Cambrex Corporation (NYSE:CBM) – August 2016

Article Title: “Short Cambrex: The Biggest Loser In Gilead’s Hepatitis C Sales Downturn”

Recommendation: Short Cambrex Corporation (NYSE:CBM) equity

Current Stock Price: $44.02 (August 26, 2016)

Target Stock Price: $31.00 (30% return)

Timing: 3 – 12 Months

Catalyst: Disappointing earnings and guidance stemming from lower sales to Gilead (CBM’s

largest customer)

Summary Thesis

Cambrex is a commodity chemical producer of Pharmaceutical APIs that trades for a

premium valuation

Cambrex will likely see earnings decline in the next 12 months as its largest customer,

Gilead makes lighter API purchases

Outside of one blockbuster contract with Gilead, Cambrex does not have a strong track

record of innovation

Bulls will likely disappointed by the financial results from Cambrex’s facility expansions

as they ramp up in the back half of 2016

Falling earnings and a revaluation in-line with its peers would imply Cambrex’s share

price falling by as much as 20% to 30% in the next 12 months

Cambrex Company Overview

Cambrex is a contract manufacturing organization (“CMO”) for the pharmaceutical industry. The

company produces active pharmaceutical ingredients (“APIs”) which are the fine chemicals that

go into making chemistry-based pharmaceutical drugs. In addition to producing commercial

volumes of the API chemicals, CBM is involved with developing the techniques to

commercialize the API manufacturing process.

Capitalization Financials Valuation

Market Cap $1,417 2015 Sales $433 EV/2016E Sales 2.8x

Cash $53 2016E Growth % 11.4% EV/2015 EBIT 12.8x

Debt $0 2015 EBIT $107 EV/2016E EBIT 11.4x

Enterprise Value $1,365 2015 Margin % 24.6% Price/2016E EPS 17.4x

Source: Capital IQ as of 8/26/2016. Assumes Wall St. consensus estimates.

2

The company has three product buckets: Innovator, Generics, and Controlled Substances.

Innovator products are APIs produced for branded drugs. Generics products are APIs for generic

drugs. And Controlled Substances products are APIs for DEA Schedule II drugs (i.e. opioids).

Cambrex produces over 100 APIs: 30 – 35 APIs in Innovator, 65 – 70 APIs in Generics, and a

small number of APIs in Controlled Substances. The company has a global footprint with 3

production facilities located in Iowa, Sweden, and Italy. Cambrex focuses on small molecule

APIs and does have any biologic molecule products.

Sales By Product Sales By Geography

The company has posted strong top line growth and steadily increasing margins since 2011. The

company explains this recent success as resulting from a number of positive market drivers.

The biggest driver is the increasing trend for pharma companies to outsource everything

including R&D and API manufacturing. ~70% of API production still occurs in house at pharma

companies, so this tail wind should continue to be a positive force for many years to come.

Another big driver for the company is an increasing preference to “re-shore” the pharma supply

chain from emerging markets like India to Western-based suppliers with good FDA track

records. In 2012, the Generic Drug User Fee Amendments (“GDUFA”) was approved by

congress which gave the FDA a bigger budget to inspect foreign CMO facilities. Cambrex has a

clean record with all of the regulatory drug approval bodies.

Finally the entire pharmaceutical market is growing due to aging demographics and improved

access to healthcare. According to IMS, the overall pharma market is expected to grow at a 4.8%

CAGR from 2014 to 2019. (Source: https://www.imshealth.com/files/web/Corporate/News/Top-

Line%20Market%20Data/Global%20Prescription%20Sales%20Information5%20World%20figu

res%20by%20Region%202015-2019.pdf)

Innovator64%

Generics22%

Control Subs.14%

Europe65%

North America

29%

Other6%

3

Cambrex Is A Poor Quality Business

Cambrex would like investors to believe that the company provides highly differentiated services

to customers and is benefiting from numerous industry tailwinds. However, upon further

research, I did not find either to be the case.

The key to understanding Cambrex’s recent strong performance is a very lucrative contract to

supply Gilead (“GILD”) with APIs for its blockbuster Hepatitis C (“HCV”) drugs Sovaldi and

Harvoni. In 2012, Cambrex won the Gilead supply contract. Cambrex didn’t have the capabilities

to handle the contract so Gilead funded the capex to build a new facility. The facility had to be

online in less than 12 months in order to meet the deadline for the commercial launch of Sovaldi.

Cambrex executed on the project and has grown the revenue from this contract significantly over

the past few years.

The Gilead contract was a great win and Cambrex delivered beautifully for their customer. The

problem is if you back out the Gilead revenue from Cambrex’s financials, the company hasn’t

shown growth in the rest of its business. Therefore, outside of a one-off contract, Cambrex hasn’t

really accrued the benefits of the aforementioned industry tailwinds.

