success of his strategy to date is in the numbers. The company has over the past four years reported compound annual growth of 15 per cent in revenues and even more in operating profits. And it hasn't just been down to its M&A activity.

“When you look at the components of our growth, organic growth has been about 8 per cent with the inorganic, or acquisition, growth rate being the other 7/8 cent.

“When I think about the future, what we have said publicly is that, over any three-year period, organically we would like to grow about 5-10 per cent and we would like our operating income even higher than that, or double that.”

While the company continues to expect M&A to deliver roughly half its growth, Papa cautions that another megadeal on the scale of Elan is unlikely in the near future.

“We are a very conservative company. We have increased our debt leverage up to 3.2 times – mostly down to the Elan deal. We want to probably pay that down to about a two times leverage before we do any large acquisitions but we can still do smaller bolt-on acquisitions which is really been the majority of the acquisitions we have done.

“So don’t look for anything large until we have that leverage down, but once we do we can come back for larger deals.”

Perrigo is now a major company with broad interests but Papa and his team are not sated yet.

“We think there is a lot more we can do,” he says, pointing to the group’s growing interest in diabetes, another rapidly growing sector for the industry.

“Another area that we think is important for us is ophthalmic, both prescription and OTC categories is very important.”

Perrigo has also identified the $2 billion global market in adult nutrition – “think of it as the liquid nutritional drinks that people are increasingly using for breakfast, using to lose weight” – as an attractive target.

“The real theme is that they are all product categories that, if I can bring out a quality affordable product make it available for the retailer, be there first with that product, it gives us a very strong position to help the retailer be successful, and then in turn we obviously get success and the consumer saves 25-30 per cent.”

Working with its retail network was the driver for one of the more unexpected recent moves by the company – pet healthcare, or more particularly flea and tick area for “companion” animals (largely cats and dogs) – where it has made a couple of acquisitions “which will allow us to become one of the largest suppliers of flea and tick products for the future”.

“I would love to say it was just great strategy on our part but really it comes down to listening to our retailers saying they were looking for a quality affordable product for pets because today much of that business is not coming into their retail setting because they did not have a good supply.”

If there is an area where it has been slow to tread, it is in the fast-growing online consumer channel, though Papa insists that even here it is among those at the forefront of the industry.

As Perrigo yesterday announced its first results as an Irish business, Papa insists that Ireland will see it grow its footprint here. Several of its global functions are already slated for transfer as the company seeks to establish its physical footprint in Dublin, including pharmacovigilance, internal audit and global integration for future M&A activities will be here.

“We will put a loft of our global infrastructure here,” says Papa. “Especially as we look to expand into Europe, into Asia, a large part of that will be based here.”

But what about scientific discovery – the gene pool of Elan before it stripped itself down essentially to a patent royalty income group. The Perrigo CEO is wary of making promises and, in the past fortnight, the company has moved to exit Prothena, the recently spun-out listed business housing most of Elan’s drug discovery business.

Elan had retained an 18 per cent stake in the business but is in the process of selling that down in a move that may generate a further $80 million-plus funds for Perrigo.

“I am probably restrained form commenting on that,” Papa said as we met last week when Perrigo held its first Dublin board meeting, “but I would say there are some areas of focus that we think are more aligned with what we are trying to accomplish as an organisation and some areas that, while they are very important, very good assets, they just don’t align with what we are trying to accomplish.”

CV: Joe Papa
Name: Joe Papa
Age: 58
Position: Chief executive, Perrigo
Family: Married to Nancy for 30 years, they have three sons
Something you might expect: Two of his three sons are also pharmacists working in industry, though not with Perrigo – the third is still at college studying business.
Something that might surprise: A lifelong sport fans who played ice hockey into his fifties, his major sporting interest these days, even before the Elan deal increased his exposure to Ireland, is rugby which two sons play "so I am at a game a week which is a little unusual for an American. It's has been a great game to watch, even more fun when it is not your son out there."