Desire for M&A is strong in pharma sector

July 2013 | FEATURE | MERGERS & ACQUISITIONS

Financier Worldwide Magazine

The pharmaceutical and life sciences (PLS) sector once again demonstrated its willingness to engage in mergers and acquisitions in the first quarter of 2013, with both deal volume and value increasing in the quarter, relative to the first quarter of 2012.

According to PwC’s US ‘Pharmaceutical and Life Sciences Deals Insights Quarterly Q1 2013’ report, the pharmaceuticals segment in particular saw the largest gains in deal value during the first quarter of 2013, due to a number of large transactions being completed. PwC estimates that transactions should continue to trend at an active pace throughout 2013 as pharmaceutical and biotechnology companies seek out acquisitions in certain asset classes. Medical device and diagnostic companies will also look to complete deals as they too pursue new growth strategies.

PwC’s assertions were proved correct in May when Actavis Inc. and Warner Chilcott Plc announced they had entered a definitive agreement for Actavis to purchase Warner Chilcott in a stock for stock transaction valued at $8.5bn. The deal, once completed, will create the third-largest US speciality pharmaceutical company with annual revenues of around $11bn, and $3bn in annual revenues focused specifically on core therapeutic categories of women’s health, gastroenterology, urology and dermatology.

Earlier in May, Actavis itself rejected a reported $15bn cash and stock acquisition offer from rival Mylan Inc, choosing instead to pursue a deal to purchase Warner Chilcott. The proposed deal from Warner Chilcott has been unanimously approved by the boards of both companies and is expected to close by the end of 2013. Once completed Warner Chilcott’s shareholders will hold around 23 percent of the new Actavis.

On 23 May, British pharmaceutical company BTG also announced two ‘tuck in’ deals which, according to the firm, could create an interventional medicine business with potential sales of $1bn. BTG has agreed to purchase the targeted therapies division of Nordion Inc for around $200m, as well as EKOS Corp for an initial fee of around $180m, plus up to $40m in future payments. The Nordion unit will strengthen BTG’s liver cancer treatments, adding Therasphere radioactive glass beads to its chemotherapy beads unit.

Q1 2013 was punctuated with many deals of a similar value. Total deal value in Q1 more than doubled on the back of several large divestitures. This is a clear continuation of trends from previous quarters, particularly firms’ reliance on utilising divestitures to unlock shareholder value. Total deal value in Q1 2013 reached $75bn, up from $21bn in the first quarter of 2012.

Pharmaceutical companies in particular flourished during Q1, with 14 deals completed at an aggregate value of around $71bn. Although the volume of pharmaceutical deals fell from 17 in Q4 2012, deal value was significantly higher, rising from around $17bn in Q4. Both deal value and volume were also up compared to Q1 2012 which saw low levels across the board – only six deals were completed in Q1, valued at $12bn.

Although PLS deal volume was down 24 percent in Q1 2013 when compared with Q4 2012, year on year comparisons with Q1 2012 saw a strong increase in activity on a seasonally adjusted basis. Indeed, total PLS deal volume was up 48 percent during Q1 2013, relative to the same period in 2012. Aided by the completion of two significant initial public offerings (IPOs) – AbbVie by Abbott Laboratories and Zoetis by Pfizer – the value of PLS deals closed during Q1 2013 increased 336 percent relative to the previous quarter, and 255 percent relative to the first quarter 2012.

Megadeals

A number of megadeals occurred during Q1. Royalty Pharma announced a $6.5bn takeover bid to acquire Elan Corporation, Cardinal Health completed a $2.07bn acquisition of medical supplier AssuraMed, and Mylan Inc. completed its $1.85bn purchase of generic injectables company Agila Specialities. Also in Q1, Biogen Idec announced that it had acquired the rights to TYSABRI from Elan for approximately $3.3bn.

The IPOs of AbbVie and Zoetis were both completed in Q1, meaning the value of PLS deals during Q1 2013 increased 336 percent relative to the previous quarter, and 255 percent relative to the first quarter 2012. The successful spinning off of AbbVie Inc. on 2 January valued the company at roughly $55.5bn. Similarly, Pfizer sold off 20 percent of Zoetis on 31 January, with the offering valuing the company at around $13bn.

Although the volume of megadeals completed may have been down by 50 percent in Q1 2013 compared to the same period in 2012, deal value was up considerably. Megadeals accounted for $68.5bn of the total deal value reached in Q1.

Sector analysis

Excluding megadeals, there were 12 deals completed in the pharmaceutical segment in Q1 2013 compared with only five completed deals during the same period last year. The value of completed transactions in Q1 2013 also rose 137 percent to $2.9bn, up from $1.2bn in Q1 2012. This rise, according to PwC, demonstrates an increase in overall activity as serial acquirers continue to target specific asset classes, such as Parkinson’s, Alzheimer’s and other neurodegenerative diseases.

