Albert M. Baehny, Chairman of the Board of Directors and ad interim CEO of the pharmaceutical supplier, talks about the opportunities of the Covid-19 vaccine, the sale of the chemicals business and Lonza's medium and long-term strategy. In one particular segment he wants to grow through acquisitions.
Lonza has the wind at its back. The Swiss group has established a leading global position in the contract manufacturing of active ingredients for the pharmaceutical and biotech industries. As a so-called CDMO (Contract Development and Manufacturing Organization), Lonza benefits from the trend that more and more pharmaceutical and biotech companies are outsourcing their production.
The announcement in spring that Lonza had entered into a partnership with the US company Moderna 📈 for the production of a vaccine against the Sars-CoV-2 virus has caused a stir on the stock market. The active ingredient is based on Moderna's mRNA (messenger RNA) technology. This is a short nucleic acid strand that mimics a viral infection within human cells and thus triggers the production of antibodies.
With a price gain of more than 60% since the beginning of the year, Lonza 📈 is by far the best performing share in the Swiss Market Index. The group has a market capitalization of CHF 41.8 billion.
Albert Baehny leads the company as Chairman of the Board of Directors and, since November 2019, also as interim CEO. In an in-depth interview with The Market, he talks about the upcoming challenges in vaccine production, the necessary focusing of Lonza and his acquisition plans.
Mr Baehny, Lonza is valued at a P/E ratio of more than 40. Are you still comfortable with the high expectations that the market places on your company?
Expectations are high, but this is not just because of Covid-19 and our vaccine partnership with Moderna. The market for contract manufacturing for the pharmaceutical and biotech industry is growing and we are well positioned. Investors have realized that Lonza is in the right place at the right time. There are few companies that can currently deliver such high-quality growth as Lonza. In addition, we have been communicating more openly with the capital market for some time now and recently announced the sale of our specialty chemicals business.
Where do you currently stand in the project with Moderna?
Lonza will produce the active ingredient for Moderna's coronavirus vaccine. We are building four production lines, one in Portsmouth, USA, and three in Visp. Each line should be able to produce about 100 million doses per year. In July we produced the mRNA active ingredient in small quantities for the first time in Portsmouth. In September we plan to produce larger batches there for the first time and in Visp from December onwards.
Moderna's vaccine is in Phase III of clinical trials. Your ambitions in terms of production capacity show quite some optimism.
Yes, we are quite optimistic that the vaccine will work. By working, I mean getting the green light from the U.S. Food and Drug Administration, which means that the risks of the vaccine are much smaller than the benefits. The FDA will not be able to afford to take a safety risk. Neither will we.
Can you quantify your optimism?
You understand that I cannot give you a probability of success. But we are not the only ones working on the basis of mRNA. Other large pharmaceutical companies have also chosen this technology. In addition: The results of the clinical phase I trial of Moderna were very good.
One production line means investments of 70 million Swiss Francs. Lonza finances one of them, Moderna three. You are taking a risk even though the vaccine has not yet been approved. What happens if it should prove to be ineffective?
We have entered into a ten-year partnership with Moderna in the field of mRNA technology. Moderna has about ten projects in clinical development. These are currently stopped because the company is focusing on Covid-19. But if for some reason the vaccine fails to get approval, we can use these facilities for other mRNA drugs. The risk for us is very low.
How much sales and profit will Lonza generate from the Moderna cooperation?
I honestly can't say anything about it yet. We don't know yet whether the vaccine will be approved and we don't know when large-scale production can start. I would just speculate, and that is not my style. Once we know more, we will communicate transparently. Remember: The sales we generate with this vaccine are not the only important thing. With mRNA we have a new technology platform and we have a ten-year cooperation with the world's best mRNA specialist. In addition, the vaccine has significantly enhanced our reputation. Lonza is much better known in the USA today than it was a few months ago.
When will the Covid 19 pandemic be brought under control?
As of today, one vaccine has been approved worldwide, namely in Russia. However, we do not know any details of this product. Apart from that, there are currently six vaccines in clinical Phase III, one of which is the vaccine from Moderna. We can expect to have the first preliminary data in late November or early December. There are currently twelve vaccines in clinical Phase II and another eleven in clinical Phase I.
When do you expect the first approvals?
Our hypothesis is that we will see the green light from the FDA for about three vaccines by the end of this year. Then industrial production will begin.
Lonza can produce around 500 million doses per year with Moderna, which is enough for 250 million patients. Even if other manufacturers also receive approval and are able to produce a similar amount of doses, this is still far too few in view of the world population. How is this problem to be solved?
