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AbbVie and Shire Close, but Not There Yet

Patience and persistence on the part of AbbVie (NYSE: ABBV  ) may be close to paying off in its pursuit of Shire plc (NASDAQ: SHPG  ) . Shire's management has indicated that it can recommend AbbVie's latest offer, and it is an offer that still leaves some upside for AbbVie and its shareholders. It's definitely not a done deal though – not only might the two companies come to an impasse over "other items" still to be resolved, but now that the price is more or less set other bidders may jump into the fray.

Keep swinging until you hit something
If at first you don't succeed, keep bidding. That seems to have been AbbVie's approach toward acquiring Shire and unlike the failed Pfizer -AstraZeneca negotiations, Shire was not completely opposed to a deal on terms that would still leave some upside for the acquirer.

After raising its bid on July 8th (one of multiple raises), AbbVie has raised its bid again and seems to have reached the level that Shire management wanted. This most recent offer includes GBP 24.44/share in cash for Shire shareholders, plus 0.896 shares of AbbVie. At AbbVie's Friday closing price, that values Shire at GBP 53/share (or around $273 per U.S. ADR). If the deal goes through under these terms, Shire shareholders will own 25% of the combined company (versus 21% at the time of the late June offer).

This is an expensive deal for AbbVie, but one that still offers some upside. AbbVie won't get a lot of cost savings from the deal, as there isn't a lot of operational overlap, but it will lower the company's tax rate (another inversion transaction) and it will diversify AbbVie away from Humira and toward rare diseases and the CNS drug Vyvanse. I would estimate about 3% to 6% value upside to AbbVie at this deal price, assuming modest cost synergies (less than 20%) and a low-to-mid teens effective tax rate.

It's not over yet...
While Shire management has indicated that it can live with the basic terms AbbVie is offering, there are other issues left to be resolved and these could potentially block a final agreement. Neither management has yet specified the issues, but I would speculate that the biggest points of contention could involve contingency payments, legislative contingencies, and job guarantees. 

With respect to contingency payments, it is not all that uncommon anymore to see selling companies negotiate future supplementary payments based on the sales of products currently in clinical development or just recently launched. Shire has a deep enough pipeline in rare diseases that management may want contingent value rights that reward shareholders for future success. On the other hand, AbbVie may want to secure some protection for itself should U.S. laws change in such a way that they compromise or eliminate the tax benefits of inversions.

Job guarantees may also be an important part of getting regulators in the U.K. to approve the deal. As was the case in Pfizer's pursuit of AstraZeneca, AbbVie may need to commit to maintaining a certain level of jobs and R&D activities in place. Given that there isn't much R&D overlap and talented personnel may not be keen to relocate anyway, this shouldn't be a major issue for AbbVie.

Enter the rivals?
Now that AbbVie has more or less established the terms, could this open a hunting season for Shire? Allergan (NYSE: AGN.DL  ) has made it clear that it would like to own Shire as a means of fending off Valeant's hostile takeover and establishing a lower effective tax rate. Unfortunately for Allergan, this deal values Shire at almost $54 billion, meaning that Shire would have to want to acquire Allergan (enterprise value of $48 billion), and I don't see that as being likely.

Bristol-Myers Squibb has also been known to have been interested in Shire before and while $54 billion would be an expensive deal, it would be manageable and Bristol-Myers has a large amount of cash stuck overseas.  And what about Pfizer? At more than $54 billion, Shire would be large enough to allow a tax inversion deal for this U.S. pharmaceutical giant, though it wouldn't offer as much strategic value as AstraZeneca would have by way of its immuno-oncology programs.

The bottom line
Nine times expected 2015 revenue is a steep price for AbbVie to pay for Shire, but the diversification and tax benefits of the deal suggest that investors should consider more than just the incremental revenue and operating profits. While investors are often advised never to make a transaction strictly on the basis of its tax ramifications, large corporations operate with different timelines and different cash demands. To that end, this is still a good deal for AbbVie (and there's still a little room to go higher), but given the scarcity value of quality European pharmaceutical companies, this deal may not be as complete as some of the headlines would suggest.

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Stephen D.

I'm an ex-Wall Street sell-side and buy-side analyst who has spent most of the last 10 years writing on a wide range of industries and investment ideas.

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8/28/2015 4:04 PM
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