Here's Why Generic-Drug Manufacturers Lost As Much As 43.2% in May

What happened

Last month was one to forget for the generic-drug industry, which was confronted head-on by a sweeping lawsuit from dozens of states alleging conspiracy to fix drug prices. Shares of nearly every company with ties to generic-drug manufacturing or distribution sank on news of the legal risks.

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Teva Pharmaceutical (NYSE: TEVA) stock led the pack by declining 43.2%, followed by a 41.4% tumble for shares of Amneal Pharmaceuticals (NYSE: AMRX), according to data from S&P Global Market Intelligence. The intelligence platform also shows that shares of Lannett (NYSE: LCI) lost 31.6% and Mylan NV (NASDAQ: MYL) stock dropped 37.8%.

So what

The events that spilled onto Wall Street in May can be traced back to summer 2014. That's when the first subpoenas came from the State of Connecticut Office of the Attorney General as it began investigating unusual pricing anomalies in the industry. Then a lawsuit was filed against generic-drug manufacturers in December 2016. Now, the latest lawsuit is larger and more detailed than the original, involving 44 state attorneys general and at least a dozen generic drugs.

Analysts and investors are right to worry. While the lawsuit could be settled with large fines and payments, it's likely to result in increased regulation of the generic-drug industry, too. Wall Street is more concerned with the former for now.

For example, Lannett lost a lucrative contract with Jerome Stevens Pharmaceuticals (JSP) that was responsible for 37% of its total revenue in fiscal 2018. It included a product, levothyroxine, with promising growth potential. The business has made strides to grow and diversify revenue in the quarters since, but it faces an uphill climb. Therefore, the industrywide lawsuit has sharper consequences for the small-cap company than for its larger peers.

Amneal Pharmaceuticals, which wrestled Lannett's levothyroxine contract from JSP, disclosed that it had received letters from two states that intend to pursue claims against the company. The company's most recent quarterly SEC filing contains seven full pages describing its involvement in eight different lawsuits spanning generic-drug antitrust suits to its role in the opioid crisis. That pattern is repeated in the SEC filings of Teva Pharmaceutical and Mylan.

Wall Street is increasingly alarmed over the growing uncertainty facing Teva Pharmaceutical. In addition to being labeled the ringleader of the generic-drug price-fixing conspiracy, the company is involved in suits for its role in the opioid crisis. It recently reached an $85 million settlement to avoid going to trial with the state of Oklahoma.

While that's a relatively small amount, UBS analyst Navin Jacob warned that it was larger than expected. Since larger lawsuits are pending, the analyst increased the estimate for total settlement payouts from $1 billion to over $4 billion. Teva Pharmaceutical exited March with $2 billion in cash.

Now what

To be blunt, the fact that 44 states have the generic-drug industry in their sights is terrible news for the affected stocks. Individual investors can expect sizable fines and settlements, while stricter oversight and regulation isn't out of the question. It may be better to avoid the uncertainty altogether.

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Maxx Chatsko has no position in any of the stocks mentioned. The Motley Fool recommends Mylan. The Motley Fool has a disclosure policy.