Watson Pharmaceuticals, Inc. Company Valuation

Sixuan Chen

Advanced Corporate Finance

Prof. Satya Gabriel

April. 11, 2006

Presentation Overview Industry profile Current situation: company profile Forward looking: strategic plans Business environment: customers and

competitors Financial performance Valuation (assumptions, merger analysis)

Industry Profile Global sales: $300 billion annually U.S. - largest market share, followed by Eu

rope and Japan Brand drugs: customer loyalty, exclusive ri

ghts Generic drugs: bioequivalents, cost-efficien

t

Company Profile Development, manufacture, marketing, sale

and distribution of brand and generic drugs Fourth largest generic drugmaker by market

cap (after Teva, Barr and Mylan) Key statistics:

Total revenue in 2005: $1.6 billion Total assets1: $3.1 billion Market cap2 : $3.2 billion

Footnote: 1: as of 12/31/2005 2: as of 4/3/2006

Generic vs. Brand segment 76% of total revenue More than 125 generi

c products 47 ANDAs on file Development in 2005:

six new launches

24% of total revenue More than 20 brand

products Two sales groups:

Specialty Products Nephrology

Branded Product PipelineBranded Product

Disease Market

Alliance Status

SilodosinTM Benign-Prostatic Hyperplasia

Kissei Late Stage

2nd Generation Oxybutynin

Overactive Bladder

Early Stage

Trelstar® line extension

Urology Early Stage

IntrinsaTM Female Sexual Dysfunction

P&G Filed

EmSamTM Depression Somerset-BMS

Approved

Strategic Alliances and Collaborations Somerset Pharmaceuticals, 50-50 JV with

Mylan (agreement w/ BMS) Feb. 2006, FDA approval for Emsam®

Generics development alliance with Cipla Citalopram (Q4, 2004)

R&D Capacity R&D expense in 2005: $125.3 million (7.6% of r

evenue) R&D facilities:

Corona, California Danbury, Connecticut Copiague, New York Salt Lake City, Utah Malmo, Sweden Changzhou, China

Strategic PlansGeneric: Development of generic dru

gs that are difficult to formulate

Market generic alternatives to brand products

Distribute generic versions of third-party brands

“Watson Lab”, “Watson Pharma”, “Rugby”

Brand: 2005 launches:

Trelstar® and Oxytrol®

Higher profit margin Continue to expand through

Internal product development

Strategic alliances and acquisitions

Business Environment High entry-barrier Customers: drug wholesalers, retailers,

distributors Consolidation in distribution network Pricing pressure

Competitive Landscape Brand products:

J&J, Novartis, Pfizer No competitive advantage

Generic products Teva, Barr, Mylan, brand name companies in

the generic market Key: timing of product’s regulatory approval

and launch

Financial Performance Revenue growth 5-year CAGR: 9.13% In 2005, total revenue growth 0.34%

Generics: -2.51% Price declines on nicotine gum due to entry of a competito

r Increase in R&D expenses

Brand: 4.37% Specialty - Trelstar®

Nephrology - Ferrlecit®

Impairment charge: $25.1 million (2005)

Stock Performance

Source: Datastream, Yahoo!-Finance

1-year Stock Performance

WPI vs. Industry

1-year Stock Performance

WPI vs. S&P 500

Source: Datastream, Yahoo!-Finance

Valuation – DCF Key assumptions:

Operations: Organic revenue growth Gross/operating margin

CapEx, Depreciation Working capital

Valuation – DCF (cont’d) CAPM model:

Risk free rate: 4.86% Market risk premium: 6.00% Beta: 1.55 Default spread: 2.00% (Bond rating: BBB-) Debt ratio: 15.47% Tax rate: 37%

WACC = 12.65%

Valuation – DCF Result 5-year top-line growth: 6% Continued growth: 5% Price per share: $30.45 Current share price1: $29.01 Consensus estimates:

Valueline 3-5 year price range: $45-$65 Thompson 12-month target price: $32

1: Share price as of April 3, 2006

Valuation – DCF Sensitivity Analysis

Continued growth rate

5-year top-line growth

6% 5% 4%

Management prediction

9.25% $34.91 $31.16 $28.27

Valueline estimate

6.00% $34.02 $30.45 $27.70

Worst-case estimate

4.00% $33.37 $29.91 $27.26

Valuation – DCF Sensitivity Analysis (cont’d)

Continued growth rate

WACC 6% 5% 4%

10% $59.12 $48.62 $41.61

11% $46.97 $40.21 $35.39

12% $38.88 $34.22 $30.73

Valuation – Comps Brand: Pfizer, J&J, Glaxosmithkline, Nova

rtis, Bayer Generic: Teva, Barr, Mylan, King, Alphar

ma, Par Forward P/E1: $27.21 Forward Price/Sales1: $44.14

1: For both P/E and Price/Sales used Generic Median; Sales and EPS estimates from Thompson One

Potential Merger Analysis WPI agreed to acquire Andrx for $1.9 billi

on in cash ($25 per share, 32% premium) Andrx – Drug delivery

Total revenue in 2005: $1 billion Total assets: $1.2 billion Total market cap: $1.7 billion Current P/E: 27.9x Drug distribution (65%), manufacture (35%)

Potential Merger Analysis (cont’d) Merger positives

Third-largest generic drug maker, 60 generic drugs in pipeline

Synergies in SG&A Distribution network

Merger negatives Potential opposition Creditwatch by S&P Andrx production halted by FDA

SUMMARY DCF valuation range: $27-35 Potential upside Merger impact Industry prospect: aging population Recommendation: cautious buy at low

THANK YOU!

Questions?