Investors have been wondering for a few years now when Gilead Sciences (NASDAQ:GILD) would spend some of its massive cash hoard and acquire a new company, and this week, Gilead put those wonders to rest (for now) with its $11.9 billion acquisition of Kite Pharmaceuticals (NASDAQ:KITE).

Novartis (NYSE:NVS) Kymriah, a game-changing CAR-T cancer drug, won FDA approval this week, increasing the odds that Kite Pharma will score a regulatory green light for its CAR-T Axi-Cel in November. Since Gilead Sciences' acquisition of Kite Pharma is expected to close around the same time the FDA announces its Axi-Cel decision, investors are right to wonder about CAR-T's market potential and what this acquisition could mean for Gilead Sciences' investors.

In this episode of The Motley Fool's Industry Focus: Healthcare podcast, contributor Todd Campbell is reunited with analyst Michael Douglass to break down the deal and discuss just how important this new class of cancer treatment is to Gilead Sciences shareholders.

A full transcript follows the video.

This video was recorded on Aug. 30, 2017.

Michael Douglass: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day. It's Wednesday, August 30, and we're talking about Gilead Sciences' acquisition of Kite Pharmaceuticals. I'm your host, Michael Douglass, filling in for Kristine Harjes this week, and I'm joined in the studio, as always, by Todd Campbell. Todd, good to see you today!

Todd Campbell: [singing] Reunited and it feels so good! [laughs] I'm not a singer, Michael, but it's great to have you back on the show. It's going to be fun today, talking about Kite and Gil.

Douglass: Yeah, Absolutely. I'll go ahead and give our listeners a little expectation that will probably not be the only song we sing on today's episode. We'll get to that in a minute. First off, let's go to the headline. Gilead finally, finally pulled the trigger and bought somebody -- Kite Pharmaceuticals. They announced this on Monday. $180 per share in cash, that's an $11.9 billion valuation, 29% premium to the prior close. If that sounds rich to you, keep in mind that's actually fairly typical in biotech. You will often see double-digit, sometimes even more gains upon announcement of a deal closed, just because you usually have to offer a pretty significant premium to get a company to agree to be bought. If you consider, if you were a Kite shareholder or if you know a Kite shareholder, you should pat them on the back. Kite IPOed three years ago at $17 per share and is now, subject to the normal closing conditions, of course, being bought for $180 per share. That's a pretty darn good investment over three years. 

We'll dive more into Gilead's strategy a little further in. First, let's break down the deal, what Gilead is getting here. Then, we'll turn to Gilead's overall M&A strategy. Finally, we'll talk about what we think of the deal. Certainly, Todd and I are both Gilead shareholders, so is Kristine, by the way, and I'm certainly pretty excited to hear about this deal, but we'll get into that at the end. 

Let's start by breaking down the deal and looking at Kite Pharmaceuticals' pipeline. First question, of course, that I think anyone should ask is, "What sort of cancer drugs does Kite Pharmaceuticals invest in?" The primary area that they are working is called CAR-T.

Campbell: CAR-T, Michael, is probably one of the most exciting developments in cancer research over the course of the last few years. I say "few years" because it's downright remarkable how quickly these have gone from clinical-stage, or preclinical stage, I should say, ideas, to now, as of today, commercial-stage medicines. If listeners haven't heard yet, Novartis, which also participates in the CAR-T space, just won approval today for the very first FDA-approved CAR-T medicine. That drug is called Kymriah. Basically, it speaks to the promise for this entire class of drugs. It also speaks, Michael, to the timing of Gilead Sciences. How savvy -- you announce the deal the same week that the first CAR-T ever wins approval.

Douglass: And what's really interesting about the FDA's approval of Novartis' drug is that it came before the expected PDUFA date, which is usually the promised date that the FDA will promise to look at things by. The fact is, they came to Kymriah -- which, by the way, if you ever need to remember how to pronounce that, think Kumbaya. 

Campbell: There's the second song!

Douglass: There was the musical number I promised. You're all welcome. [laughs] But, the FDA moved on this early -- that's huge.

Campbell: Yeah, I think you're right to look at that and say, "Wow, what could that mean for Gilead Sciences now that it's bought Kite?" But, let's back up the wagon a little bit, and we'll explain a little bit more what's driving the deal and what's going on. As you alluded to earlier, one of the most anticipated news events of the year was, what will Gilead Sciences do with its absolutely mountainous and growing pile of cash? And we found out, obviously, this week that it wants to become a major player in oncology, and it's willing to do that not by buying an individual drug, but buying a platform that will allow it to develop drug after drug after drug for increasingly more indications, and that platform is CAR-T.

