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We recently upgraded our rating on Hospira, Inc. ((HSP - Analyst Report)) to Neutral from Underperform with a target price of $38.00 following appraisal of the fourth quarter and full year 2011 results.

Hospira’s fourth quarter 2011 adjusted earnings of 51 cents per share fell short of the year-ago adjusted earnings by 26 cents. Earnings were hurt by the slowdown in production at the company’s facility in Rocky Mountain, North Carolina, which accounts for approximately 25% of the overall net sales.

Earnings, however, got the better of the Zacks Consensus Estimate of 45 cents due to higher-than-forecast top-line results. The company came up with revenues of $1.0 billion, up 2.2% over the prior-year quarter and also ahead of the Zacks Consensus Estimate of $954 million. The year-over-year improvement was driven by strong performance of the Specialty Injectable Pharmaceuticals (SIP) segment despite production slowdown at the Rocky Mountain facility.

(Read our full coverage of the earnings report at: Hospira Tops; Quality Issues Linger).

Hospira is facing continued manufacturing problems at its Rocky Mountain facility for which it received a warning letter from the US Food & Drug Administration in April 2010. The remediation efforts undertaken in response to the FDA warning letter have resulted in additional costs for quality control, lost sales, inventory loss and lower service levels.

Rocky Mountain is currently operating at 60%70% of normalized levels. Moreover, the Symbiq and Plum pump issues are matters of concern. The company is aggressively working to address the problem areas. However, at the fourth quarter conference call, management announced that it is progressing well with its remediation efforts. Management has also ruled out a consent decree for the Rocky Mountain facility.

Overall, we like the long-term prospects of Hospira as a leader in the attractive generic injectables space. The top line at the company is gaining steadily, especially by the SIP segment. Growth prospects at the segment appear promising due to increased demand for core generic injectable drugs. The segment was bolstered by new drug launches, particularly the generic versions of oncology drugs like Sanofi Aventis’ ((SNY - Analyst Report)) Taxotere and Eli Lilly’s ((LLY - Analyst Report)) Gemzar. These products, particularly Taxotere, are driving solid top-line performance at the SIP segment.

Moreover, Hospira is fast working on expanding its biosimilar portfolio. It already markets two biosimilars in Europe and Australia -- Nivestim, a biosimilar of Amgen’s ((AMGN - Analyst Report)) Neupogen and Retacrit, a biosimilar of Johnson and Johnson’s ((JNJ - Analyst Report)) Eprex. Moreover, the entry of biosimilars in the US, widely anticipated in 2014, would open a new and significant avenue of growth for pharmaceutical companies.

The FDA has already issued biosimilars draft guidance. Hospira is thus fast working on expanding its biosimilar portfolio. Hospira began a phase III trial in the US for Retacrit in February 2012, results from which are expected in 2013.

Further, Hospira has a strong pipeline, which could drive its top-line growth in the long term. As of December 31, 2011, Hospira's generic pharmaceutical pipeline consisted of 73 products with a combined $17 billion in local market value. Moreover, Hospira boasts of a strong biosimilars pipeline with 11 compounds in development with a global market value of $40 billion. The strong pipeline should boost Hospira’s top-line growth in the long term.

We believe the company’s top and bottom line will rebound once the ongoing manufacturing issues get resolved. We thus revert back to a Neutral rating on Hospira.

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