It appears that one of the worst-case scenarios has happened to Bausch Health (BHC) and its patent for Xifaxan, a Salix Pharmaceuticals product used to treat IBS-D (irritable bowel syndrome with diarrhea.) Salix is a subsidiary of Bausch. It was reported Thursday morning that in an oral order, a district court judged said, Norwich, which is trying to bring a generic Xifaxan to market, “has failed to show that the asserted HE [hepatic encephalopathy] claims are obvious and that they lack adequate written description,” but also that the “asserted Polymorph and IBS-D claims are invalid as obvious.” It’s that second part that possibly opens the door for Norwich. The district court has instructed Bausch Health and Norwich to discuss and file a joint proposed final judgment by Aug. 3. What it means Here is what an analyst at JPMorgan wrote about the news: “If the court rules as the oral order is suggesting, it would represent a near-worst-case scenario for BHC and likely enable generic competition for Xifaxan in the late 2024-2025 time frame (we would expect BHC to appeal the ruling and the subsequent legal proceedings to extend into early-mid 2024). From a revenue perspective, Xifaxan generates ~$1.7bn in revenues today (and ~$1.1bn of FCF). While we would expect BHC to retain ~20-25% of the Xifaxan business in the first few years of competition, we estimate that lost FCF could amount to $2.5-3bn in the late 2024-2027 time frame (our estimates currently assume Xifaxan LOE in 2028).” Bausch Health said Thursday afternoon it will “consider all available options to vigorously defend the intellectual property protecting Xifaxan and will appeal the Court’s decision to the U.S. Court of Appeals for the Federal Circuit.” If generic Xifaxan hits the market in the timeline outlined above, this will be a big destruction of value. You are seeing it in the share price Thursday. Bausch Health will struggle to generate the cash flow needed to pay down debt. The company does not have enough new launches or a pipeline to offset this loss of revenue and cash flow. Our take So how will BHC pay down debt? One scenario we see playing out is BHC selling more of its stake in its recent initial public offering (IPO) of Bausch + Lomb (BLCO), or perhaps even finding an outright buyer, to clean up its balance sheet. This would be a complete 180 from the company’s original plan to spin-off its stake in eyecare business Bausch + Lomb to shareholders — the ultimate key to the value unlock. Is Thursday’s roughly 50% decline in BHC appropriate? (The stock rose about 9% in after-hours trading.) In a recent research report by analysts at RBC Capital, they said BHC could be worth about $5 per share if the company lost one or more Xifaxan patents and a generic version entered the market in 2025. With shares down to below that Thursday, the stock market seems to agree with their math. What’s Next We moved BHC to a 4 rating in May because we were generally confused about why the stock price reflected a 50/50 ruling when management seemed so confident about a win. That 4-rating means the stock needs to be sold and it should have been in a timely fashion. Instead, we let a binary event play out because we believed the stock had a significant upside in a winning scenario. We thought BHC would trade closer to $22 per share if its patents prevailed in court. But in hindsight, we should have listened more to how the stock acted and how the bonds traded, not the words of the now ousted Joe Papa. This was our fault. As we have learned the hard way, there is no reward in investing without taking on risks. In this situation, we took on too much risk, and we deeply regret it. Our first mistake was sticking by a company with a high leverage and legal issues in a market that has only wanted strong balance sheets, shareholder returns, and profitable growth — our mantra of this year. It continued Thursday by holding through a binary event. We apologize to everyone who followed our investment in BHC from the time of our first purchase through Thursday. Thursday is a humbling moment for us and a costly learning lesson, one that we must strive to never let happen again. (Jim Cramer’s Charitable Trust is long BHC. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.
A logo outside of the headquarters of Salix Pharmaceuticals, Inc., in Raleigh, North Carolina.
Sipa via AP Images
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