You are absolutely right: the world needs billions of vaccine doses. That means we have to expand capacities. When we get the green light from the FDA, we have to start thinking about increasing capacity immediately. Just like all other suppliers. We are making a bet: We are building capacity, parallel to the clinical phases. This is the first time in our industry that companies are investing to this extent up front without knowing whether they will receive approval.
If you could decide today to build up further capacities: How long would it take to start production?
Five to six months. You have to install the production lines. To do this, you need to receive the equipment and find personnel. A production line needs about 70 people who you have to train. You also need the raw materials.
What’s the biggest bottleneck?
For Lonza it is the equipment, for example the bioreactors and mixers. They are difficult to obtain. We find the necessary personnel, we also receive raw materials.
You said that financial markets have recognized the attractive prospects of the CDMO business. Analysts believe that the market will grow by 6 to 8% per year. Is that also your expectation, and what kind of growth will Lonza be able to achieve?
Yes, that is also our hypothesis. In the pharmaceutical and biotech sector, we want to grow faster than the market. But don’t forget, we also operate the capsule business with sales of CHF 1 billion, which is expected to achieve growth rates of 2 to 3%. So the capsule business is somewhat diluting the growth performance of our pharma and biotech business.
Does it make sense for Lonza to keep the capsule business?
Yes, it is a very healthy business with attractive margins, growth and innovation potential. We benefit from the trend that people are taking more food additives in capsule form. Overall, we are quite satisfied with this.
Are there synergies between the capsule business and contract manufacturing activities in Pharma and biotech?
To be honest: No. The synergies are marginal. Our core business in the future will clearly be contract manufacturing for the pharmaceutical and biotech industries. This is Lonza's future, with the music playing in the biotech sector. And biotechnologically produced drugs are not taken in capsule form.
Are there segments and technologies in the CDMO business that Lonza is still lacking?
We have the broadest technology platform of all providers. We offer everything from chemically produced molecules to cell and gene therapies. We can use all technologies to produce small batches of active ingredients for clinical trials as well as large quantities for approved drugs. Now mRNA has been added. So we don't have to spend billions to acquire a new technology. The only gap in our portfolio is the fill-and-finish area, where the active ingredients are mixed with other solutions to produce the finished drug and filled under sterile conditions. Although we offer this on a small scale, large batches are still outside our area of expertise. This is a capability we would like to have.
Are you able to build that organically?
No, that can only be done through acquisitions.
Do you have specific objects of purchase in mind?
I cannot name any names. There are not many acquisition opportunities in this market either. With Covid-19, this area has gained further relevance because millions of vaccine doses have to be filled into ampoules. As far as the price of an acquisition is concerned: everything has its limits. One must also be able to say no. In the business world, the word «no» is usually more important than the word «yes».
Lonza is currently going through a phase with an above-average investment rate of 13.5% of sales. What should investors expect in the longer term?
Approximately 9 to 10% of sales on a normalized basis. However, our business remains capital intensive. This is a good thing, because the market is growing, and consequently we want to participate in this growth as the winner in the CDMO business.
Lonza is not the only company participating in this area. You compete with Asian companies, primarily from China and South Korea. What dynamics do you perceive from this region?
In China, Wuxi Biologics is very strong, and Wuxi is now trying with some success to gain market share in Europe, North America and the rest of Asia. Another major competitor is Samsung Biologics, which specializes primarily in biologically produced antibodies. Samsung is also building up capacities.
China is the third largest market for medicines in the world. What are your plans there?
We are strong in Europe as well as in North America, and we have a good presence in Singapore. We need to become stronger in China. That is why we bought a General Electric plant there earlier this year which is expected to start operating in the second quarter of 2021.
During the Covid lockdown, there were supply bottlenecks for active ingredients from China. Will it be an advantage for a pharmaceutical supplier to be able to produce in Europe and North America?
Absolutely. The European and North American pharmaceutical industry will probably produce and have their active ingredients produced in their home countries again in the future. This is a trend from which we can benefit.
Will a new form of pharmaceutical nationalism emerge?
Yes, I am convinced of that. We have seen how important it is to have functioning supply chains.
Where do you see the greatest risks for Lonza?
I honestly do not see any major risks. Of course, our fiercest competitors are the pharmaceutical companies, because they can always decide to produce active ingredients themselves. But the trend is clearly in the opposite direction: Big Pharma wants to outsource production. Small biotech companies also need us. Due to a lack of production know-how and capacities, small pharmaceutical companies almost always come to us after researching an active ingredient.
