Mallinckrodt's Debt Stricken by Doubts About Health of Key Drug

(Bloomberg) -- At first glance, Mallinckrodt Plc looks like it has the financial equivalent of a cold. Lately, the debt market has treated the drugmaker like it has a degenerative disease.

Three years of gains in a key earnings gauge are being overshadowed by weak prices for generic drugs and doubts about Acthar, Mallinckrodt’s $36,000-a-vial prescription drug for autoimmune and rare diseases that accounts for more than a third of sales. Multiple government probes of opioid makers including Mallinckrodt have added to the unease, leaving some of the company’s $5.7 billion of junk-rated debt hovering below 82 cents on the dollar and the shares down more than 55 percent this year.

"The market is not forgiving weakness that people are seeing in one of their major products,” said Matt Freund, co-chief investment officer at Calamos Investments, which manages more than $2 billion in high-yield debt. “The other thing that’s going on is the opioid crisis. This is going to be a thousand cuts.”

Mallinckrodt’s debt carries a BB- rating overall, and the 2023 debt with a B grade trades at a 9.3 percent yield, a level typical of issues rated even lower. But the company doesn’t have any meaningful maturities until 2020 and generates plenty of cash to pay its bills, Freund said in an interview. Operating performance hasn’t been too bad and earnings were largely in line with expectations in its most recent quarter, he said. “I don’t think there’s anyone out there who thinks that the debt is going to be impaired in the foreseeable future,” Freund said.

Mallinckrodt continues to make “measurable progress” on its plan to move away from generics and transform into a specialty drug company that focuses on severe and critical conditions, according to an emailed statement from the company. Mallinckrodt, spun off from Covidien Plc in 2013, is registered in the U.K. and has its U.S. headquarters in the St. Louis region. Here is what’s in the way:

• Dependence on Acthar. The drug contributed 39 percent of net sales as of the third quarter. The revenue is baked into assumptions about Mallinckrodt’s ability to service debt, and sales dropped 6 percent in the most recent quarter. JAMA Internal Medicine, the prestigious medical journal, questioned the drug’s effectiveness and high price in an editorial, and patients are leaving scripts unfilled as health insurers balk at paying, Mallinckrodt said. 
  • Falling sales could push debt to 5 times a key earnings gauge if profit drops another 10 percent, said Derek Archila, an equity analyst at Oppenheimer & Co. who downgraded the stock. In turn, the rising leverage could affect Mallinckrodt’s ability to diversify its business away from Acthar, Archila said. “From a debt perspective, it doesn’t really set up a great picture,” he said.
• Generic weakness. Prices are falling for generic drug makers including Mallinckrodt. The U.S. Food and Drug Administration received a record number of applications and approved more generic drugs than ever in fiscal 2017, and that trend is expected to continue next year, Bloomberg Intelligence analyst Curt Wanek said in a research note. 
  • One of the new generics could compete with Inomax, another key Mallinckrodt drug that treats infant respiratory distress syndrome; it contributed 16 percent to net sales for the quarter ended Sept. 29.
• Opioid abuse. President Donald Trump declared it a public health emergency in October and said the U.S. will sue companies that helped fuel the crisis. Mallinckrodt, which described itself in 2012 as the largest U.S. supplier of opioids, agreed in July to pay a $35 million fine to authorities for failing to report suspicious drug orders and disclosed in August a probe into its sales and promotional practices for certain opioid products. 
  • Mallinckrodt promised to cooperate with authorities and said it actively works with law enforcement to help prevent misuse and diversion of opioids.

The company has continued to generate solid performance across the majority of specialty brand products and remains confident in the strategy and in Acthar, according to its statement. Led by Chief Executive Officer Mark Trudeau, the company is “actively building out our development pipeline to supplement our diverse portfolio of currently marketed products, and a steady progression of scientific catalysts and product launches are expected over the next three years,” the statement said.

Patients who have trouble getting insurers to reimburse aren’t unique to Mallinckrodt, said Annabel Samimy, an analyst at Stifel Financial Corp. who says Acthar has longevity. “Mallinckrodt has to be a little bit more proactive in the hand-holding that they do to get patients through that period,” she said. “They get frustrated and walk away.”

Calamos’ Freund said the company is on the right course overall and likely to outperform, even with the concerns about Acthar and the broader opioid crisis.

“There’s always something to worry about in the high-yield market,” Freund said.

To contact the reporter on this story: Allison McNeely in Toronto at amcneely@bloomberg.net.

To contact the editors responsible for this story: Rick Green at rgreen18@bloomberg.net, Dan Wilchins

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