IsZo Capital Writes to Special Committee of Taro Pharmaceutical Demanding the Immediate Rejection of Sun's Buyout Offer

Feb 15, 2012, 14:08 ET from IsZo Capital

NEW YORK, Feb. 15, 2012 /PRNewswire/ -- IsZo Capital LP, one of the largest minority shareholders of Taro Pharmaceutical Industries Ltd. (OTC: TAROF), announced today that it delivered the following letter to the Special Committee of the Board of Directors of Taro demanding that it immediately reject the proposal made by Sun Pharmaceutical Industries Ltd. (BSE:SUNPHARMA) on October 18, 2011 to acquire the remaining outstanding shares of Taro for $24.5 per share.

February 15, 2012

Board of Directors of
Taro Pharmaceutical Industries Ltd.
Euro Park (Italy Building)
Yakum Business Park, Yakum 60972, Israel


Dilip Shanghvi, Chairman of the Board


Dan Biran, Chairman of the Audit Committee


Professor Dov Pekelman, Chairman of the Special Committee


Evaluating Sun Acquisition Proposal






Taro's 2011 Fourth Quarter Financial Performance;


IsZo Capital letters dated November 29, 2011, December 13, 2011


and December 23, 2011

Dear Members of the Board, Audit Committee and Special Committee:

As Taro Pharmaceutical Industries Ltd. ("Taro") and Sun Pharmaceutical Industries Ltd. ("Sun") start to look more like the same company, it becomes clear that shareholders of both companies are similarly situated.  For example, both Taro and Sun shareholders face the same risk in being positioned as minority shareholders susceptible to the agenda of Dilip Shanghvi, Chairman and controlling shareholder of Sun. Although Dilip Shanghvi has promised to be a steward of minority shareholder value to Taro shareholders (in Sun's Schedule 13D with respect to Taro and numerous amendments thereto filed with the U.S. Securities and Exchange Commission), there is nothing preventing him from attempting to use his power as controlling shareholder to transfer wealth from Sun and Taro minority shareholders to himself.  For example, both shareholders of Taro and Sun should be concerned that Dilip Shanghvi personally invests in "...pharma entities...both listed and unlisted, in India and outside India," according to Sun's recent investor conference call.  At the very least, this raises potential troubling questions of conflict of interest and loyalty.  Thus, both Sun and Taro minority shareholders, including IsZo Capital, are behooved to remain vigilant in monitoring events at both companies, to ensure their respective boards of directors act to maximize value for all shareholders and do not succumb to Dilip Shanghvi's personal investing agenda.

The recently released quarterly results for Sun and Taro confirm that the two companies are in effect the same economic entity.  Taro now contributes 35% to Sun's consolidated sales, 42% of EBITDA, and an astounding 48% of profit.   Therefore, based on Sun's market cap of USD $11.59 billion as of February 14, 2012, Taro should be valued between $109.30 to $125.03 per share depending on whether one uses EBITDA or profits to allocate the value of Sun.  In addition, Taro has roughly $5 per share in net cash giving a total value to Taro of $114.30 to $130.03 per share. 

Given these facts, is there any reasonable way to justify the $24.50 offer that Sun has made to Taro shareholders?  IsZo Capital doesn't believe so, although some may try to make an argument.

1.  For example, recently Taro's CEO stated that some of the company's "growth in sales and profits was derived from price increases... that might not be sustainable."

Pricing power is obviously a sign of strength, not of weakness.  But if one was to worry about sustainability, what type of pricing power is most unsustainable for generic drug companies? 

Para IV filings would be the most obvious, where the generic company is limited to 6 months of exclusivity.  Are Para IV filings important to Sun or Taro?   Sun is a major player in Para IV filings; Taro is not.

Conclusion: Short term Para IV revenue, pricing, and profits would be most likely to inflate Sun's financials rather than Taro's. 

2.  The FDA shortage list is the other area where a generic drug company might show unsustainable pricing power.  Does any of Taro or Sun's drugs show up on this list?  Yes, Sun has drugs on this list. Taro does not. 

Which classes of drugs in the US are most affected?   The answer is drug shortages are mostly affecting oncologic, anti-infective, and anesthetic drugs, particularly IV formulations.  Are these important areas for Sun or Taro? Again, Sun is the answer here.

