Merck (MRK) will join Pfizer (PFE) and GlaxoSmithKline (GSK) to spinoff its off patent drugs portfolio (FY20 revenues of $6.5 billion) into a separate company by 2Q FY21, explains Jim Osman, founder of The Edge Consulting Group and editor of Spin-Off Report Lite.

The spinoff will focus on Women Health, Legacy brands and biosimilar drugs while, the "Remain-co" (Merck, ex-spinoff) will chase the growth in Oncology, Vaccines, Hospital and Animal Health.

MRK announced the spinoff on Feb 5th, 2020; in March, it announced that Organon & Co. will be the name of the new company to be created through the intended spinoff of its women’s health, trusted legacy brands and biosimilars businesses.

On Oct 27, 2020, it confirmed that the Splitting process is progressing as per the schedule and the Spinoff would be affected as declared earlier in the 2nd quarter of 2021. 

With the spinoff, MRK would be reducing its Human Health manufacturing footprint by ~25% and the number of Human Health products it manufactures and markets by ~50%.

This trimmed version of business leaves it lean for providing a focused operational approach to its growth products and could achieve growth faster with significant operating margin expansion opportunity.

Though the spinoff would lead to a slight decline in initial operating margins, owing to one-time separation costs, MRK targets to save $1.5 billion in operating efficiencies by 2024, as it culls its manufacturing and distribution footprint. MRK is targeting an adjusted operating margin of above 40% from the current mid-30% range.

Organon, the spin-off, would be focusing on women’s health portfolio, led by Nexplanon (etonogestrel implant) franchise and its contraceptive and fertility businesses.

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Nexplanon (a birth control implant) exhibited a growth of 14% in FY19 and is the global leader in implantable long-acting reversible contraceptive with U.S. patent protection through 2027. Organon’s appointed CEO, Kevin Ali, believes Nexplanon is well on the road to become their first $1 billion women’s health product.

Biosimilars is another area Organon’s management is banging on, with three of its currently marketed products gaining heavy traction in the market and garnered revenues of around $250 million in FY19.

Organon continues to hire industry veterans to steer the ship, with the latest entrants in the top echelon being Matthew Walsh joining as CFO; Rachel Stahler as CIO. Both come from Allergan, which was recently acquired by AbbVie (ABBV). Walsh worked as an executive vice president and CFO in Allergan’s while Stahler was CIO.

As part of the separation deal, MRK assumes to receive $8 billion-$9 billion through a special tax-free dividend from Organon on separation. These funds would be utilized for business development or share repurchases, with further clarity to be announced around the spinoff date.

Potential Upside: Currently based on consensus price targets, at a base case, Merck has upside of 30% with a price target of $107.

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