The reason Cambrex hasn’t benefited from industry tailwinds is because it operates at a

competitive disadvantage.

Cambrex Historical Financials

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 LTM

Revenue 224 235 253 249 235 227 256 277 318 375 433 463

Growth % 4.8% 7.4% (1.3%) (5.9%) (3.2%) 12.6% 8.2% 15.1% 17.7% 15.7% 17.3%

Gross Profit 87 84 91 74 70 67 74 91 103 124 177 189

Margin % 38.8% 35.7% 36.1% 29.6% 30.0% 29.5% 29.0% 32.7% 32.3% 33.1% 40.8% 40.9%

EBIT 19 15 30 26 27 23 24 36 45 58 107 117

Margin % 8.4% 6.3% 11.9% 10.3% 11.4% 10.0% 9.3% 12.9% 14.1% 15.5% 24.6% 25.3%

EBITDA 39 34 50 47 47 44 47 58 67 82 129 140

Margin % 17.3% 14.4% 19.8% 18.7% 20.1% 19.6% 18.4% 20.8% 21.2% 21.9% 29.7% 30.2%

Adj. EPS $0.36 $0.21 $0.64 $0.45 $0.45 $0.37 $0.44 $0.66 $0.83 $1.06 $1.93 $2.12

Growth % (42.1%) 208.1% (29.5%) 0.2% (18.1%) 17.5% 51.8% 25.3% 28.2% 81.9%

ROIC % 2.6% 4.2% 7.8% 6.4% 6.7% 5.5% 6.3% 9.3% 9.1% 11.8% 18.8% 17.9%

Cambrex Revenue Analysis

2012 2013 2014 2015

Revenue from Gilead 10 58 90 150

Growth % 482.5% 54.3% 66.6%

All other CBM Revenue 269 259 294 284

Growth % 5.3% (3.9%) 13.7% (3.6%)

Total Revenue 279 317 384 433

Growth % 8.2% 13.6% 21.1% 12.8%

Note: Revenue from Gilead disclosed in CBM annual reports.

4

Cambrex focuses on small molecule APIs. Unlike biologic APIs which are all the rage in Pharma

land, small molecule APIs are considered highly commoditized and have not shown much

innovation in the past decade. Furthermore, Cambrex doesn’t have to invent the molecules, it just

needs to figure out how to mass produce them. As evidence of just how commoditized these

contracts are, there are annual pricing declines of ~2% as API contracts scale up or mature.

Given these dynamics, API CMOs primarily compete based on price. Cambrex has two huge

disadvantages: it is sub-scale compared to its western CMO peers and it operates in costlier

locations in the U.S. and Western Europe.

Source: Cambrex presentation

According to Cambrex, there are over 100 small molecule CMO’s just in western countries (in

addition to many more located in emerging markets). Cambrex believes it is only the 9th largest

western-based CMO with just ~2% market share. Many of Cambrex’s peers are much larger

multi-national chemical companies with significant advantages in terms of market reputation,

manufacturing capacity, and capital resources.

Dependency on Gilead will Shift from a Tailwind to Headwind in 2017

As demonstrated above, Cambrex’s contract with Gilead has been a boon for the company.

Without the contract, Cambrex would have grown its top line by just 5.3% from 2012 to 2015.

35% of sales coming from one contract is significant, but based on the company’s corresponding

ramp in profitability and sales, I believe the contact represents as much as 50% of earnings.

5

Before the Gilead contract, Cambrex’s gross margin was ~30% and EBIT margin was ~10%.

From 2011 to 2015, as revenue from Gilead increased from 0% to 35% of sales, gross margin

increased from 29% to 41%.

On page 23 of the 2015 10K, the company describes the increase in gross margin as follows:

“Gross margins increased to 40.8% in 2015 compared to 33.1% in 2014. Current year gross

margins included a 2.6% favorable impact from foreign currency versus 2014. Margins were

positively impacted by plant efficiencies primarily driven by higher production volumes and

favorable product mix.”

The “favorable product mix” is almost certainty referring to the increased sales to Gilead. If that

is true, then the Gilead contract must also have better pricing which translates into a higher gross

margin for CBM. During a Wells Fargo healthcare conference held on October 13, 2015, the

company noted that margins are fairly consistent across product categories but can vary by

specific APIs.

