Shares of Teva Pharmaceutical Industries Ltd (ADR) (NYSE:TEVA) rocketed 10% in Thursday trading after the Israeli pharmaceutical giant announced plans to lay off 25% of its workforce (14,000 souls) and suspend its dividend in an effort to cut costs and hoard cash with which to pay down debt.
According to the company, cutting all these jobs and eliminating the dividend will, over the span of two years’ time, cut $3 billion from Teva’s annual operating costs. Teva currently incurs about $16.1 billion in costs to produce $23.4 billion in annual revenues. So on the face of it, the cost cuts promise to boost the company’s operating profit margin by about 1860 basis points — with most of these gains materializing in 2019, after the company first records one-time costs (primarily for severance) of $700 million in 2018.
Isn’t that great news?
That does sound like great news. But here’s the thing: Responding to Teva’s announcement, Oppenheimer analyst Derek Archila noted Thursday that the magnitude of the cuts was more than Wall Street had been anticipating, which explains the strong positive reaction from stock market investors. That being said, for his part, the analyst is adopting a cautious stance on the cuts.
On the one hand, cutting costs is certainly a good idea for Teva, which has been struggling to maintain pricing power in the face of a concentrated field of pharmaceutical buyers, which include industry groups that include major pharmacy chains like CVS, Walgreens, and Walmart. On the other hand, many of the factors that have challenged Teva in recent years still remain in place: e.g. “generic competition to its 40mg Copaxone,” “continued pricing pressure in US generics” more generally, and “g-Concerta erosion.”
At the same time, deep cuts in spending carry with them their own risks. Archila notes, for example, that Teva’s research and development efforts may take a hit from the loss of so many employees (hindering new product development). Additionally, Teva’s plans to discontinue certain products as part of its cost-cutting could cause “a drag on revenues.”
Numbers-wise, the case for Teva does look stronger today than it did as recently as Wednesday. Factoring the announced cost-cuts into its model, and hypothesizing that Teva can make about $1.75 billion in cuts next year, with the remainder arriving in 2019, Archila now predicts that Teva will earn $3.29 per share in 2018 (up $0.57 from previous estimates) and $4.37 in 2019 (up $1.64) — with profit improvements rapidly moderating from there on out.
Applied to the company’s post-run-up $17.30 share price, that implies a very low forward P/E ratio for Teva stock next year. Then again, Teva wasn’t exactly expensive before these cuts were announced. So when you get right down to it, Archila is right: The investment case for Teva really hasn’t changed that much.
If the analyst was right to rate Teva stock “perform” before this news, it’s probably just as right to keep its rating at “perform” afterwards.
The majority of the Street sides with the Oppenheimer analyst’s cautious take on the beleaguered biotech player, as TipRanks analytics demonstrate TEVA as a Hold. Out of 18 analysts polled in the last 3 months, 3 are bullish on TEVA stock, 11 remain sidelined, while 4 are bearish on the stock. With a downside potential of 12%, the stock’s consensus target price stands at $15.29.