Don't let Quintiles's tumbling stock price fool you. The drug-development company's merger with IMS Health is a smart move.
The two health-care firms are combining in an all-stock transaction to create a business with an enterprise value in excess of $23 billion. IMS is really more of big data company, whereas Quintiles manages clinical trials for drugmakers. And while the two are functionally different, that's in a way what makes them a perfect match. The anonymous information that IMS mines from physicians, labs and pharmacies can help Quintiles better recruit patients for trials and get a clearer read on how people are using drugs, what the potential market is for new medicines and how drug promotions are received.
The idea is to make the clinical trial process and the overall life-sciences industry more effective and more efficient -- or in other words, to help Quintiles and IMS keep doing what they're doing, but better. For shareholders, this means faster growth, wider margins and eventually higher valuations.
It's the latest big deal in health care -- but also part of a trend that's seeing companies make more of a push into digital technologies to keep their businesses smart and relevant. Quintiles should be praised for going this route, in contrast to rival LabCorp's reported early talks to buy INC Research. Such a deal would be pricey and amount to doubling down on a clinical-trial testing services market where consolidation arguably has limited benefits.
So why, then, did Quintiles's shares plunge the most since the company's 2013 public offering on Tuesday? For one, the merger wasn't the only news of the day: Quintiles also reported first-quarter revenue and new business bookings that missed analysts' estimates amid customer delays, even as earnings surpassed expectations. The mixed bag of results -- not the deal -- is likely what's behind some of Quintiles's slump, says Evercore ISI's Ross Muken.
The merger also isn't all that accretive. It won't really add to Quintiles's earnings until 2017 and even then, the gain will likely be around 5 percent, Muken estimates. The companies are projecting $100 million of annual cost savings by the end of the third year after closing -- not exactly a blockbuster number and a long-ish delay to realize those benefits. It's also interesting that Quintiles is the one putting up stock in the merger, while IMS will end up with a bigger ownership stake and keep its CEO in charge.
But looked at another way, Quintiles is actually getting a pretty good deal. IMS investors are getting 0.384 of a Quintiles share for each of their shares. That implies a valuation of $26.53 a share for IMS based on Quintiles's closing price on Monday -- slightly less than what IMS traded for before the deal announcement and several dollars off from what analysts were expecting the company could reach on its own over the next year. The price is also lower than what IMS's private-equity backers cashed out a portion of their stakes for last year, notes Sachin Shah, a merger arbitrage strategist for Albert Fried.
As shares of Quintiles tumbled, the value of the deal for IMS holders was further reduced. That could be why IMS shares fell as much as 8.1 percent on the news. (It, too, reported earnings on Tuesday, beating analysts' earnings and revenue projections.) IMS shareholders may find it difficult to challenge the terms, though, because investors owning 54 percent have already committed to vote for the deal.
Quintiles and IMS are asking investors for a bit of a leap of faith, but they deserve the benefit of the doubt. Strategically, this deal is a knockout punch that will likely put pressure on peers such as LabCorp to rethink their strategies and pivot more aggressively toward data and technology.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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