Douglass: It's interesting, because if you look at Kite's pipeline, they have about a dozen drugs in phase 1 or earlier. So, that's a very expansive pipeline that should help Gilead, hopefully, get some wins over the next many several different years. That represents an enormous optionality and number of opportunities for them. As well, though, you have this lead drug, it's called Axi-Cel. The long name, trust me, you don't want to hear me try to pronounce it, because I'll just butcher it. Axi-Cel has already completed phase 3 testing and has a PDUFA date with the FDA on November 29. Now, of course, will the FDA jump the gun on that one, too? Who knows?

Campbell: I think the chances are pretty good, Michael! Who knows, you don't know that, but think about what happened with Novartis and their drug. It went to an advisory committee or an adcom meeting, and the advisory committee voted unanimously to recommend its approval. And after that happened, the FDA told Kite, "We're not even going to bother with an adcom for you."

So, that could mean that Gilead Sciences has -- this deal isn't supposed to close until the fourth quarter, and depending on when this is approved, the PDUFA date for Axi-Cel is November 29, if they approve it in October, theoretically you could have the company getting bought after it's actually won approval and therefore can be commercialized. But, again, to back up for one second, probably helpful for new listeners, we've talked about CAR-T on the show in the past, to get a quick and dirty look at what CAR-T is, Michael?

Douglass: Please, go ahead.

Campbell: I thought I would go a little Harry Potter on you.

Douglass: Oh, boy.

Campbell: If I'm in an auditorium, or picture a huge room, and I'm wearing an invisibility cloak, how easy would it be for you to find me?

Douglass: Incredibly difficult.

Campbell: Yeah, very, very hard. But if I took that invisibility cloak off, how easy could you find me?

Douglass: Probably a lot easier.

Campbell: Yeah, I'd be right there. You would see me immediately. Essentially, that's what CAR-T is doing. The immune system, its job is to go out, seek out infections, seek out cancer cells, and kill them. Stop them dead in their tracks. But cancer is a tricky, tricky disease, and it knows how to evade detection. Well, what research has discovered is, if they take T-cells out of a patient's body, send them off to a separate facility where scientists can work some magic on them and reengineer them in a certain way, then send those cells back to the patient, put them inside the body, you've removed the invisibility cloak, and you've done that by telling the T-cells specifically to go after a protein called CD19 that is expressed primarily on the surface of these cancer cells. So, you've basically given them the mailing address -- go seek out and find and destroy these cancer cells.

And I think that's why people are so excited about the potential behind this. You've now unleashed the power of the human body again to find and cure a disease. And it's just pretty remarkable, especially when you're talking about non-Hodgkin lymphoma in the patient study group that was evaluated that's backing up Axi-Cel. This was a very heavily pretreated group of patients with a very poor prognosis, and yet you had overall response rates above 80%, and you had complete response rates above 50%, which just absolutely trounces the historical norms for this patient population.

Douglass: Yeah. What's interesting is, when you look at Kymriah and also Axi-Cel, these are currently being pitched in different cancers. But, like we've seen with other immuno-oncology, particularly with Merck and Bristol-Myers, what you will probably see is both Novartis and Gilead, assuming approval for Gilead, taking these drugs and trying to put them in other cancer indications, eventually at a point where they start competing directly with each other. And that's where things will get interesting.

Campbell: Yeah, you talking about the investing pros and cons relating to this deal now. Gilead is spending almost $12 billion of cash on a company, what's the competitive outlook look like? How much of a first-mover advantage will they have in Axi-Cel if it wins approval?

Douglass: Sure. And certainly they'll have it in some of these advanced non-Hodgkin's lymphomas, just like Novartis now has it in certain acute lymphoblastic leukemia.

Campbell: Yeah, ALL, pediatric ALL.

Douglass: Yeah. So, the other question will be, what kind of money are these drugs expected to make? Analysts have estimated that Axi-Cel, most of the estimates I've seen are around $2 billion per year at peak annual sales. That means Gilead spent up quite a bit, and there [are] some question marks around that $2 billion number.

Campbell: Well, but, that doesn't shock me too much. We've seen some deals being done at seven, eight times projected sales, or even higher in the case of, say, Medivation and Pfizer. That was 14X Medivation's take on its drug.

Douglass: Sure. And I would say, for the drug on its own, I would think that was a little bit expensive. But when you consider the broader pipeline and the fact that Gilead clearly sees this as a long put, then I think there's a lot more opportunity here, particularly when you consider the fact that Gilead is intending to roll Kite into the existing organization as its own division. They basically intend to, at least that's what they've indicated so far, is that they basically just want to take Kite, make it a division of Gilead, and move on, just give them the tools they need to win.