Growth always contains the danger of losing the overview. How do you ensure that Lonza continues to operate efficiently in the future?
It is a big mistake to think that you can grow quickly without adapting processes at the same time. Process optimization is a high priority for me.
The Geberit sanitary technology group, which you have led for many years as CEO and Chairman of the Board of Directors, is known for its operational excellence and high margins. Would you say the same about Lonza?
The comparison is somewhat unfair because Lonza and Geberit are very different. But I would say that Lonza still has room for improvement in this respect. Lonza has grown very rapidly in recent years, both organically and through acquisitions. We want to gain market share, but our organization must be able to keep up with the growth. We have to find a better balance.
Is that the reason why you want to sell the specialty chemicals business Lonza Specialty Ingredients?
Absolutely. Lonza is far too complex. To exaggerate, we are currently a small BASF and at the same time a small Novartis. Ultimately, we are doing the same thing that Ciba-Geigy and Sandoz did 30 years ago when they merged to form Novartis and spun off the chemicals businesses into Clariant and Ciba. There are simply no synergies between LSI and our pharmaceutical and biotech businesses.
Why did you decide to sell LSI and not to spin it off to shareholders or go public?
An IPO was too uncertain for us, as we are dependent on the whims of the market. A spin-off would not have been a clear separation, because we would have had to keep a minority stake from LSI. We want to show the market that our focus is now entirely on pharmaceuticals and biotech. A sale is faster and safer.
Who do you prefer as the future owner of LSI: an industrial buyer or private equity?
It is important to us that we can create value for our shareholders. At the same time, we want to find a partner who understands the chemical industry, because the future owner of LSI will produce in Visp, where we are still active with our pharmaceutical business. Finally, we want a buyer who is able to operate these facilities safely and responsibly. As long as an interested party meets these points, we have no preference whether they come from industry or private equity.
Analysts estimate the value of LSI at CHF 3.5 to 5 billion. Is that realistic?
I can only repeat that we want to create value for our shareholders. But you understand that I can't name a price.
What will you do with the money Lonza will receive from the sale of LSI?
As soon as the Board of Directors has decided what we want to do with the proceeds, we will communicate this decision. This will be in the fourth quarter at the earliest.
You have mentioned your ambitions in the area of fill and finish. Hypothetically, you could use the money from LSI for an acquisition.
This is a fair hypothesis. Some of the money could be used for an acquisition in the fill-and-finish sector. But as I said, we have not yet decided.
After a divestment, investors often demand share buybacks. Is that an issue for you?
We have better ideas than share buybacks. I don't demonize them, but I'm not their biggest friend either. Basically, I believe that a company should have constructive ideas about how it can invest its money wisely, both internally and externally.
You have formulated the goal of achieving a double-digit return on invested capital, ROIC, by 2022. If you were to acquire, your invested capital would increase because of goodwill. How sacred is the ROIC target you have formulated?
Return on invested capital is very important to me. Companies that are managed according to this key figure make good quality investments - in other words, they get more out of their investments than the cost of capital. When we make acquisitions, ROIC may suffer temporarily. However, the trend must clearly move towards a double-digit percentage range.
Lonza achieved an Ebitda margin of just over 29% in the first half of 2020. What margins are possible in the medium term?
A company must constantly improve itself. One should never be satisfied with margins, they can always be increased.
The ratio of net debt to Ebitda is currently 1.9. How satisfied are you with Lonza's balance sheet?
I am very satisfied with everything under 2. For me, it is also okay if the debt temporarily increases a little bit because of a good acquisition. But in the long term, my goal is a ratio of net debt to Ebitda of 2 or below. Anglo-Saxon investors naturally find this way too conservative, but when it comes to the balance sheet, I like to be conservative.
Lonza has no anchor shareholder. In theory, you could be taken over at any time, for example by a buyer from China. Is that a risk?
First of all, there is currently no discussion with anyone about this. In theory, an attempted takeover is of course a risk. But the more expensive we are, the more difficult it becomes for an interested buyer.
You can step down as CEO ad interim at the beginning of November. What do you expect from your successor Pierre-Alain Ruffieux?
Mr. Ruffieux takes over a healthy business with a future and a clear strategy. He must now develop the organization and culture, identify, build and retain talent. And of course, he must continue to deliver the best possible results. He has to take advantage of the operational improvement opportunities that Lonza has to offer.