Putting this theory to the test, I wanted to see what gross margin would look like if I assumed

revenue from the Gilead contract ran at a significantly higher rate than the rest of the business. I

assumed that all non-Gilead revenue held steady at an average gross margin of 30%. I assumed

that gross margin from the Gilead contract ticked up over time as Cambrex achieved better

production efficiencies and higher capacity utilization at its newly built plant. To my surprise,

this model back tested really well vs. actual gross margins. If you conservatively assume that

opex is split evenly between Gilead and non-Gilead, then you come to the conclusion that the

Gilead contract represents 50% of total earnings. In actuality, Opex is likely 60% - 80%

weighted to non-Gilead revenue, but the company doesn’t provide profitability by segment or

product so this is simply intuition.

This concentration to Gilead wouldn’t be an issue if Gilead was growing nicely. However,

Gilead is not performing well. Cambrex specifically supplies GILD’s HCV products Sovaldi and

Harvoni. These products have peaked in the marketplace and are expected to see volume

declines over the next few years. In research report on Gilead published on August 15, 2016,

Cambrex's Gilead GM vs. Rest of Company

2012 2013 2014 2015 LTM

Est. GILD Gross Profit 4 26 45 90 96

Est. GM % 40.0% 45.0% 50.0% 60.0% 60.0%

Est. Non-GILD Gross Profit 81 78 88 85 91

Est. GM % 30.0% 30.0% 30.0% 30.0% 30.0%

Est. Total Gross Profit 85 104 133 175 187

Est. Total GM % 30.4% 32.8% 34.7% 40.4% 40.4%

Actual Total Gross Profit 91 103 124 177 189

Actual Total GM% 32.4% 32.4% 32.2% 40.8% 41.0%

Total Opex 55 58 66 70 72

Opex % of Sales 19.6% 18.3% 17.1% 16.2% 15.7%

6

Piper Jaffray estimated that the number of patients treated by Sovaldi and Harvoni would decline

by 6.2% in 2016 and 27.6% in 2017. Given that Cambrex’s contract with Gilead is primarily

based on API volume, Cambrex should see declining orders from Gilead over the next 12

months.

Gilead is facing a slew of competitive issues in its HCV segment. The list price of treatment

starts at $74,000 which has drawn political scrutiny from politicians including Hillary Clinton.

(source: http://www.upi.com/Top_News/US/2016/08/18/Hillary-Clinton-calls-out-drug-maker-

Gilead-over-price-of-hepatitis-C-pills/7301471530471/) The high price of treatment has also

been criticized by pharmaceutical benefit managers. In 2014, Express Scripts removed Gilead’s

HCV meds from its offerings, replacing it with cheaper competitors. (Source:

http://www.reuters.com/article/us-express-scripts-abbvie-hepatitisc-idUSKBN0K007620141222)

Competitors have also entered the market. In 2014 (a year after Gilead’s Sovaldi received FDA

approval), AbbVie received approval for its HCV drug Viekira Pack. Earlier this year, Merck

received approval for its HCV drug Zepatier and announced it would price the drug 30% below

competitors. (source: http://www.wsj.com/articles/fda-approves-mercks-new-hepatitis-c-

treatment-1454023865) AbbVie and Merck are working on additional HCV treatments that will

come to market in the next few years.

On a positive note, Gilead is seeing lower HCV drug volumes because it has cured the disease

and improved the efficacy of its treatments. HCV patients can now enter an 8 week treatment

program compared to the standard 24 week program when the drugs were first launched.

Because this is a cure, there is no recurring revenue stream from patients dependent on

treatments.

Gilead’s HCV revenue peaked in 2015 as the drugs were made widely available both in the U.S.

and internationally. In 2016, the company has started to see drug volumes decline. In Q2 2016,

the company saw HCV drug volumes decline by 14%. Analysts expect this trend to continue.

7

Gilead Total Patients Treated

Note: Patients in thousands.

Source: Gilead Q2 2016 Earnings Presentation.

Broader Execution Issues

With Cambrex’s largest source of revenue turning into a headwind, it is critical that the company

works to execute on plans to diversify the business. Unfortunately, execution on new growth

initiatives has been lack luster.

Disappointing API Pipeline

Cambrex’s growth strategy for its innovator product segment is to attach itself to late stage

clinical drugs in FDA stages 3 or 4 in order to secure a commercial API contract if the drugs

receive FDA approval. Over the last few years Cambrex hasn’t attached itself to many projects

that have received FDA approval. Despite guiding that 3 to 4 drugs would receive approval in

2015, only 1 drug was approved. The company has guided that 2 to 4 drugs will receive FDA

approval in 2016. With over half the year over, only 1 drug has received approval thus far.

Outside of a 2014 bump up, the Generic API pipeline hasn’t shown any growth in the past 4

years.

