HZNP: Buy; PT $37.9; 3Q15 Update

HZNP: 12/1/15; $21.30

From Thomson Reuters I/B/E/S Estimates:

Forward Earnings: 2.16

Forward PE: 9.86

5-yr Estimated Earnings Growth Rate (EGR): ~20%

PEG Ratio: .493

S&P Forward PE: 17.55
S&P EGR: 5.58%

Horizon Pharma reported its third quarter earnings on November 6.  After reporting a 200% year-over-year (y-o-y) increase in revenue and a 500% increase in EBITDA, HZNP raised its 2015 revenue guidance by 13% and 2015 EBITDA guidance by 30%.  These numbers come in large part due to acquisitions made by Horizon; however, they are still impressive.

Horizon is currently in a high-growth phase, which is fueled by HZNP's acquisitions of other small drug companies.  HZNP added $100 million in cash during the quarter and now has $684.3 million of cash on the balance sheet.  HZNP also has $1.274 billion of debt on the balance sheet; however, the first debt payable is due in 2021.  Until then, HZNP is only required to make "coupon" or interest payments.

Horizon has issued a plan to get to $2 billion in revenue by 2020.  Very little of this will come from organic growth.  According to HZNP management, the current environment presents several opportunities for cheap acquisitions due to the widespread decline in share price of the biopharmaceutical sector.  The decline in the sector is related to recent unfavorable headlines pertaining to multiple related companies.

HZNP has suffered a significant decline in its shares over the past 2+ months as a result of the news headlines.  HZNP specifically refuted recent negative allegations of price gouging through commentary similar to the following (taken from the recent earnings call):

"There has been a tremendous amount of noise in the marketplace and media recently about pharmaceutical companies, biopharmaceutical companies, and so-called specialty pharmaceutical companies, how they operate and do business, the cost of their medicine, and so on.  There has been a lot of misinformation and misleading commentary provided by many incented to do so."

"First and foremost, it is important to understand that at our very core, we do put patients first.  Patient access and affordability is at the heart of everything we do.  It is the cornerstone of our company culture and something that we talk with each of our employees.  In fact, I believe there's not a single company in our industry that has done a better job than Horizon in providing free medicines or medicines at greatly reduced costs to our end customers, the thousands of patients we serve."

This commentary directly addressed the criticism that caused shares of HZNP to drop to absurdly undervalued levels.  The CEO continued in the call to describe how a particular medicine that was critiqued for being a simple, higher priced combination of two generic drugs was actually helping to save lives, as people did not take the drugs separately when prescribed.  In fact, the CEO said that he suffered from stomach ulcers related to not taking both the two drugs when prescribed separately, and HZNP's combination drug helped to treat subdue the ulcers.  I have little doubt after this conference call that HZNP is a semi-reputable biopharmaceutical company that is not as ultra-risky as the recent headlines would indicate.

Being convinced of that, HZNP is severely undervalued at current levels.  Using a PEG ratio of 2, HZNP would be valued at $86.4 [ = 2 (PEG) x 20 (EGR) x 2.16 (forward earnings) ].  Due to the method that HZNP uses to achieve growth (i.e., acquisitions), the potential limitations of this method related to the availability of targets and stress on the balance sheet, Common Cents feels that it is conservative to value HZNP with an equivalent PE to that of the S&P.  Therefore, Common Cents feels that HZNP would be fairly valued @ $37.9 [ = 2.16 (forward earnings) x 17.55 (S&P PE) ].  Therefore, Common Cents feels that HZNP is an attractive buy at these levels.

Common Cents Take: Management dispelled the recent negative allegations that have caused a significant decline in HZNP's share price.  The remaining headwinds for HZNP are finding attractive acquisition targets to fuel growth, which should not be a problem in the near future due to the widespread decline in share prices of biopharmaceutical companies.