Worth-adding activist engages in a pure recreation within the rising animal well being market
Medicines for dogs from Elanco (above) and Bayer (below) are available in an animal shelter on the treatment table of a veterinarian.
Frank Rumpenhorst | Image Alliance | Getty Images
Company: Elanco Animal Health Inc. (ELAN)
Business: Elanco is an animal health company that develops, manufactures and markets products for companion and feed animals. The company offers a range of pet parasiticide portfolios based on indications, types and formulations that contain products that protect pets from worms, fleas and ticks. It also offers a portfolio of pain and osteoarthritis across types, mechanisms of action, indications, and disease stages. It also offers treatments for otitis (ear infections) as well as cardiovascular and dermatological indications. The portfolio in the Food Animal Future Protein & Health category includes vaccines, nutritional enzymes and antibiotics for animals only. It also offers products for poultry and aquaculture production.
Market value: $ 14.4 billion ($ 30.46 per share)
Activist: Sachem Head Capital
Percentage ownership: 5.9%
Average cost: $ 28.33
Activist Comment: Sachem Head was founded in 2013 by Scott Ferguson, the first investment professional to be hired in Pershing Square, where he worked for nine years. While Sachem Head has made solid value investments in the past, its activism in the early years has been short-term and overwhelming at best. In their first campaign with Helen of Troy, they wrote a February 2014 letter to plead for a company sale and share buybacks, and a month later they sold their entire position into buyback, which seasoned activists never do. Their first 13D filing came just a month after the company went public with CDK Corp. – and barely gave management time to do anything. Since then, they have grown through campaigns at companies like Zoetis and Autodesk, and have worked with more seasoned investors like Pershing Square and Eminence. And recently, Ferguson created value as a director of Olin, his first seat on the board of a public company in a portfolio company he did not invest in as part of a group. This investment in Elanco is his second of what we expect in the future. Taking seats on board means both commitment and contribution. and since its inception in 2013, Sachem Head has grown from a value investor who used activism as a short-term stunt to a value investor who genuinely works with companies to create value for shareholders.
On December 13, 2020, Sachem Head and the Company entered into a collaboration agreement whereby the Company appointed the following three people to its Board of Directors (i) William Doyle, Executive Chairman of Novocure Ltd., a publicly traded global oncology company that is a novel Marketed platform technology for the treatment of solid tumors and was former director of Zoetis, (ii) Scott Ferguson, founder and managing partner of Sachem Head Capital Management, and (iii) Paul Herendeen, EVP and CFO of Bausch Health and former EVP and CFO of Zoetis Inc Sachem Head has agreed to abide by normal voting and standstill rules no later than (x) five days after the date on which neither Ferguson nor any officer, director, advisor, partner or employee of Sachem Head continues to serve on the Board of Directors and (y) forty-five days prior to the closing of the nomini window for the shareholder director without proxy access for the 2023 annual meeting.
Behind the scenes:
Sachem Head took this position at a time when the company was criticized for multiple missteps, including a poorly timed acquisition of Bayer AG’s animal health assets for $ 6.9 billion that was only completed after the COVID pandemic broke out. The company also had supply chain issues and low operating margins. Their EBITDA margin of around 18% is well below Zoetis’ 44% margin. Elanco has already announced a restructuring plan aimed at saving $ 100 million annually and improving margins. However, much more can be done. Before the pandemic, Elanco had targeted an EBITDA margin of 31% in 2022.
This situation is remarkably similar to the 2014 campaign Sachem Head ran with Pershing Square at Zoetis. Both companies are part of a small number of companies that operate pure animal health. Both companies were spun off from larger conglomerates within two years of 13D filing (Zoetis / Pfizer and Elanco / Eli Lilly). This often leads to a bloated infrastructure of the outsourced company that could harness the attention of a seasoned activist. At Zoetis, margins improved from 29% to 44% today, resulting in a return of 45.69% for Sachem Head versus 0.16% for the S&P 500 over the same period. And now both companies not only have activist directors, but some of the same people who created value at Zoetis. Aside from Ferguson, who co-directed the activism at Zoetis with Pershing Square, the other two new directors are William Doyle, the same person who appointed Sachem Head and Pershing Square to the board of directors of Zoetis, and Paul Herendeen, the former EPP and CFO of Zoetis when Sachem Head was involved.
The other option here, but probably not the core opportunity, is to sell the company. Elanco is one of the few large, independent animal health companies, and this type of company is very difficult to build from scratch with no brand equity and a broad portfolio. Therefore, it could be of interest to a large pharmaceutical company that does not have an animal health business, and two years after the spin-off from Eli Lilly, the waiting period is enough for interested parties to acquire Elanco without negative tax consequences.
Ken Squire is the founder and president of 13D Monitor, an institutional shareholder activism research service, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of 13D activist assets. Elanco is owned by a fund.