2

3644

36

73

139

159150

139145

136

Q413

Q114

Q214

Q314

Q414

Q115

Q215

Q315

Q415

Q116

Q216

Gilead HCV Y/Y Change in Patients Treated

Q4 14 Q1 15 Q2 15 Q3 15 Q4 15 Q1 16 Q2 16

US 2,150% 119% 68% 111% 2% (26%) (15%)

Europe 525% 429% 225% 115% 20% (24%)

Japan

RoW 100% (25%) (43%)

Total 3,550% 286% 261% 317% 90% 4% (14%)

Source: Gilead Q2 2016 Earnings Presentation.

8

In addition to not having much luck attaching itself to viable drugs that receive FDA approval,

Cambrex hasn’t been able to attach itself to large projects with API revenue potential greater

than $10 million. Over the past 6 quarters the number of $10 million + API pipeline projects has

decreased from 4 to 2. Cambrex hasn’t seen a $10 million drug API contract receive FDA

approval since 2014.

Capacity Expansion Projects Will Likely Underperform

After receiving some project delays earlier this year, Cambrex has just opened a new facility

with expanded capacity at its Iowa location. This $50 million capex project is a ~30% capacity

expansion at the Iowa site and represents a $40 - $60 million revenue opportunity at full

capacity. The company is also getting ready to invest in additional capacity which may come

online by the end of 2017 (although this additional project hasn’t yet been confirmed).

Bulls would argue that the investment in new capacity shows that the company has strong order

demand and will be able to continue the rapid growth that it has experienced over the past few

years. I believe there is some legitimacy to this argument. I do think the additional capacity will

help win new contracts and drive volume growth. As such, I have modeled that the company will

grow its non-Gilead revenue by 10% per year over the next several years.

However, even if the company can fill the new capacity, it will likely come in at much lower

margins than the Gilead business the company will lose. Therefore, even if the company grows

its overall revenue base, if it loses volume from its Gilead contract, earnings will decline.

Cambrex's New API Pipeline

FY 2012 FY 2013 FY 2014 FY 2015 YTD 2016

Total Late Stage Clinical Projects 11 13 15 16 15

Added to Pipeline 6 2 2

Project Cancelled 2 2

Received FDA Approval 3 2 1 1

Generic API Pipeline 15 15 19 15 12

Controlled Sub. Pipeline 0 0 1 3 3

Source: Cambrex earnings call transcripts.

Late Stage Clinical Pipeline Revenue Potential

Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016

>$10M 4 3 3 3 2 2

$5-10M 8 10 10 10 10 11

<$5M 3 4 3 3 2 2

Total Pipeline 15 17 16 16 14 15

Source: Cambrex earnings call transcripts.

9

It is also possible that the new capacity will not ramp up as quickly as expected. When Cambrex

took on the Gilead contract, it built a new facility that was customer funded and had volume

commitments. That’s not the case with the new expansion projects. Cambrex first announced its

Iowa expansion in 2014, a year when the company was coming off the heels of rapid growth

from Gilead and a robust API pipeline. Fast forward to 2016, Cambrex’s API pipeline is less

than robust and the company is desperate to diversify away from its Gilead contract.

It seems as if Cambrex has taken a “build it and they will come” approach to its new capacity. As

recently as the Q1 2016 earnings call, the company mentioned that they were still selling against

the new capacity.

Cambrex CEO Steven Klosk on the Q1 2016 Earnings Call: “When you have excess capacity

utilization, you tend to have lower pricing or bids at a lower level. So, we're busy. We're filling

capacity there.”

“But, we'll get Pharma 3 up and running and see how that acceleration of the capacity utilization

goes, see how orders come in on the back half of the year, see how some of our late stage

projects progress.”

On the Q2 2016 earnings call, the company acknowledged that building the new capacity is an

important marketing tool to win new business. In the company’s defense, having new capacity to

sell into is clearly important for winning new business, but it doesn’t line up with the idea that

Cambrex has so much demand that they already have the new capacity booked up.

Cambrex CFO Greg Sargen on the Q2 2016 earnings call: “We felt like for the last two to three

years we've been playing catch up trying to manage customers and opportunities in a way that fit

our production cycle and open slots and losing some opportunities along the way due to that. So

if we want our sales force to be really effective and be able to sell with some aggressiveness, we

need to get out ahead of that curve and get some capacity there that they can sell into versus

continually trying to build capacity to meet demand that's already in the pipeline.”

Another reason why Cambrex’s capacity expansion may disappoint is because the existing run-

rate business may not hold up. In addition to the looming headwind of losing order from Gilead,

the company just gave a warning on the Q2 2016 earnings call which indicated weakness in its

Generics business and lowered guidance for the product.

CEO Steven Klosk on the Q2 2016 earnings call: “Expected orders for the second half of 2016

show softness in certain products. So we now expect revenues from generic APIs to be

approximately flat compared to prior guidance of low- to mid-single digit percentage growth.”

