Must-know: Why Pfizer could up its offer for AstraZeneca

Market Realist

The case for Pfizer's proposed takeover of AstraZeneca (Part 9 of 9)

(Continued from Part 8)

Will Pfizer up its offer?

Investors and analysts believe Pfizer (PFE) will increase its offer from £50 a share to at least £55 or even £60. Pfizer’s revised offer, which was rejected as being undervalued, represented a 7% premium to the Pfizer’s earlier offer and comprised 32% in cash and remaining in shares. In order to gain tax benefits, Pfizer needs AstraZeneca (AZN) shareholders to own 20% of the combined group even if it tries to increase the cash proportion of the deal. Analysts believe there’s still room to enhance the cash component, as the latest proposal would leave the UK ownership at 27% of the combined company. In a recent update, Pfizer said it “will continue to be disciplined on price.”

Is a potential break-up a hidden agenda?

A Financial Times article said analysts and investors believe Pfizer’s interest in AstraZeneca is part of a larger effort to break itself up. Pfizer underwent a restructuring and split itself into three primary businesses last year—two units are focused on “innovative” or patent-protected drugs and one comprises the generic or “value” business. Pfizer also divested its infant nutrition business to Nestle and spun off its animal health unit, Zoetis, last year. Analysts believe the break-up could be a prelude to a spin-off of its generics drug business in the future.

According to the company, a full split might not take place until 2017. In a recent earnings call, Pfizer CEO Ian Read said, “We’re not talking about a three or four-way split, we’re talking about two major segments.” However, Read reiterated that there was no decision on a break-up yet. Leerink analyst Seamus Fernandez said Pfizer’s takeover of AstraZeneca would create a “more compelling entity” and give Pfizer a “greater optionality for a successful separation” of its three divisions.

The strategic benefits of the merger for Pfizer include AstraZeneca’s oncology pipeline, cost synergies from a combined portfolio of products in diabetes and respiratory franchises, and an oncology tax benefit from re-domiciling in the UK and use of its overseas cash stockpile to pay for the deal. Moreover, a future break-up of its divisions could be a significant catalyst for its shares, according to JP Morgan.

AstraZeneca looks overvalued compared to peers Merck (MRK), Bristol-Myers Squibb (BMY), and GlaxoSmithkline (GSK) at a forward P/E of 18.9x, while it expects a low-to-mid-single-digit percentage decline in sales and a percentage decline in core earnings per share in the teens for 2014. It also expects revenue to return to 2013 levels in 2017. Edison Investment Research Mick Cooper noted, “AstraZeneca has been in transition, with much business and product development under way but little as yet is really visible. We think AstraZeneca will return to growth faster than many believe, which underlines Pfizer’s opportune timing.”

To learn more about Pfizer’s business, see the Market Realist article Renaissance Technologies buys a stake in Pfizer in 4Q13.

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