The biotechnology segment also performed consistently, with deal volume remaining comparable to the first and last quarters of 2012. However PwC’s data suggests that biotech deal value remained relatively modest compared with historical periods, signalling a reduction in average deal value. PwC also notes that deal volume in the biotech segment will likely remain constant or actually increase throughout the remainder of the year.

Relative to the first and last quarters of 2012, the medical device segment of the sector saw both deal volume and value fall in Q1 2013. The declines experienced in this segment can be attributed to acquirers reassessing their business development strategies and refocusing their attentions on integrating the assets they purchased in 2012.

The diagnostic sector, however, enjoyed a notably prolific first quarter in 2013. Deal volume and value both soared, increasing 150 percent and 117 percent respectively, relative to Q4 2012. PwC expects diagnostic companies to continue to act as opportunistic purchasers, notably in the emerging products categories, such as molecular diagnostics and genetic sequencing.

The poor performance of the service sector continued throughout the first quarter of 2013, which saw no deals completed. The sector was also moribund throughout 2012, with only one deal completed per quarter.

Trends

In Q1, PLS sector stocks continued to perform well, compared with the overall market. The Standard & Poor’s (S&P) healthcare sector index rose by roughly 17.5 percent, the S&P 500 index rose by only 11.4 percent comparatively. Biotech stocks also performed particularly well, rising 37.8 percent in Q1. Stocks in the healthcare equipment and supplies segment performed admirably in Q1, rising 14.2 percent, whereas the pharmaceutical segment’s stocks climbed 16.8 percent.

Pharmaceutical acquisitions also demonstrated significant growth relative to Q1 2012, on a seasonally adjusted basis. PwC notes that this is a trend that is likely to persist as serial acquirers look for more growth opportunities. Furthermore, expect new ‘pure-play’ companies to seek acquisitions of complementary assets.

Analysts also predict that M&A in the medical device segment of the market is likely to rebound in the latter half of 2013, despite the decline experienced in both deal volume and value in Q1. Large medical device companies will likely continue to appraise their existing product portfolios, and look to strengthen their product offerings wherever possible, as well as enter into adjacent markets via M&A.

Following a sluggish 2012, PwC’s data also suggests that M&A in the diagnostics segment will likely recover in the second half of 2013, trending towards the more robust levels last experienced in 2011. Diagnostics companies are likely to remain opportunistic acquirers, focusing primarily on their complementary product lines and emerging product categories.

As we have already seen with the spinning off of AbbVie and Zoetis, divestitures will continue to receive top billing in the second half of 2013 as companies within the pharmaceutical sector look to unlock shareholder value. It is likely that firms will continue to evaluate and manage their portfolios via divestitures.

Financial buyers were mostly inactive during Q1 2013, following on from an equally dormant 2012. However, the availability of high yield debt will likely mean that private equity investors will remain active in deal processes for particular asset types throughout the remainder of the year.

Importance of value and synergies

According to PwC’s data, it is imperative that companies are aware of the importance of a targetcompany’s value when considering deal price. This is particularly pertinent for PLS companies, as acquisitions within the sector often focus on a specific compound or medical device which is years away from commercial release. Regarding acquisitions within the sector, and the pricing bias that exists in all transactions and industries, companies should establish “a robust objective process to determine and challenge the assumptions underlying valuation”.

Many of the recent transactions in the PLS sector have been ‘tuck in’ acquisitions, designed to complement existing products and divisions. PwC notes that many buyers in these types of transactions expect to garner significant value from synergies and therefore offer substantial premiums on that basis. According to data held by S&P, premiums in the PLS sector have exceeded 40 percent in the last three quarters.

These synergies may represent incremental revenue from a complete line of products or savings realised by utilising existing sales or research and development departments. Purchasers absolutely commit themselves to the amount of shareholder value expected to be garnered from a transaction and so consequently they must be meticulous in their measurement and treatment of synergies, which often contribute to the gaps between the price and the real value of a company.

In order to be successful, purchasers must adopt a disciplined approach to quantifying synergy value, to identifying the costs required to achieve the projected synergies, and to cognisant negotiating, particularly in competitive transactions.

Conclusion

The PLS sector has made a particularly strong start to 2013. The first quarter saw a number of deals completed which, relative to both Q1 and Q4 2012, increased deal volume and deal value significantly. This strong first-quarter performance is expected to continue throughout the year. PwC predicts that the trend of increasing reliance on divestitures will likely continue for the remainder of 2013 as PLS businesses look to M&A activity to accomplish their particular growth strategies, including increased product offerings and expanding their geographical exposure.

The increases in deal value and volume in Q1 are clear reminders that dealmaking is the lifeblood of the PLS sector. Vital research and development work, and much needed diversification into new markets and products are all made possible by the influx of capital and the risk sharing brought about by M&A. Yet, while M&A represents a great opportunity for the PLS sector to grow and change, the full potential of these opportunities can only be achieved through a diligent approach to company valuations.

Richard Summerfield