Expansion Into Final Dose Generics

A loftier source of future growth is the Cambrex’s expressed intention to enter the final dose

generic drug business. Cambrex has been publicly talking about moving up the value chain into

generic since at least 2011. Management recently commented that it would file its first ANDA

10

for a generic drug product in 2017 and upon approval would hope to begin generating sales from

this product in 2019.

Considering the first product sales wouldn’t happen until 2019, this prospect isn’t a risk to the

shorter-term short thesis. This situation does however provide a glimpse into management’s

ability to execute. Management has worked on this project for at least 5 years and has burned

significant cash in R&D (I estimate in the neighborhood of $30 million in the last 5 years). After

initially promising to file an ANDA by the end of 2016, management has reset expectations for a

2017 filing. This project hasn’t (yet) proven to be an effective use of capital or management

attention.

Inorganic Growth

The API CMO industry is highly fragmented and there is ample opportunity to make tuck-in

acquisitions. Cambrex itself could also become a take-out target.

Cambrex recently added $500 million of debt capacity to its cash flow revolver. This could help

Cambrex make acquisitions in the future or further invest in greenfield projects. Cambrex does

not currently have a buy back authorization.

While the prospect of Cambrex making accretive acquisitions is a major risk to the short thesis,

the company has a poor M&A track record and has postured itself as preferring organic growth.

The only meaningful acquisition Cambrex has completed recently was the 2010 purchase of

India-based Zenara Pharma. Cambrex initially purchased a 51% stake and never consolidated the

financial results. The company paid ~$20 million for the initial 51% stake and then paid ~$2

million for the remaining stake in 2014. This implies that Zenara lost roughly 90% of its fair

market value since Cambrex took its initial stake. Cambrex is currently exploring a sale of this

asset.

I believe the Zenara experience has made management much more cautious about making

acquisitions. At the Wells Fargo conference held on September 9, 2015, CFO Greg Sargen

provided a very insight comment to how Cambrex approaches capital allocation and M&A in

particular:

“Yes, so we've seen a lot of auctions, and we have seen a lot of properties go at values that we

weren't comfortable being at for those particular properties. Some of these properties we've seen

multiple times over the years. So debt is cheap, and some folks are comfortable levering up in

that environment. And we are staying, I guess, disciplined.

Are there a couple circumstances where we wish we had paid up a little bit more and got a little

bit more aggressive? There is probably a few of those. But there are several more that we are

quite pleased we did not belly up to the bar at a higher level.

So we continue to look at everything that's out there. And we've had nice organic growth that has

required us to keep all hands on deck to make sure that we are managing that, and a lot of capital

11

expansion. So instead of doing $100 million worth of acquisitions, we are putting $80 million,

$85 million worth of CapEx in the ground and growing organically.”

Insiders Have Been Selling Stock

Since the beginning of 2015, Cambrex’s insiders have net sold $13 million of stock in open

market transactions. Earlier in 2016, when CBM shares dropped below $40/share, the CEO,

CFO, and COO all sold stock in open market dispositions totaling $2.6 million. Today, total

insider ownership is 1.5% of the stock.

I generally don’t mind insider selling. It makes sense for executives to want to diversify their

finances. However, at a time when Cambrex is set up to benefit from industry tailwinds and grow

organically, it strikes me as odd that insiders are selling this aggressively.

What worries me more is that there is no single insider with significant economic exposure to the

stock. Given this lack of “skin in the game”, the Board is not likely to hold the management team

accountable and the management team is not fully aligned with shareholders.

Recent Financial Performance

Cambrex’s stock price has been on a tear since 2014 due to the accelerated revenue and earnings

growth from the Gilead contract. At $44 per share today, the stock is ~27% below its 52 week

high of ~$60. The stock likely traded lower in the past month in reaction to negative news about

Gilead’s HCV drugs. Gilead is also lower over the same period.

Over the past 10 quarters, Cambrex has posted strong top line and bottom line results. Growth

has decelerated from 2014, but is still robust. Cambrex has beat quarterly sales estimates in 6/10

quarters and has beat EPS estimates in 9/10 quarters.

12

Valuation Analysis

The above relative valuation table assumes Wall Street analyst estimates. Using this framework,

Cambrex’s peers trade at ~7x forward EBITDA vs. Cambrex at 9.1x and 10.5x forward EBIT vs.

Cambrex at 11x. Cambrex’s forward P/E is ~16x vs. peers of ~14.5x. Therefore Cambrex trades

at ~10% to ~20% valuation premium to peers.

However, based on my analysis, I believe Wall Street’s estimates for Cambrex may be too

optimistic. Cambrex has very thin equity research coverage with no major brokerage shops

covering them, so it doesn’t surprise me that consensus may be missing something here.

