In September end, we decided to initiate coverage of Royalty Pharma plc (NASDAQ:RPRX), and today, the company released its quarterly figures. Solid fundamentals with an underwhelming valuation supported our buy rating. In detail, here at the Lab, we analyzed other royalty companies in different sectors and concluded that there is at least a 30% premium in P/E to the reference sector. At the same time, Royalty Pharma is trading at a steep discount and post Q3 results, this discrepancy further increased, given the guidance upgrade. Considering a better outlook, Royalty Pharma is now trading at a P/E lower than 7x, while the Pharmaceutical sector is at a double-digit rate on a forward-year estimate.
Q3 results
Starting with the CEO’s words, Royalty Pharma “delivered another quarter of impressive financial performance, as well as substantial deal activity.” The key metric to assess the company’s performance is the Adjusted Cash Receipts evolution. In the period and on a reported basis, it grew by 7% to $637 million, and this was due to the solid results of the Trelegy and the CF franchise. In addition, Spinraza intake partially offsets Imbruvica headwinds and LoE (loss of exclusivity) with royalty expiration. Going down to the P&L analysis, the adjusted EBITDA, calculated as the Adjusted Cash Receiptsminus professional and operating costs, reached $582 million. This was up by 6% vs. Q3 2022 due to higher professional expense payments. The total interest paid was left unchanged at $170 million; however, in the first nine months, the company collected $63 million, including the interest rate on the company’s cash equivalents.
Royalty Pharma Q3 Financials in a Snap
Source: Royalty Pharma Q3 results presentation
Looking at the net cash on operating activities, the company reached $574 million in Q3, confirming a plus 6% increase, and was able to increase its 2023 guidance. Royalty Pharma now forecasts a 2023 Adjusted Cash Receipt in the $2.95 – $3 billion range vs. previous estimates of $2.9 – $2.975 billion. This new outlook represents an underlying growth between 9% and 11% (this is the second time that the company has increased its guidance in the year).
Royalty Pharma higher Outlook
Upside in place with recent transactions
Last time, we reported the following key takeaways:
The company announced a $150 million capped synthetic royalty funding agreement with Ascendis and a $300 million synthetic royalty on US net sales of Ferring’s Adstiladrin.
New RP Royalties
Our team very well appreciated this; however, we also included that Royalty Pharma was aggressively deploying more capital in quality assets to increase the royalties duration among its portfolio. This has a double aim of growth in the future, expected adjusted cash receipts, and diversified risks.
In October, the company announced the strengthening of a partnership with PTC Therapeutics. This drug is not new to our team, given that it is a best-selling product in Roche’s product portfolio (press release). Risdiplam, called Evrysdi, was approved by the FDA in 2020 and is used for spinal muscular atrophy treatment in adults and children two months old and above. The company increased the ownership to 81% from 43%, equating to a royalty of 13% from 6.5%. The recent Roche Q3 results show that Evrysdi delivered top-line sales of CHF 1.12 billion ($1.25 billion) in 2022.
Related to Royalty Pharma, we model the following:
- Evrysdi’s Adjusted Cash Receipts contribution is estimated at approximately $200 million using consensus sales estimates. This might represent one of the top four portfolio royalties by 2025 ;
- Royalty Pharma has a cash option to fund the transaction;
- Solid sales from Roche post Q3 results (Fig 1);
- Expiring royalties 2036.
Evrysdi sales evolution
Source: Roche Q3 results presentation
Thanks to this unique business model, we believe investors and sell-side analysts are not correctly pricing Royalty Pharma. Aside from solid fundamentals, the company disclosed:
- An ongoing buyback (during Q3, the company repurchased $144 million worth of shares)
- Higher guidance for the year;
- Better MIX of approved drugs and late development-stage therapies
- Higher transaction value thanks to IPO proceeds and better access to funding.
Conclusion and valuation
For the above reason, we should increase our target price. Our buy rating was derived by an adjusted cash receipts growth of 8% with a $2.95 billion (which is now the guidance low-end target). Given the fact that the company did not disclose the latest news on Vertex and confirmed that Phase 3 readouts might be positive, we decided to confirm our target price of $42 per share, using a 12x EV/EBITDA multiple and a P/E of 12x (in line with peers). As a reminder, applying the average peer multiple justifies RP’s current valuation. This is because RP has a higher margin, higher FCF yield, less operational risk, and less risk on IRA. Downside risks to our overweight are included in our initiation of coverage in a dedicated paragraph.
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