The spate of bad news surrounding Teva Pharmaceutical Industries Ltd. and its share plunge may make the Jerusalem-based drugmaker a prime target for a takeover, but not so fast and not so easily, analysts say.

Teva’s shares saw their largest plunge in almost 20 years over two days last week when the company posted a $6 billion loss for the second quarter of the year, after writing off some $6.1 billion from the value of its generics drugs assets in the US. The company also slashed its quarterly dividend payments and said it would retrench its activities, shutting down production plants globally and cutting back on the number of employees. The drop in shares has made Teva’s market valuation, at $21 billion at the end of day Friday on the New York Stock Exchange, lower than the $35.1 billion in debt it owed at the end of the quarter.

Teva’s shares, which are also traded on the Tel Aviv Stock Exchange, resumed their plunge on Sunday and closed 22 percent lower, bringing the share drop to almost 65 percent in the past 12 months.

Get The Start-Up Israel's Daily Start-Up by email and never miss our top stories Free Sign Up

“It goes without saying that Teva has become a candidate for a takeover; it has all the ingredients to become a target,” said Yaniv Pagot, an economist and head of strategy for the Ayalon Group, an Israeli institutional investor.

“The company is in distress not because of the quality of its assets, which is high, but because it has ongoing cashflow problems and a huge debt it needs to repay. Its share price is very low, and the company is valued at just around $21 billion today. That is an easy figure to digest, even if the buyer will have to take on the firm’s debt. This is a classic case in which vultures start circling.”

“The question is: how easy will it be to take over Teva,” he said, as the company has regulations in place meant to “protect Teva from a takeover to preserve its Israeli identity and character.”

In a conference call with analysts last week the drugmaker said it may breach some of its debt covenants this year. The news prompted Moody’s, a credit rating company, to downgrade its ratings on Teva and select subsidiaries to one level above junk status. A junk status indicates a company whose ability to repay debt is in doubt.

Teva attributed the poor quarterly results to the accelerated price erosion and decreased volumes in its US generics drugs business, mainly due to greater competition as a result of an increase in generic drug approvals by the US Food & Drug Administration, and a continued deterioration of its business environment in Venezuela. These factors also led to a lowering of Teva’s earnings outlook for the remainder of the year, the company said.

Painfully seeking direction

Teva, in which almost every household in Israel has a stake through pensions and savings plans, has been looking for direction ever since it started trying to find an alternative revenue source to its flagship branded drug for multiple-sclerosis, Copaxone, which has begun facing competition from other drugmakers.

As part of this effort, in 2016, Teva completed the acquisition of Actavis Generics, the generics arm of rival Allergan, in a $40 billion deal, in a bid to further consolidate its position as a global leader in the generics drug market. Unfortunately, soon after the acquisition, the market changed very quickly: US regulators suddenly and unexpectedly sped up the approval process for generic drugs, a move that created more competition and cut prices. All this made the Actavis accord expensive.

“All of us at Teva understand the frustration and disappointment of our shareholders in light of these results,” Yitzhak Peterburg, interim president and CEO of Teva, said in a statement on Thursday, announcing the second quarter results. “Given the current environment, we have had to take swift and decisive actions. We are focused on executing meaningful cost reductions, rationalizing our assets and maximizing their value, actively pursuing divestiture opportunities and strengthening our balance sheet. We will continue to take action to aggressively confront our challenges.”

The poor results come as the drugmaker is on the hunt for a new chief executive officer to stabilize the ship. Erez Vigodman stepped down in February, three years after he took his post in an effort to turn around the fortunes of the company. Vigodman was the main architect behind the $40 billion merger with generics drugmaker Actavis Generics.

“The company is facing a tough overall generic environment and has repeatedly failed to execute against its business objectives,” wrote Bernstein analyst Aaron Gal, who downgraded the share to market perform from outperform, in a note dated August 4. “We would have loved to tell you to run and buy the company today, but any thesis would depend on execution, and the past five years are not giving us much confidence that they will.”

There will be continued pressure on the share and the generics environment “will still be tough,” he wrote. Bernstein is represented in Israel by Petah-Tikva based Excellence Nessuah brokerage.

