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Fitch Affirms RPI Finance Trust's IDR at 'BBB-'; Stable Outlook
March 8, 2017 / 2:25 PM / 9 months ago

Fitch Affirms RPI Finance Trust's IDR at 'BBB-'; Stable Outlook

(The following statement was released by the rating agency) CHICAGO, March 08 (Fitch) Fitch Ratings has affirmed the ratings of RPI Finance Trust (RPI FT), including the 'BBB-' Issuer Default Rating (IDR). The rating action applies to approximately $5.85 billion of debt outstanding on Sept. 30, 2016. In addition, Fitch has assigned a 'BBB-' rating to the proposed Term Loan B-6. The Rating Outlook is Stable. KEY RATING DRIVERS --Royalty Pharma will acquire the rights to the royalty stream of the drug, Tysabri for $2.2 billion cash, while maintaining a credit profile supportive of its 'BBB-' rating. --RPI FT will experience pressure on revenues in 2019 as patents lapse for pharmaceuticals generating the company's royalty stream, if it does not acquire royalty assets, in addition to its action of Tysabri royalties. --Fitch expects leverage to range between 3.0x and 4.0x as acquisitions drive up debt, followed by increased EBITDA (partly acquisition related) and debt reduction. --RPI FT has generated strong EBITDA with margins annually exceeding 90% due to minimal operating costs. --Resolution of an investment/liquidity event scheduled to occur in late 2018 could affect RPI FT's ability to acquire more royalty generating assets. Acquisition(s) Needed to Sustain Growth: Contract and patent expirations of pharmaceuticals that weigh on RPI FT's revenues will ramp up over the next few years. Revenues from drugs with patents expiring during 2017-2018 represent nearly 20% of the company's estimated royalty stream for 2017. Fitch anticipates mid-single-digit average revenue and earnings growth through 2018 followed by meaningful declines in 2019, if RPI FT does not acquire continue to acquire royalty assets, in addition to Tysabri. Fitch expects leverage to range between 3.0x-4.0x, with acquisitions periodically driving leverage above the higher end of this range before EBITDA contributed by newly acquired products normalizes leverage. Asset purchases totalled roughly $1.2 billion during the nine-month period ended Sept. 30, 2016 without significantly affecting pro forma leverage. An excess free cash flow (FCF) recapture provision in the company's secured term loan facility also results in debt reduction. Acquisitions Key Variable for Credit: RPI FT's ratings reflect Fitch's assumption that the company will maintain a disciplined approach to acquiring royalty assets in order to maintain significant dividend payouts in the face of patent and contract expiries. The company will need to balance a mix of pipeline products with those already approved and on the market. While the risk is higher in acquiring drug assets in late-stage development, the upfront cost to acquire developmental-stage assets is generally lower. Tysabri Royalties: Royalty Pharma intends to acquire rights to the royalty stream from the global net sales of Tysabri, a biologic drug that treats symptoms of multiple sclerosis and Crohn's disease, from Perrigo. RPI FT will pay total consideration of up to $2.85 billion, consisting of $2.2 billion in cash at closing and up to $650 million in potential milestone payments, based upon future global net sales of Tysabri in 2018 and 2020. Borrowings from a $1.1 billion term loan and $1.1 billion of balance sheet cash will finance the acquisition. A $3.4 billion delayed-draw add-on to the new term loan-B6 will be used to refinance the existing term loan-B5. Fitch estimates pro forma leverage including the projected EBITDA contribution of Tysabri immediately following the transaction close of 3.2x-3.3x. The transaction will give RPI FT the rights to Tysabri royalties in perpetuity. Tysabri royalties paid to Perrigo during 2016 were roughly $350 million. Tysabri's U.S. and European patents expire in 2024, at the earliest,. The drug is also a biologic, which tends to experience more moderate market share losses to biosimilar competition over time, when compared to that of a small-molecule branded drug facing generic competition for the first time. Omecamtiv Mecarbil Royalties: In February 2017, Royalty Pharma acquired a 4.5% royalty on potential worldwide sales of omecamtiv mecarbil, an experimental treatment for heart failure, for $90 million cash upfront from Cytokinetics. The drug is currently in phase III clinical trials, with an expected commercial launch in 2021-2022. Amgen and Servier are slated to market the drug upon regulatory approval. The acquired royalty rate may increase up to an additional 1% under certain conditions, and the drug should enjoy patent