I assume that Cambrex hits its 2016 numbers based on the guidance provided by management in

the last earnings call. However, I believe that starting in 2017, revenues from the Gilead contract

will decline by 10% to 20% per year. I have optimistically modeled that non-Gilead revenues can

grow ~10% per year with the additional available capacity now online. Because the Gilead

revenue runs at a much higher gross margin, earnings would decline by a mid to high single digit

rate starting in 2017. Aside from some incremental D&A from the increased capex, all other

expenses remain roughly flat. (I have pasted in my model at the end of the write-up).

Cambrex Quarterly Earnings

Q1 2014 Q2 2014 Q3 2014 Q4 2014 Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016

Sales 66.1 97.9 81.3 129.1 77.5 106.6 93.0 156.6 93.7 118.5

Growth % (11.7%) 55.9% 5.0% 25.2% 17.3% 8.9% 14.4% 21.2% 20.9% 11.1%

Gross Profit 16.6 33.4 28.4 45.2 29.1 45.9 35.7 66.6 37.9 48.4

Margin % 25.1% 34.1% 34.9% 35.0% 37.5% 43.1% 38.4% 42.6% 40.4% 40.9%

EBIT 2.5 15.2 12.0 28.3 12.7 29.2 18.0 47.1 20.7 30.8

Margin % 3.7% 15.6% 14.8% 21.9% 16.3% 27.3% 19.4% 30.1% 22.1% 26.0%

EBITDA 8.4 21.2 18.1 34.2 18.0 34.6 23.6 52.7 26.2 36.5

Margin % 12.6% 21.6% 22.3% 26.5% 23.2% 32.4% 25.4% 33.7% 28.0% 30.8%

EPS $0.04 $0.63 $0.28 $0.89 $0.26 $0.60 $0.36 $0.54 $0.45 $0.63

Growth % (89.7%) 530.0% 40.0% 190.4% 581.1% (4.8%) 28.6% (39.2%) 73.1% 5.0%

Sales Make/Miss Miss Beat Miss Beat Beat Miss Miss Beat Beat Beat

EPS Make/Miss Miss Beat Beat Beat Beat Beat Beat Beat Beat Beat

Relative Trading Value Analysis

Enterprise Market Dividend EV / EBIT EV / EBITDA LTM FCF NTM Sales '16 EBIT '16 EBIT LTM

Company Name Ticker Value Cap Yield % LTM NTM LTM NTM Yield % Growth % Growth % Margin % ROC % (1)

BASF DB:BAS $90,945 $74,424 4.0% 14.0x 12.6x 8.4x 7.8x 4.1% (2.6%) 10.9% 11.0% 7.8%

Evonik Industries DB:EVK $15,157 $15,922 3.8% 9.3x 8.6x 6.3x 5.8x 7.7% 3.8% 8.3% 11.6% 10.7%

Lanxess XTRA:LXS $7,247 $4,945 1.3% 13.4x 12.5x 6.9x 6.6x 7.8% 2.2% 7.2% 6.6% 6.6%

Siegfried Holding SWX:SFZN $1,058 $839 0.9% 31.4x 21.4x 13.5x 10.6x N/M 14.0% 46.9% 6.7% 3.2%

Albany Molecular Research NASDAQ:AMRI $961 $608 N/A 60.4x 8.0x 21.1x 6.8x N/M 63.1% N/M 16.1% 1.8%

Aceto NASDAQ:ACET $649 $598 1.2% 11.2x 8.3x 9.2x 7.0x N/M 8.4% 34.7% 12.9% 9.2%

Mean $19,336 $16,223 2.2% 23.3x 11.9x 10.9x 7.4x 6.5% 14.8% 21.6% 10.8% 6.6%

Median $4,152 $2,892 1.3% 13.7x 10.6x 8.8x 6.9x 7.7% 6.1% 10.9% 11.3% 7.2%

Cambrex NYSE:CBM $1,363 $1,415 N/A 11.6x 11.0x 9.7x 9.1x 3.1% 8.4% 4.8% 24.6% 21.5%

Source: Capital IQ, Wall Street consensus estimates. Data as of 8/26/2016.

(1) Return on Capital = Tax-effected EBIT / (Total Debt + Total Equity)

13

Using my earnings estimate for 2017E, if you apply a peer median EBITDA multiple of 7x, you

get a share price of $31.31 or (28.9%) share price return. This is how I get to my target share

price.

If you want to be more conservative and assume that the Gilead revenue only falls by 10% in

2017E and apply an 8x EBITDA multiple you get an implied share price of $36.78 or a (16.4%)

return.

In a scenario where revenue from the Gilead contract is flat and all non-Gilead revenue grows by

~10%, holding the 9x EBITDA multiple flat, you get roughly the same share price as today. I

would consider this my downside scenario if I turn out to be wrong about the loss of sales from

Gilead.

