Why Investors Should Buy More Bausch Health Stock (NYSE:BHC)


After Bausch Health Companies (BHC) announced alongside its quarterly earnings release that it would spin off its B+L unit, the stock soared. The rally to above $22 faded quickly when investors digested the last quarterly results report. With its guidance trimmed slightly for 2020, should investors buy BHC stock on the B+L separation alone?

Top Line Second Quarter Decline

In the second quarter, BHC posted revenue declining 22.7%, to $1.664 billion. The drop in every major segment is disconcerting but understandable. Many of the company’s products depend on surgical procedures, which need hospitals operating at a normal pace. The coronavirus lockdown disrupted its business, especially in the Europe and Asia markets. Although the gradual reopening in the summer quarter may spur a rebound in sales, the threat of another lockdown worldwide is a headwind.

Assuming that many countries re-institute a partial lockdown to slow the spread of the coronavirus, investors should expect BHC’s Salix division outperforming. For example, Xifaxan and the hepatic encephalopathy segments saw a smaller negative impact because of COVID-19. But it hurt Xifaxan prescriptions for IBS-D. BHC may counter the slowdown by cutting costs and leaning on e-commerce channels to improve margins.

B+L Unit Mixed

COVID-19 hurt B+L’s revenue, which fell by 24% in Q2. Still, consumers may resume their daily wearing of contact lenses as businesses push for more online video meetings. Furthermore, elective surgeries may resume a normal schedule, helping lift B+L’s sales.

Even though BHC stock is stuck in a tight trading range between $15 – $18, investors will get rewarded in the long-run. Vyzulta and Lotemax SM are benefiting from strong prescription growth. B+L received approval for its SiHy daily lens in the United States. The B+L President in the U.S. division said that the disposable lens “combines innovative design and advanced technology to provide support for dryness as a barrier to contact lens wear.” By reducing symptoms of dryness, customers will choose this brand over Alcon and CooperVision.

Novartis (NVS) which owns Alcon and Johnson & Johnson (JNJ) are faring better than Bausch on the markets:

ChartData by YCharts

Above: BHC stock

Spinning off B+L will unlock the value of the unit, as well as help BHC pay down its debt.

Opportunity

BHC has a good chance of reporting a rebound in ophthalmology prescription (“Rx”) in the quarters ahead. Assuming that hospitals do not get overwhelmed with COVID-19 cases, eye surgery volumes may increase in the coming quarters. The 42% drop in Ophthalmology Rx in Q2 is due to the postponement of eye surgeries in the U.S. While the Asia Pacific region fared poorly, the containment of COVID-19 should help lift results.

Similarly, Xifaxan volumes are due to rebound when GI units in hospitals and doctors’ offices run at regular hours. BHC could not capitalize on favorable pricing in the last quarter. But with lower channel inventory, it will see Xifaxan Rx figures growing steadily.

BHC succeeded to cut its selling and advertising costs by $123 million in Q2. Conversely, if revenue bounces back in the next few quarters, management will gladly pay for the sales incentive compensation and increased distribution costs.

Bears will cite BHC’s heavy debt levels as a headwind but it has no debt maturities or mandatory amortization until 2023. This will alleviate its cash flow burn rate. The company has the flexibility to increase research and development spend and marketing activities if it needs to.

B+L Spinoff

Just as International Business Machines (IBM) announced it would spin off its managed infrastructure services unit, BHC did the same with B+L. Unfortunately, markets lost their excitement quickly, seeing the sale as accounting engineering. To maximize shareholder value, markets must view the sum of the parts of the units as greater than the current market price.

CEO Joe Papa said the spinoff will take around 18 months. On the conference call, he said, “ we looked at all a lot of precedent company transactions, and usually it’s somewhere in that year and a half timeframe. It usually takes somewhere around a year-and-a-half. It’s going to take some time.“

To estimate its fair value, investors may build a 5-year discounted cash flow growth exit model. Assume the following:

Metrics

Range

Conclusion

Discount Rate

11.5% – 10.5%

11.00%

Perpetuity Growth Rate

1.5% – 2.5%

2.00%

Fair Value

$12.30 – $27.47

$19.05

Upside

-0.92

15.50%

Model courtesy of Finbox

Readers may change the above assumptions by opening this link to finbox. In my model, I assume a perpetuity growth rate of just 2%. That implies a fair value of at least $19.00. Conversely, assuming that revenue grows in 2020 and continues to do so afterward, the fair value jumps to $28.00.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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