Conclusion: The major drug shortages in the US are primarily in oncology, anti-infective, and anesthetics, all areas that would affect Sun more than Taro.

3.  So what explains some of the improved performance by Taro and is this sustainable?

Because of problems with contamination and poor quality control, particularly with IV formulations, the FDA has greatly increased its scrutiny of all manufacturers of drugs.  This has broadly affected the generic drug industry and greatly increased the cost to manufacture and comply with more stringent regulations.  Due to this increased scrutiny and cost, many generic drug companies have decreased the number of marketed products to focus on their most profitable drugs.  This is affecting most, if not all, players in the generic drug space and is likely to continue for the foreseeable future.  Our research shows that on a few products, Taro has seen greater pricing power due to the withdrawal of competition.

Conclusion:  Taro's increasing pricing power on a few products is due to the withdrawal of competition and this trend is not likely to reverse for the foreseeable future.

4.  Are there components of Sun's business that warrant a premium valuation relative to Taro?  Doesn't Sun deserve a higher multiple than Taro because of its exposure to India?

IsZo has looked carefully at these questions and cannot find any reason why the rest of Sun's businesses, excluding Taro, deserve to trade at a premium valuation relative to Taro.  Taro's business accounts for close to half of Sun's profit; and the minority share structure of Taro is the same as the minority structure of Sun's shares. Sun's market share in the domestic Indian market is small; Sun's revenue in the Indian rupiah is much smaller than its US dollar revenue reflected in the majority of its sales, earnings, and cash flows.  Sun's US revenue outside of Taro is primarily driven by Para IV filings which are well known to be unstable short term revenue and profit sources and, therefore, of lesser sustainability.  In addition, a substantial part of Sun is in the lower margin API business.

By contrast, Taro's dermatology focus on creams and ointments is a higher margin business and more sustainable than any of Sun's other businesses. Generic drugs such as oral and IV formulations that only require simple in vivo area under the curve studies have much lower barriers to entry than drugs that are absorbed through the skin. Thus, if anything, Taro deserves a premium valuation to the other divisions of Sun.

Conclusion:  Taro's business on a long term basis is of higher quality than the rest of Sun's businesses.  Rather than a discount, Taro warrants a premium valuation relative to other parts of Sun.

After reviewing recent Taro as well as Sun results, IsZo Capital reminds the Special Committee that Sun's offer price was grossly inadequate when Sun's offer was first announced in October 2011 and it is even more so now that Taro's strong and sustainable 2011 fourth quarter financial results have been announced. Accordingly, IsZo Capital urges the Special Committee once again to safeguard the interests of all Taro shareholders and reject Sun's grossly inadequate offer.  

IsZo Capital also reminds the Board of Directors and management of Taro that, consistent with value-maximizing strategies previously advocated by Sun before Sun became Taro's controlling shareholder, we believe that the Board and management should be moving to re-list Taro's shares on a national securities exchange in the United States and to evaluate the listing of Taro's shares side by side with Sun's shares on the Bombay stock exchange.  As explained during Sun's recent investor conference call, even Dilip Shanghvi understands that Taro's pink sheet traded stock is not an accurate reflection of Taro's value.  During that call he acknowledged "'s not a listed security and the valuation changes in terms of pricing, it's also a function of transactions, which are relatively small."  Indeed, it is well known in the financial industry that securities that have been delisted and orphaned by sell-side analysts, especially where management doesn't hold conference calls, trade at enormous discounts to listed, non-orphaned stocks where management communicates with shareholders and the market.

Conclusion:  The only security that reflects Taro's enormous value is Sun's stock which is actively trading on the Bombay Stock Exchange.  Since Taro is clearly a better business than the rest of Sun's divisions, and contributes nearly half of the economics to Sun, it is impossible to justify the $24.50 offer from Sun.  The only conclusion the Special Committee can reach is that the Sun offer is grossly inadequate and should be rejected immediately.


/s/ Brian Sheehy
Brian Sheehy
Managing Partner
IsZo Capital



Adv. Adam M. Klein


Goldfarb Seligman & Co.


Legal Counsel to the Special Committee of Taro Pharmaceutical Industries Ltd.


Evaluating Sun Acquisition Proposal

SOURCE IsZo Capital