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Barr Seeks To Capitalize On Pliva Infrastructure, Faces Obstacles To Benefits

Executive Summary

Barr is moving ahead with its integration of Pliva, but the firm must overcome several obstacles before it can capitalize on its recently acquired European infrastructure

Barr is moving ahead with its integration of Pliva, but the firm must overcome several obstacles before it can capitalize on its recently acquired European infrastructure.

"We're investing heavily in both the manufacturing operations and the quality infrastructure in all three of the Pliva facilities in Krakow, Poland; Brno, Czech Republic; and Zagreb, Croatia," CEO Bruce Downey said during the company's earnings call Feb. 28.

Barr is seeking to transfer many of its products to the oversees facilities to capture the low cost of R&D and manufacturing processes, as well as the lower taxes there. Barr completed its acquisition of the Croatian generics firm in October (1 'The Pink Sheet' Oct. 30, 2006, In Brief).

"We're ... expanding the quality of the facility in Krakow and increasing the ability for throughput there, in anticipation of transferring many of the products in East Hanover, New Jersey, to the Krakow facility," he said.

Downey noted that the company did face some obstacles to its goal of transferring products overseas.

"Probably the rate limiting factor in the transfer is increasing the capabilities, the throughput capabilities of our quality laboratories in Krakow and in Zagreb," Downey said.

Barr has initiated a program to get its Krakow facility up to EU standards. "Once Poland was admitted to the EU, there's a timeframe under which each pharmaceutical facility had to get up to the standards of the EU," Downey said.

The company is also seeking to expand capabilities of its Zagreb facilities so products can be transferred there as well. The expansion includes the addition of a biologics facility.

Downey expressed optimism for the possibility of a follow-on biologics regulatory pathway being cleared in the U.S. this year. "For the first time I believe that it's more likely than not that this year we'll see biologics legislation, and we are actively working at Barr to ensure that when that pathway emerges, we'll have the products to put through the pathway and into the marketplace and capitalize on what I see as one of the great opportunities of the coming years in our generics business," he said.

Months ago Downey was significantly less optimistic about the prospects for generic biologics in the U.S., since many companies were shifting their biologics operations overseas (2 (Also see "Generic Industry Likely To See Increasing Geographic Diversification – Barr" - Pink Sheet, 2 Oct, 2006.), p. 16).

Barr faces challenges for its Zagreb facility as it works with FDA on remediation efforts for the plant. Prior to the acquisition, Pliva received a warning letter from the agency that raised numerous concerns about its manufacturing facility in Zagreb.

"We have a remediation program which was accepted by the FDA and we are continuing to work and complete the project, not only to identify and correct the deficiencies the FDA noted, but it's also a broader effort to bring the whole of the Zagreb operation sort of into a U.S.-style quality operation," Downey said.

In a 10-K filed on March 1, Barr noted, "We cannot exclude the possibility that these issues will result in further regulatory action or delays in the approval of new products or release of approved products manufactured at the Zagreb facility."

Downey said Barr will apply technology such as computerized and robotic testing equipment to try to increase efficiencies at its various Pliva facilities.

"We're installing similar equipment in the facility in Krakow and in the other Pliva facilities to increase the throughput, increase the efficiency at which we operate, increase the accuracy of the testing," he said.

Specifically, in Krakow, "we're doubling the production lines that are there in anticipation of obtaining FDA approval for a number of products that we have filed with the FDA and a number of products that are in development," Downey said.

As of December 31, 2006, the company reportedly had approximately 60 ANDAs, including tentatively approved applications, pending at FDA.

Downey said he anticipates the company will identify 30 to 35 products a year that meet Barr's criteria for selection. "We have a new product selection procedure that we've put in place where we are seeking to capture the benefits of the Pliva transaction in terms of the lower cost R&D abroad, the integration of their API capabilities [and] the use of new injectable facilities that we have acquired."

"We think that API going forward for us will be probably more in terms of utilization of that capability internally rather than as third-party sales."

The company is also confident about its generic injectables business.

"We have several products filed at the FDA, many more products in development and [we] believe that clearly in two or three years, you'll see Barr as one of the leaders in the generic injectables in the United States, as well as using that same technology and the products that we develop for the U.S., selling those across our other geographic areas," Downey said.

Throughout the earnings call, both Downey and CFO William McKee highlighted the benefits the company expects to receive from the lower tax rate overseas.

"We are still very optimistic about the long-term opportunities we have from a tax planning perspective now that we have a Croatian entity - Pliva's Croatian entity - in place," McKee said. "They have about a 20 percent effective tax rate in Croatia."

However, Downey noted that "there's one anomaly that has come to ... our attention and that is to get the lower cost tax rate that we expect, there could be some interim tax cost where the rate actually increases in preparation for the longer-term goal."

Downey said that the impact of the lower tax rate will be progressive. "I don't even think by 2008 we'll feel the full effect of ultimately what we intend to achieve in terms of ongoing development of products that are coming out of Croatia," he said.

"It's important that people sort of understand it's not just how quickly we can move existing Barr products to Croatia. [That] is not going to be what creates the tax benefits. It's over time developing products that are owned and where most of the activities are valued out of the lower tax jurisdiction."

Downey also expressed some doubt about the anticipated cost synergies. Barr had previously projected cost synergies from the Pliva acquisition to generate $20 million in 2007, $70 million in 2008, and $100 million in 2009.

"What we've found is the cost of achieving the synergies was slightly higher than we expected, but the synergies we will realize are also slightly higher, and those will offset one another," he said.

"So, I would think that the net synergies probably could be a little lower than the 20 [million], but we could also achieve it. I don't have perfect clarity on it."

Barr may be suffering the consequences of its bidding war with Actavis to acquire the Croatian generics company. One of Barr's initial offers for Pliva was $2.2 billion with cost saving synergies projected to be neutral to slightly accretive in fiscal 2007 (ending June 30, 2007) and to result in synergies of $50 million in fiscal 2008 and $100 million in fiscal 2009. Barr ultimately paid $2.5 billion for Pliva.

Barr recorded a net earnings loss of $338 million for the six months ending December 31, or a loss of $3.18 per a share. Revenues for the same period totaled $916 million, up 44 percent from the year ago period.

Downey attributed the net earnings loss to charges and costs associated with the Pliva acquisition and integration.

One analyst questioned the strength of Barr's stand-alone business. "No matter how you get to the numbers, there appears to be a pretty significant deterioration in the underlying earnings power of the Barr stand-alone business," he said.

Downey disagreed: "I wouldn't share the view that the Barr stand-alone business has deteriorated. I think it's to the contrary. If you look at the numbers ... from our proprietary business, we expect year-over-year double-digit growth. We expect certainly higher [oral contraceptive] sales in '07 than we anticipated for '07 maybe two years ago."

Adjusted earnings guidance for 2007 is $3 to $3.30 per share, Downey said, excluding all patent challenges.

"We see that weighted to the second half of the year where about 60 to 65 percent of the earnings would fall in the third and fourth quarters as we continue to move forward with the integration effort."

- Kathryn Phelps ([email protected])

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