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This Takeover Is Off the Table. Maybe.

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The way to win a poker is to be unpredictable; remind me not to play if Roche executives are sitting at the table.

When Roche initially made a play for Illumina (Nasdaq: ILMN  ) , I pointed out that a higher bid was likely to come, as was the case for its hostile bids for Genentech and Ventana Medical Systems. The raise came, but much earlier than expected.

Now Roche said it's walking away from the deal after the company failed to win any seats on Illumina's board. Roche doesn't plan to extend its tender offer for $51 per share that's set to expire tomorrow.

Is that it? Game over? I doubt it. As I see it, Roche is still sitting at the table with cards in its hands. Roche's problem from the beginning has been that Illumina wouldn't sit down and play the negotiation game. Threatening to walk away looks like a move to try to engage Illumina.

I doubt it'll work -- at least not yet. Illumina has support of its shareholders; preliminary results indicate that only 6% of shares voted for Roche's slate. Management can sit back and wait for Roche to increase its offer to a nice starting place for negotiations.

The risk, of course, is that Roche isn't bluffing. That it really plans to look elsewhere for sequencing technology or just invest in other areas of its business. Turning down a last-and-final offer can be costly; Yahoo! trades well below the $31-per-share bid from Microsoft in 2008. Same situation for Take-Two Interactive Software after it spurned a bid from Electronic Arts.

What Illumina really needs is another bidder to shake things up. But I just don't see that happening. Abbott Labs (NYSE: ABT  ) is busy with its breakup, and I don't know of any other diagnostic companies large enough to justify an acquisition. Illumina would fit into a company that sells other research products to scientists -- Sigma-Aldrich or Thermo Fisher Scientific (NYSE: TMO  ) -- but the real value in Illumina is in the push toward diagnostics. There's a lot more patients than there are scientists.

I like Illumina better here at the knocked-down price than I did with it trading well above Roche's offer price, but it's still a risky bet now that Roche has gone off script. Illumina could drop further if it becomes clear that Roche really isn't interested; going out and buying Pacific Biosciences of California (Nasdaq: PACB  ) , Complete Genomics (Nasdaq: GNOM  ) , or one of the smaller private sequencing companies would be a big clue.

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Fool contributor Brian Orelli holds no position in any company mentioned. Check out his holdings and a short bio. The Motley Fool owns shares of Yahoo!, Abbott Laboratories, and Microsoft. Motley Fool newsletter services have recommended buying shares of Pacific Biosciences of California, Microsoft, Illumina, Take-Two Interactive Software, Thermo Fisher Scientific, and Yahoo! and creating a bull call spread position in Microsoft. The Motley Fool has a disclosure policy. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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  • Report this Comment On April 20, 2012, at 1:21 PM, steinwaycapital wrote:

    Roche managers did the right thing. Making sure that nobody deems them as fools in the market.

    We shall see on April 23 how well the results of Illumina hold up on their own.

    Granted the diagnostic platform they created looks nice, but it has to be populated with tests and users. I haven't tracked how many BeadXpress readers have been deployed.

    Back in 2010 (mid year) Greg Heath was on record as saying that lots of diagnostic tests were under development. In a number of areas. These need to be FDA approved. Haven't seen progress, other than 1 test with iGenix in mid 2011. Granted, starting a greenfield diagnostics business isn't the easiest task. I sure will be watching how they progress here. 2 years and counting.

    It reminds me a bit of Aceto and their efforts to develop a generica farm chemicals business. Lots of promise but difficult to get all the approvals in at the speed of light.

    I do think it is fair to say that Roche needed to see some progress and non-public information to be worth paying up for. If future public revelations warrant, I am sure they will keep that in consideration.

    It will strike some observers as curious that Greg Heath, current SVP and head of Diagnostics at Illumina was up until 2008 Head of Molecular Diagnostics at Roche. He is actually a 20 year Roche

    veteran. Not sure if he and Roche CEO Schwan, who was former head of Roche Diagnostics had a good relationship. If diagnostics is what Roche is interested in, it certainly makes sense for them to do damage control, before Mr. Heath and Flatley roll out a strategic blueprint that could be Roche's. It is very clear that Mr. Heath had to be paid an inducement fee at the time of hiring. The inducement fee was on the basis that he would be the man to bring this commercial organization in full swing at Illumina. That may though not be a correct assessment, as it takes lots of resources to build a diagnostic organization.

    I don't think that Mr. Health was nearly as instrumental in the diagnostic development at Roche as Illumina wanted him to be. Behind every key man are teams of people and the way I understand Roche and the opportunities for fast career advancement offered, they work quite effectively in teams. it is quite possible that the lack of progress of the diagnostics division at Illumina has to do with the fact that these businesses are not just moved by key-men but by entire teams.

    I would not be surprised to see short term disappointments in the commercial roll-out of tests based on the BeadXpress platform.

    It is noteworthy to mention that one of the development partners of Illumina in diagnostics, EraGen (i believe a licensee) got bought out by archrival Luminex for 32 million.

    If Roche wasnts a piece of the diagnostic action, I guess just take over Luminex at a cheaper price. That wont give you control of the platform and its development but at least assure some participation.

    I lack the insights into the agreement Illumina signed with EraGen. (now Luminex). Evidently, without seeing such details, there is no way Roche should have paid more. For all practical matters it is well possible that Illumina already gave up parts of its technology by sharing it with EraGen.

    I am taking here admittedly the stance of devils advocate. What could go wrong here is that Illumina has a nice technology, but they lack the commercial wherewithal (even with key man hired away from Roche). To make things worse, part of the benefits of their tech might already be shared with a competitor (Luminex) in some areas. (pls clarify if you have infos to the contrary).

    Aside from that, valuations for diagnostic platforms have been more in the 1-3 billion range, even for good ones. Gen-Probe has put itself up for sale more than 12 months ago. Its not a bad company but so far no takers. General Electric paid 575 MM for Clarient to make inroads into companion diagnostics. Inverness paid a big more than 1 billion for BioSite in a bidding war. Without a doubt, the price tag at Illumina was rich

    to begin with.

    Should there be disappointments in the rollout of diagnostics at Illumina, this should be reflected in the share price.

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