King Pharma Questions Remain

Last year was challenging for King Pharmaceuticals (KG - Analyst Report), with most of the company’s key products facing increasing competition, generic threats, and declining prescription trends. Plus, the entry of generic Altace in late 2007 was a major hit for the company, as the drug was a significant contributor (about 30%) to the top-line. As a result, Altace sales declined sharply (-74%) in 2008.

Now, another drug in King’s portfolio is facing a patent challenge – Actavis is planning to market a generic version of pain drug Avinza. King has faced pipeline setbacks as well with the termination of its marketing and development agreement for Bremelanotide, a phase II candidate.

The company did receive its share of good news with the settlement of its patent infringement case with Core Pharma (CLB - Analyst Report) for Skelaxin. This was indeed a smart move by King, though there are still other generic players seeking to bring a generic version of Skelaxin to market. In fact, a court ruling recently invalidated two of the three patents protecting Skelaxin.

Although King intends to appeal the ruling, generic Skelaxin could enter the market later this year. We are currently modeling the entry of Skelaxin generics in late 2009.

Going forward, King’s prospects should improve significantly thanks to the acquisition of specialty company Alpharma, Inc. (ALO). King acquired Alpharma for $37 per share in late December 2008. This acquisition should be a major positive for the company – the transaction should not only allow King to expand its presence in the pain management market, it should also help the company achieve significant cost synergies.

Management announced that they expect to achieve annual synergies in the range of $60 million in 2009. From 2010 onwards, the company expects annual cost savings in the range of $80 million. A part of these synergies should be achieved by cutting down on SG&A and R&D spend. In addition to gaining Alpharma’s pain product portfolio, King will also gain an additional source of steady cash flow in the form of Alpharma’s Animal Health business.

Meanwhile, King continues to make progress with its pipeline. The company filed two NDAs (Acurox and CorVue) recently. Although this is encouraging news, regulatory risks remain. Last year we saw King suffer a setback when its lead pipeline candidate, Remoxy, failed to receive FDA approval in December 2008. It will be a double disappointment for King if Alpharma’s Embeda receives a similar response from the FDA.

In the near-term, we expect investor focus to remain on the FDA decision on Embeda and the Skelaxin situation. It is highly likely that King will seek to enter into additional settlement agreements with generic players in order to delay the entry of generic Skelaxin as long as possible. We maintain our Hold rating on the stock with a target price of $10, which is based on 10x our 2009 EPS estimate of $1.01.