Pharmstandard (US7171402065) – The Russian Job or interesting special situation with catalyst ?

A couple of weeks ago, when I analysed EGIS and other Eastern European Genric drug companies, I mentioned Pharmstandard OJSC as one of the big players in the interesting Russian Generics market.

A kept an eye on them mainly in order to gain a little bit more insight into the Russian market. But the story which developed over the last week is definitely woth sharing it.

Up until early July, everything looked great. Pharmstandard aggresively bought back shares in an amount of roughly 10% of their market cap. They communicated that they might use those shares to finance M&A transactions.

Then, in the beginning of July some strange news emerged (official press releases can be found here):

– first they stated that they want to do a spin-off of their OTC drug business
– then, on they same day they announced that they are in advanced talks on a potential M& A transaction
– then, still on the same day they announce that they will buy a company called “Bever Pharmaceutical” for 630 mn USD without describing the company at all.
– the bought company then again, will be included in the spin-off
– it is not clear if the spin-off would be listed or not or if GDR holders can legally get those spin-off shares
– then it came out, that one of Pharmstandard’s supervisory board members, Dr. Alexander Shuster is actually the owner of Bever and will become the second largest Pharmstandard shareholder via this transaction
– Nevertheless, a few days ago, a shareholder meeting approved the acquisition with the votes of the majority shareholders
– the next special shareholder meeting will be in September to decide on the spin off

Clearly, this story did not go well with investors. Both, the London listed GDRs as well as the Russian listed stocks got punished hard:

In my opinion, this clearly is not very shareholder friendly, but on the other hand, compared with what I have experienced in Italy (EMAK, Autostrada), this rather looks like an OK transaction at least with regard to the M&A transaction:

– they paid minority shareholders in cash via an open market share buy back
– they used pre “price drop” levels to determine the purchase price consideration

And, at least in Italy, buying into a stock AFTER such an event occured was usually an interesting entry point.

The special situation aspect: Potential buy back offer before spin off at 16.50 USD

Now it gets interesting. In their spin off presentation, they mention that there will be a buy back offer to shareholders before the spin off actually happens. In several articles (I did not found this on their website), a price of 16.50 USD per GDR was mentioned. According to the timeline, this should happen in November if everything works out.

So let’s do some quick math (EDIT: I wrote this yesterday…., today’s price is a lot higher):

If I buy today at 14.65 and get 16.50 in November, that’s a 12.7% return for 3 months. Not too bad. Clearly there is some downside, if the offer will not come and they spin offf without compensation for GDR holders. On the other hand, if the spin offf works out well, there could be significant upside on top of the 16,50 USD offer.

On top of that, I like the underlying business and I think the stock is cheap and undervalued (excluding the Corp Governance issues).

According to my model, the current Pharmstandard is worth far more. The company achieved on average over the last 6 years 20% net margins and 30% ROIC at a current valuation of PE/6, P/B 1.6 and EV/EBITDA at 5.5

Update: I started writing this post yesterday, when the stockprice was at 14.65 USD, today, it jumped already significantly to 15.39. For the time being I will remain on the sideline and watch.

Maybe there will be a opportunity for a odd-lot tender like Norislk 2 years ago. I would also consider adding a small stake if the price is at a ~10% discount to the offer prcie, so below 15 USD (up to 1% of the portfolio). So I will put in a limti order at 15 USD and wait how this interesting story developes.

16 comments

  • One more thing…25% of the spinco will still belong to Pharmstandard

    Pharmstandard to Spin Off Over-the-Counter Business
    30 August 2013 | Issue 5202
    The Moscow Times
    The new company that is going to take over major drugmaker Pharmstandard’s over-the-counter business will assume the name OTCpharm, a news report said Thursday.

    OTC stands for over the counter.

    The new legal entity will have a share capital of 15 million rubles and will be split into 151 million shares, of which nearly 38 million will belong to Pharmstandard, Vedomosti reported.

    The report cited information from the materials that the company is preparing for its shareholder meeting Sept. 27.

    Historically, over-the-counter sales have driven the company’s growth. But now its sales under state contracts constitute more than half of the total business.

    Over-the-counter sales have a less transparent business model, which puts pressure on the value, said Igor Krylov, the company’s chief. That is why the company announced in July it wanted to spin off the business, he said.