Protective rules make it hard for potential buyer

Protective anti-takeover provisions in Teva’s Articles of Association will make it harder for the company to be acquired, said Shirin Herzog, a senior partner and head of mergers and acquisitions at the Israeli law firm Ron Gazit, Rotenberg & Co.

“An acquisition of Teva is complicated, but not impossible,” she told The Times of Israel. “One major obstacle will be the magnitude of its debt. Another will be protective anti-takeover provisions in Teva’s Articles of Association, which are aimed to protect Teva from a takeover and preserve the Israeli character of the firm.”

“For example, these provisions say that only a third of the board can be replaced annually, which will make it harder for any new buyer to manage the company, as most of the board members will not be of its choice, a so called staggered board.”

The articles of association of a company are rules set out as a document that contain the purpose of the company as well as the duties and responsibilities of its directors and shareholders.

Keeping Teva Israeli in character

In addition, to preserve the Israeli identity of the firm, the articles require the center of Teva’s management to be in Israel, Herzog explained, unless the board decides otherwise. Until then, Teva’s CEO also needs to be a resident of Israel throughout his or her term in office; the majority of the members of the board must be residents of Israel, and all the general meetings and a majority of the board’s meetings need to be convened in Israel.

The CEO’s residence requirement makes it more difficult for the company to recruit an international CEO, and may need to be changed, Ayalon’s Pagot said.

But to change these provisions, or other provisions of the articles that protect the board structure and operations, an “unusually high majority’ — 85% of the voting shares — is needed, said Herzog.

Amending the other provisions of the articles also requires a large majority – 75% of the voting shares.

“In both cases, if the board so wishes, it may establish a lower majority. So, if shareholder’s proposal goes against the board, it requires a majority that is extremely difficult to obtain,” Herzog said, while the board can lower the required majority for its own proposals to facilitate their adoption if it pleases.

“What we may see,” Herzog said, “is the start of a proxy fight by existing or new shareholders over the composition of Teva’s board of directors and its corporate governance. Three years ago, Teva’s shareholder Benny Landa launched a pioneering proxy fight to improve Teva’s corporate governance, and 37% of Teva’s shareholders supported him. Under the current circumstances, a similar proxy fight that may additionally seek to amend the articles to become more shareholder-friendly, rather than board-friendly, could resonate with even a greater number of shareholders.”

Herzog represented Landa in his proxy fight to improve Teva’s corporate governance three years ago.

Teva said last week that the second quarter 2017 dividend would be 8.5 cents, down 75% from 34 cents in the first quarter of 2017. It revised its earnings per share forecast for the year to $4.30–$4.50, from a previous outlook of $4.90–$5.30 a share. The revenue outlook for 2017 was also lowered to $22.8–$23.2 billion, from a previously expected range of $23.8–$24.5 billion.

A last chance at recovery?

“In a takeover you also need shareholders to back the buyer,” Pagot said. “At this low price of the share, I believe also the shareholders will not agree to sell. They will all prefer the company to recover. So, I believe there will be one more attempt to rescue the company and allow it to recover, with a new CEO. If also that doesn’t work then Teva will have to start divesting and spinning off its assets to repay its debt. But this is still premature. I believe that this may be the case in the middle term, but in the short term Teva and its new CEO will have to deal with its problems alone. ”

The search for the new CEO is ongoing, Teva’s chairman Sol Barer told analysts in the call last week. And last month Chaim Hurvitz, whose family is the largest private shareholder in the firm, said in an interview with The Times of Israel that Teva was likely to announce the name of its new chief executive officer in another month or so and the new person will have “top class pharma experience.”

One of the key missions of the new CEO will be to oversee and implement Teva’s merger with Actavis, Hurvitz said..

“The appointment of a CEO with credibility operating in the pharmaceuticals space becomes that much more important” following Teva’s earnings release, Citi’s analyst Liav Abraham wrote in an analyst note on August 4.

The new CEO will also need to rebuild the confidence of Teva’s remaining workers, its managment and its board, Pagot said. The company must also to restore relations with the capital markets, and better manage expectations, said Pagot.

“The results published on Thursday caught everyone by surprise, and that is bad expectations-management,” Pagot said. “This faith must be restored.”