Allergan (AGN) is suing generic drug makers Mylan (MYL) and Teva (TEVA) for patent infringement pursuant to Restasis, its blockbuster dry eye treatment. An argument has ensued over whether the St. Regis Mohawk Tribe should be included as a co-plaintiff in the case. More details about the Mohawk deal have emerged, and Mylan is calling the agreement a “sham”:
Mylan on Friday asked a federal judge in Marshall, Texas, to rule that the patent transfer is a “sham” and prevent the Indian tribe from joining Allergan’s patent litigation before the court. In its brief, Mylan argued Allergan sold the patents to preserve Restasis sales. “There has been no real change in ownership—just a maneuver to derail” the patent office’s review, Mylan’s brief said.
Allergan transferred the Restasis patents to the Mohawks last month. Its goal was to avoid the “double-jeopardy” of a federal trial and an inter partes review (“IPR”) brought on by Mylan. The Mohawks’s sovereign immunity allows it to dismiss an IPR.
Why Parsing The Patent Sale Is Important
Judge William Bryson, overseeing the trial, also wants to determine if the patent sale was a sham. Allergan alerted Judge Bryson that the Mohawks would be co-plaintiffs in the federal patent case, yet never filed a motion. Allergan needs to show the judge and the defendants – Teva (TEVA) and Mylan (MYL) – why the Mohawks should be added as co-plaintiffs. Allergan shot back that a legitimate arms-length transaction with the Mohawks has occurred and the Tribe is the “legitimate owner of the patents-in-suit.”
It will not impact the federal case but it could impact the IPR. If the judge determines the transfer was a sham then the IPR – where the Mohawks are claiming sovereign immunity – could potentially come to the same conclusion. AGN could trade lower on the loss of the Restasis patents. However, it could also fall if the patent transfer is viewed as a sham. The ruling on the patent transfer could potentially precede the judge’s determination of whether Allergan’s patents have been infringed upon. That said, allowing the Mohawks as co-plaintiffs could potentially be viewed favorably by the IPR.
Is Sovereign Immunity Worth $14 Billion?
I estimate the Restasis patents are worth over $14 billion. Restasis had Q2 revenue of $354 million at an estimated EBITDA margin of 68% or $241 million. That equates to annualized revenue and EBITDA of $1.4 billion and $963 million, respectively. With an enterprise value of $96 billion AGN currently trades at 15x EBITDA, so that would make Restasis worth about $14 billion. Allergan is only paying the Mohawks [i] $13.75 million up front and [ii] $15 million in annual royalties for the benefit of their immunity.
Allergan is transferring patents I believe are worth $14 billion. It is also paying the Tribe millions in annual royalties for the privilege of taking the patents off its hands. Is Allergan receiving like value for the patent transfer? The annual royalties to the Mohawks equate to about 1% of revenue from Restasis. This could raise the question whether a sale actually took place between the parties. These are issues Judge Bryson might consider in deciding if the patent transfer was a sham.
The Play For Investors
In my opinion, Restasis is of the utmost importance to the company. It represents 9% of revenue and 15% of income. The presence of generic Restasis could punish Restasis sales and AGN. According to the IMS Institute For Healthcare Informatics, from 2002 to 2014 the price of medicines was reduced by 51% in the first year generics entered the market. A loss of market share to generic rivals could amplify the decline in Restasis sales.
The street.com believes the patent dispute could cost $10 per share. The push back is that Allergan has $30 billion in debt at over 4x EBITDA. A loss in the patent dispute could hurt income and the company’s ability to service its debt. Meanwhile, hits from Allergan’s vaunted drug pipeline might not materialize until late next year or in 2019. Who wants to take the risk that AGN will only fall $10 on a loss of Restasis?
The federal case will be decided by the end of the month. A loss in federal court could be damaging to Allergan. If the judge rules the patent transfer is a sham it could hurt the company’s chances of winning an IPR. Senator Claire McCaskill recently drafted a bill that would disallow tribal sovereign immunity to be used to block U.S. Patent and Trademark Office review of patents. That could also weaken Allergan’s defense in an IPR. AGN is down by double-digits since the Mohawk deal. I believe it could fall further on the potential loss of Restasis.
Conclusion
Allergan faces hurdles to defending Restasis in federal court and in an IPR. A a loss of Restasis could hurt. At 15x EBITDA AGN is overvalued for the risks that owning the stock impose. AGN is a sell.
