Pfizer is considering an Allergan injection.

Photographer: JONATHAN ALCORN/Bloomberg

Allergan Isn't Pfizer's Best Option

Brooke Sutherland is a Bloomberg Gadfly columnist covering deals. She previously wrote an M&A column for Bloomberg News.
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So Pfizer has finally chosen a new mega-target, and the winner is: Allergan.

Pfizer confirmed Thursday that it's in preliminary talks to buy the maker of Botox in a transaction that probably will top $150 billion. This is the follow-up act investors have been waiting for ever since Pfizer abandoned its $120 billion pursuit of AstraZeneca. A $17 billion purchase of Hospira by the pharmaceutical giant earlier this year failed to satiate, with one analyst calling the deal "basically an hors d'oeuvre'' for Pfizer.

Allergan, on the other hand, is certainly big enough. No other health-care company has ever tried anything bigger, which is saying something in an industry that has seen more than its fair share of megadeals over the last few years. Allergan would also give Pfizer the innovative products it needs to replace aging blockbusters.

But it's expensive. The company formerly known as Actavis (which pulled off a big deal of its own in March by buying Allergan and taking its name) is valued at upwards of 20 times its projected Ebitda for this year. That makes it one of the priciest companies in Big Pharma. And that's after the shares have come down a bit from their July peak amid scrutiny of the industry's drug pricing practices.

Analysts say it may take about $400 a share to convince Allergan to sell. At that price, you're talking about a deal that's not only the biggest for the health-care industry, but also one of the most expensive. That could be one reason why Pfizer shares were down as of midday Thursday. 

With a price tag of $400 a share paid all in stock, a purchase of Allergan will be dilutive to earnings, even with the $3.9 billion in cost savings that Bloomberg Intelligence estimates Pfizer can get from a takeover. That could change if Pfizer pays for a portion of the deal in cash.

Of course, Pfizer management has other things on its mind besides synergies.  CEO Ian Read has been vocal about his desire to use an overseas acquisition to move the drugmaker's legal address to a country with lower corporate tax rates,  a move known as an inversion deal.
That was a big rationale for going after London-based AstraZeneca, and the same reasoning is no doubt behind its talks with Allergan (headquartered in Dublin).  

Should it pull off an inversion, the benefits that Pfizer will get from lowering its tax rate should offset any hit to its earnings. What if it can't get those benefits, though? 

Pfizer's attempt at a big inversion with AstraZeneca drove politicians into a frenzy over how to stop the practice, and the U.S. Treasury has laid out stricter guidelines that limit the potential tax benefits of such deals. In fact, adding cash to its Allergan takeover bid would make it harder for Pfizer to structure the transaction in a way that lets it get around those tougher guidelines. 

The backlash over inversions is still simmering. Democratic senators and representatives have proposed a bill that would require the foreign company's shareholders to own 50 percent of the combined entity. Not even Allergan is probably big enough for Pfizer to pull that off.

Getting that bill passed by Republicans who want anti-inversion legislation to be part of a broader tax reform package is going to be tough, especially with the 2016 election looming. But betting on political inaction on inversions is risky. Just ask AbbVie: The pharmaceutical company scrapped its $55 billion takeover of Shire after the Treasury's inversion proposals eroded the tax benefits.

Pfizer runs the same risk with Allergan.  And besides tax benefits, a combination with Allergan won't yield as many synergies as Pfizer could get with other targets, said Elizabeth Krutoholow of Bloomberg Intelligence. Allergan's portfolio of biosimilars (imitations of pricier brand-name medications) is attractive, but has a lot of overlap with the drugs Pfizer gained in the purchase of Hospira and could have to be divested.

There are other targets out that offer better cost savings and revenue benefits for a cheaper price -- and maybe not as much risk. Take AbbVie: A 30-percent premium for the $90 billion company with 30 percent of the purchase price paid in cash would be accretive before even accounting for any synergies. AbbVie is valued at about 11 times its projected Ebitda for this year.

GlaxoSmithKline is another option. The company may offer more operational synergies than Allergan because of their complementary vaccines, over-the-counter drugs and HIV treatment businesses, says Jefferies analyst Jeffrey Holford.

That's not to say Allergan doesn't have a lot to offer Pfizer as a potential target. It just may not be the best choice. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Brooke Sutherland at bsutherland7@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net