Because I can make 20% - 30% return if I am right and lose very little if I am wrong, I would

consider this to be a fairly asymmetric trade.

Risks to the Short Thesis

Gilead Contract

The biggest risk to my thesis is if I am off the mark about CBM’s Gilead contract. Gilead may

not cut orders from Cambrex despite HCV volume declines in order to build drug stock piles. In

My Estimates vs. Wall St.

2016E 2017E 2018E

Wall St. Sales Est. 483 531 616

My Sales Est. 483 488 501

Difference 0.0% (8.0%) (18.6%)

Wall St. EBITDA Est. 145 163 210

My EBITDA Est. 143 137 133

Difference (1.2%) (16.0%) (36.6%)

Wall St. EPS Est. $2.53 $2.88 $3.60

My EPS Est. $2.29 $2.10 $1.99

Difference (9.5%) (27.1%) (44.7%)

Source: Capital IQ.

Share Price Return Sensitivity Table

Gilead Contract Revenue Growth

0.0% (5.0%) (10.0%) (15.0%) (20.0%)

10.0x 10.5% 7.0% 3.5% 0.0% (3.5%)

9.0x (0.2%) (3.3%) (6.5%) (9.6%) (12.7%)

8.0x (10.9%) (13.7%) (16.4%) (19.2%) (22.0%)

7.0x (21.5%) (24.0%) (26.4%) (28.9%) (31.3%)

6.0x (32.2%) (34.3%) (36.4%) (38.5%) (40.6%)EB

ITD

A M

ult

iple

14

2015, Gilead renewed its contract with Cambrex and the company noted that the contract had

minimum volume commitments. Cambrex didn’t comment on what those contractual minimums

were or provide any other contract specifics. In my opinion, Gilead has all the leverage in the

negotiation and therefore wouldn’t insert minimum volume requirements at an unreasonably

high level.

I could also be wrong about the timing of when Cambrex realizes the financial impact of the

Gilead downturn. For example, Gilead could push another few quarters of strong API volume

demand in order to expand into more geographies and build inventory. Thus far, Cambrex’s

Gilead revenue growth has decelerated, but has not yet turned negative. Because Cambrex only

discloses the Gilead exposure in its 10K, we will not truly know Gilead’s impact on Cambrex’s

2016 financials until spring 2017.

I am not worried about this aspect of my thesis falling through. Gilead has very visible

competitive issues in the HCV space and diminished business for Cambrex seems like a given at

this point. My sense is that at some point in the back half of 2016, Cambrex’s management will

need to address the issue. This will almost certainly come to fruition when management sets its

2017 guidance expectations.

Even if the Gilead revenues do not falter, I have baked this into my downside scenario and do

not believe this is a high loss proposition. There are other ways for Cambrex to disappoint even

if sales from Gilead remain stable.

Cambrex Wins Another Blockbuster Drug

The Gilead contract seemingly came from nowhere. There was very little lead time and Cambrex

didn’t even have the facilities in place at the time of the win. It is conceivable for Cambrex to

win a supplier contract for another blockbuster drug, it is just unlikely. In my opinion, Gilead

was a very lucky situation for CBM. There are no near term indications in the pipeline of

repeating this success in the next 6 months.

Accretive Acquisitions

Cambrex is well positioned to make acquisitions to juice its earnings growth. The company has

put in place significant credit capacity and operates in a very fragmented industry with dozens of

potential targets located in the United States. If Cambrex were to make tuck-in acquisitions, I

believe the market could cheer the move. That being said I do not think an acquisition is likely in

the very near term as the company has its hands full with the organic growth programs it has put

in place and the sale of its India business Zenara.

Furthermore, CBM’s management team has expressed a reluctance to make acquisitions and has

expressed a strong preference for organic growth programs. If these organic growth programs do

not meet expectations, I think management would be under greater pressure to seek inorganic

growth alternatives.

Cambrex As A Takeout Target

15

Cambrex itself could be sold. There are no major shareholders that would likely block a sale and

the management team would receive lucrative change of control payments. Given Cambrex’s

size, it would be a more efficient target for a larger chemical company like BASF to pursue.

However, Cambrex’s premium valuation makes an acquisition less attractive at this time. If

Cambrex were to drop down below 7x EBITDA, the IRR on an acquisition or LBO would be

more compelling.

Concluding Thoughts

Cambrex is a commodity chemical company that masquerades as a high-tech biotech firm. The

company has enjoyed the fruits of a truly spectacular contract from a blockbuster drug, but now

that the blockbuster drug is no longer a growth engine, the company must execute on new

avenues of growth. Cambrex’s management team has not shown strong execution in their various

initiatives over the years and have very little “skin in the game” in the form of stock ownership.