protection until 2032. Royalty Pharma has also agreed to purchase $10 million of Cytokinetics common stock. The transaction is consistent with RPI FT's strategy of acquiring royalty rights for both late-stage drug candidates and currently marketed therapies to fill a portion of its royalty portfolio. High Operating Leverage: RPI FT's modest operating expenses result in EBITDA margins exceeding 90% annually. The company produced EBITDA of $1.83 billion and revenue of $2.12 billion during the LTM ended Sept. 30, 2016. Fitch anticipates operating costs to remain low, sustaining high EBITDA margins. Any meaningful increases in operating costs would likely come from Royalty Pharma entering into agreements in which it takes a more active financial role in funding research and development of specific assets. Solid FCF: RPI FT should maintain FCF margins above 25% over the ratings horizon, despite some pressures on revenues and EBITDA and meaningful cash distributions to unitholders. Fitch's assumptions include cash distributions of around 30% of EBITDA to unitholders. The estimate for the distributions is lower than the maximum level of "permitted distributions" of 45% of EBITDA in the company's credit facilities. 2018 Investment/Liquidity Event Possible: The company's limited partnership agreement requires it to provide an option to unitholders to vote by the end of 2018 on whether to allow RPI FT to continue making investments in additional revenue-generating assets. All investment activity must cease, absent any extensions to the investment period by unitholders. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: --RPI FT continues to generate strong EBITDA, with margins exceeding 90% due to minimal operating costs; --Dividends to unitholders at roughly 30% of EBITDA; --Leverage to range between 3.0x-4.0x as acquisitions drive up debt, followed by increased EBITDA and debt reduction; --RPI FT will experience pressure on revenues as contracts and patents lapse for pharmaceuticals that underlie a portion of the company's royalty stream in 2019; --RPI FT's investment horizon runs to end of 2018, when unitholders will vote on whether to extend it further. RATING SENSITIVITIES An upgrade is unlikely for RPI FT given the company's business strategy is reliant on active asset purchases that occasionally push leverage to a level inconsistent with the 3.0-4.0x Fitch considers appropriate for the 'BBB-' rating. In addition, uncertainty surrounding the resolution of the approaching investment/liquidity event in 2018 limits ratings upside. A downgrade would likely result if: --RPI FT were intent on completely winding down the royalty-bearing assets without a concomitant expectation that leverage will remain below 4.0x. --A fall in the average weighted useful life of the royalty asset portfolio occurred such that it is no longer commensurate with the debt maturity schedule or if anticipated cash flows cannot satisfy the outstanding debt level. --The company were unable or unwilling to rapidly reduce high debt leverage following leveraging asset acquisitions. LIQUIDITY Sources of liquidity at Sept. 30, 2016 include $1.27 billion cash and $583 million of short-term investments. RPI FT generates robust CFO that comfortably covers scheduled loan amortizations and potentially provides for additional debt reduction. FCF is generally very strong, although occasional larger-than-normal dividends create some volatility in this metric. Nevertheless, consistently positive CFO provides RPI FT the flexibility to service debt, as well as rewarding unitholders. Debt amortization is manageable (including the new $1.1 billion term loan) with $294 million due in 2017, $294 million, in 2018 and $184 million in 2019. An excess FCF recapture provision in the company's secured term loan facilities moderately strengthens debt reduction. FULL LIST OF RATING ACTIONS Fitch has affirmed the following ratings: RPI Finance Trust --Issuer Default Rating at 'BBB-'; --Senior secured bank credit facility at 'BBB-'. The Rating Outlook is Stable. Fitch has also assigned a 'BBB-' rating to RPI Finance Trust's proposed Secured Term Loan B-6. Contact: Primary Analyst Bob Kirby, CFA Director +1-312-368-3147 Fitch Ratings, Inc. 70 West Madison Street Chicago, IL 60602 Secondary Analyst Megan Neuburger, CFA Managing Director +1-212-908-0501 Committee Chairperson Bill Densmore Senior Director +1-312-368-3125 Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor are disclosed below: --Historical and projected Revenue and EBITDA are adjusted to reflect cash received from royalty interests, as well as cash paid for operating expenses and royalties owed to RP Select Finance Trust. 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