    Read more: http://www.themoscowtimes.com/business/article/pharmstandard-to-spin-off-over-the-counter-business/485247.html#ixzz2e5g40FOx
    The Moscow Times

  • Pharmstandard homepage is down since some days, but the cache helps and mentioned 45% free float….

    Augment Investments Limited (Ordinary shares and GDR)

    54.32%

    Free float

    45.68%

    LSE (GDR)

    25.39 %

    RTS-MICEX (Ordinary shares)

    9.68%

    Shares hold by OJSC Pharmstandard-Leksredstva

    10.61%

    Total shares: 37 792 603 (100%)

    1 Ordinary share = 4 GDR

  • Comment re JM: As it is trading ex-spin – and spinco contributed 35% of profit, why is the 30% drop not entirely justified? Doesn’t seem overdone at all. Always check the record date!

    • @jbs yes you are correct! In my case (GDR holder before July) I only can hope to get spin-off shares OR to hope for a failure of the spin off, because the $16,5 offer is too low for me. By the way wouldn’t it be a funny speculation to buy some discounted shares right now and speculate on a spin-off failure? That would make a 50% share price jump :-). The Bever aquisition needs +50% approval, however the spin-off needs 75% of participating shares. Is there a realistic chance that the spin-off will be not approved?

      • Hi JM – thanks for your excellent comment. Yes, indeed a cancelled spin-off would (very unusually) mean a massive run-up in parentco! That flows from the unusual early record date. I like your inverted logic in thinking about that – that would be intriguing. If you owned prior to July then no issue for you – I tend to come along post “transitional” event.

        I find the logic behind the spin opaque – why is the OTC business model less transparent? I find that odd. You also have to think about the purchase of the raw materials company although the company claims that will add to earnings. Haven’t seen what the share count will be post that deal as the filing said something like treasury shares/cash on balance sheet were being used to fund this deal.

        Interesting situation.

        jb

  • Then….maybe the “expired” record date is the reason for the relatively low stock price. I do not expect a quick loss recovery of my ingenious Euro16 purchase price, however I expect a certain uptrend after dust settles. Even after the strange spin-off I am convinced about the long term story and I definitely value the 30% price drop as not justified and heavily overdone. My wishful thinking is that it will convert into a share price higher than before the drop, after the deal is through. I remember the old year 2K bubble, when any spin-off was celebrated with a 30% stock price jump :-). However I also admit that I am not brave enough to invest further for averaging down my share price.

  • there is no catalyst, the record date was 5 jul.
    plus the dissenters buyback would have been capped at 4bn RUR anyway.

    • #lucky,

      thanks for the comment. What do you mean with regard to “record date” ? The record date for the potential offfer ? Where do I find this inforamtion ?

      I find it difficult to understand how there can be already a record date witohout the offer being filed.

      With regard to the size: I am hopping for something similar to Norilsk, so small sizes have priority. Russian investors who are eligible for spin off shares might not want to tneder anyway.

      mmi

      Edit: I saw the entry “record date” in this 3rd party analysis. I am not sure if they actually mean this as a formal record date for the the 16,50 USD offer. This would be highly unusual.

      • I emailed HR for the date, after I saw it in a Goldman report myself.

        you need to read the regulatory filings. russian, not LSE (LSE is incomplete. not sure if you noticed, but they don’t care much about GDRs).

        the $16.5 is from analysts/media. in the filings, the co talks only about 2,180 rubles.
        i.e. 4 x 16.5 x 33 = 2180

        2180, “the buyback”, is what they’ll pay to holders who oppose the deal. it’s in the legislation art 75. this is the tender.

        however you have to be able to vote on the 27th, and the record date for that was 5 jul. not even the Bever guy can vote cause he was not a shareholder on 5 jul.

        on top of this, the buyback is capped at 10% of net assets, or 4bn, by the same law, so it only covers less than 5% of float (27% of float will tender imo).

        • #lucky,

          thank you for the clarification. This would of course then basically make my analysis quite wrong.

          Do you have a link to the original docs ?

          The cap would bother me not so much.

          mmi

  • I think PMs proverb could be right 🙂

    cheers

  • Could be that I am a bit biased regarding invetments in Russia, but we have saying – “there are two types of investors who invested in Russia: those lost money and those who will loose money.”

  • I read your thoughts earlier this year and wanted to be quicker than you. I was quicker and bought at 16, but Euro not $ :-(. I still hold and do not know whether ist is better to sell right now after this fishy spin-off story.

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