Given these dynamics, the Cambrex is poised to disappoint investors in the coming year with

lackluster earnings and no more home run contracts to hide behind.

16

Cambrex Valuation Model

2012 2013 2014 2015 LTM 2016E 2017E 2018E 2019E

Sales to Gilead 10 58 90 150 160 165 140 119 101

Growth % 482.5% 54.3% 66.6% 33.6% 10.0% (15.0%) (15.0%) (15.0%)

Gilead % of Sales 18.3% 24.0% 34.5% 34.6% 34.1% 28.7% 23.7% 19.4%

Innovator Ex-GILD Sales 130 127 143 128 132 154 169 186 205

Growth % (2.0%) 12.8% (10.4%) 8.5% 20.0% 10.0% 10.0% 10.0%

Generic Sales 100 94 99 96 101 96 101 106 112

Growth % (5.7%) 4.6% (2.4%) 10.0% 0.0% 5.0% 5.0% 5.0%

Controlled Sub. Sales 40 38 53 59 69 68 78 90 103

Growth % (5.3%) 39.6% 12.4% 27.3% 15.0% 15.0% 15.0% 15.0%

Total Sales 279 317 384 433 462 483 488 501 521

Total Sales Growth % 13.6% 21.1% 12.8% 19.2% 11.4% 1.2% 2.6% 3.9%

Sales Ex-GILD Growth % (3.9%) 13.7% (3.6%) 12.8% 5.2% 9.6% 9.7% 9.8%

GILD Gross Profit 99 84 71 61

GILD GM % 60.0% 60.0% 60.0% 60.0%

Non GILD Gross Profit 95 105 115 126

GILD GM % 30.0% 30.0% 30.0% 30.0%

Gross Profit 91 103 124 177 189 194 189 186 187

Total GM % 32.4% 32.4% 32.2% 40.8% 41.0% 40.2% 38.6% 37.1% 35.8%

SG&A 43.4 44.8 47.5 52.3 51.2 56.0 59.0 61.0 62.0

SBC 1.8 2.8 5.0 5.6 6.5 6.0 6.0 6.0 6.0

R&D 9.5 10.4 13.1 12.5 14.7 15.0 16.0 17.0 18.0

Total Opex 54.7 58.0 65.6 70.4 72.5 77.0 81.0 84.0 86.0

Opex % Total Sales 19.6% 18.3% 17.1% 16.2% 15.7% 15.9% 16.6% 16.8% 16.5%

EBIT 35.8 44.9 58.2 106.5 116.9 117.2 107.5 102.1 100.6

EBIT Margin 12.8% 14.1% 15.2% 24.6% 25.3% 24.3% 22.0% 20.4% 19.3%

EBIT Growth % 25.3% 29.7% 83.0% 10.1% (8.3%) (5.1%) (1.5%)

D&A 22 22 24 22 23 26 29 31 32

EBITDA 57.6 67.3 82.0 128.6 139.5 143.2 136.5 133.1 132.6

EBIT Margin 20.6% 21.2% 21.4% 29.7% 30.2% 29.7% 28.0% 26.5% 25.5%

EBIT Growth % 17.0% 21.8% 56.7% 11.4% (4.7%) (2.6%) (0.4%)

Net Interest Expense 2.4 2.2 2.2 1.7 0.7 1.0 1.0 1.0 1.0

Pre Tax Income 33.4 42.7 56.0 104.8 116.1 116.2 106.5 101.1 99.6

Tax Rate 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0% 35.0%

Taxes 11.7 14.9 19.6 36.7 40.7 40.7 37.3 35.4 34.8

Adj. Net Income 21.7 27.7 36.4 68.1 75.5 75.6 69.3 65.7 64.7

Net Income Margin 7.8% 8.7% 9.5% 15.7% 16.3% 15.6% 14.2% 13.1% 12.4%

Diluted Shares 30.3 30.9 31.6 32.6 32.8 33.0 33.0 33.0 33.0

Adj. EPS $0.72 $0.90 $1.15 $2.09 $2.30 $2.29 $2.10 $1.99 $1.96

EPS Growth % 25.3% 28.2% 81.9% 9.4% (8.3%) (5.2%) (1.5%)

Share Price (8/26/16) $44.02

Shares Outstanding 32.2 Valuation Summary LTM 2016E 2017E 2018E 2019E

Market Cap 1,417.4 Implied P/E 19.1x 19.2x 21.0x 22.1x 22.4x

Net Debt (52.5) Implied EV/EBITDA 9.8x 9.5x 10.0x 10.3x 10.3x

Enterprise Value 1,364.9 Implied EV/EBIT 11.7x 11.6x 12.7x 13.4x 13.6x