Campbell: So smart. So smart, right, Michael? Because you don't want to be cutting to the bone a platform that's in its early stages. And it's so complex, CAR-T is not easy, this is not a small molecule drug. This is a complex therapy, and it costs a ton to make this therapy. There's just so many moving pieces. So, it's smart!

Douglass: Yeah. Speaking of smart, let's also talk about the timing a little bit. We've already talked about the really big stuff. They managed to do this before the FDA approved Novartis' Kymriah. But, also, let's face it, biotech M&A in general has been down year over year. A lot of that is due to tax repatriation uncertainty. But, here's a number that we'll put to this. Q1 of 2016, there were 104 pharma life sciences deals. In Q1 of 2017, 82. Q2 of 2016, 96. In Q2 of 2017, 67. So, certainly, seeing some of that deal volume decline, to me, at least, indicates that there's a possibility that Gilead got a better deal than they would have otherwise, even leaving aside the fact that Kymriah was approved today.

Campbell: Yeah. What's interesting to me, there's so many different pieces to this puzzle, but I find it really interesting to me that earlier this year, Gilead hired its head of oncology, Alessandro Riva, who actually came from Novartis, and at Novartis was responsible for ushering its CAR-T program along. So, I suppose that was maybe a hint in the direction that Gilead would be heading. I don't know, they probably didn't want to wait too long, because they knew there was a good chance of likelihood of an approval. You're right, though, that they could have ended up paying much more. We don't know. But even with the amount of money that they are paying, Michael, they have so much cash left, they could go out and buy two or three other companies. I guess that's another investing takeaway, that's probably why you've seen a lot of these other clinical-stage cancer drug stocks rally after the news.

Douglass: Yeah, Juno (NASDAQ: JUNO) has been on an absolute tear, and that's the direct competitor to Kite, by the way. So, I think there's a lot to unpack, there. Let's get into their M&A strategy in just a minute. First, I wanted to take a moment to talk about The Motley Fool Investment Guide. This book is the succinct summary of our investing philosophy. In my personal opinion, it should be required reading for anyone interested in long-term investing. The third edition features a big update from the second edition and a new section on options, and Tom and David's philosophy around that. Check it out at book.fool.com and pre-order your copy before it goes on sale on September 5. Again, that's book.fool.com, The Motley Fool Investment Guide. Thanks.

Alright, Todd, let's turn back to Gilead's overall M&A strategy. This is really the first big, splashy deal they've done since the Pharmasset acquisition they did in 2011 -- which was for a similar price point, by the way, it was $11 billion, and this deal is $11.9.

Campbell: Yeah, they had good luck with it that time around. Maybe they were like, hey, $11 billion, that's a good price, let's buy that. What's interesting, Michael, this is an even more advanced drug than that one, right?

Douglass: Yes, it's completed phase 3, whereas Sofosbuvir, which was the cornerstone molecule for hepatitis C that Gilead acquired when it bought Pharmasset, was only entering phase 3.

Campbell: Yeah. And Gilead has a history of always wanting to be the dominant player in a particular indication. They've done it in HIV, where they have 80% market share. They've done it in hepatitis C, where they have 90% market share thanks to that acquisition of Pharmasset back in 2011, or whenever the heck it was. Now, with Kite, they're hoping again to have a platform that's going to allow them to dominate in an indication, and boy is it a huge indication. Oncology drug sales exceeded $100 billion globally -- $100 billion!

Douglass: Yeah. For for me, it's not likely that Gilead is going to become the dominant cancer player, or anything like that. But, it's very clear that Gilead thinks that cellular therapy, this CAR-T that we've been talking about, is really one of the big futures, if not the big future, and that they view this platform just like Sofosbuvir was with Pharmasset and hepatitis C, their cornerstone for cancer. I'll actually quote from CEO John Milligan, who said in cancer, I quote, "Cellular therapy is going to be really the cornerstone of what we're doing going forward." And that's interesting, because Gilead has been signaling for a while that they wanted to get involved in cancer. They've made some attempts at cancer drugs in the past, some of which haven't panned out that well -- Zydelig being the big example.

Campbell: I'll go on record saying that was a flop. [laughs] 

Douglass: Yep.

Campbell: $35 million in sales last quarter. $120 million, some companies would like that, but for Gilead, that's a rounding error.

Douglass: Right, and that was their attempt to usher in a drug for chronic lymphocytic leukemia, and it just did not do well, and that was because of a nasty side-effect profile. So, this is really their opportunity, hopefully, to build the cornerstone of a platform that can really help launch them in a big way into cancer. 

Campbell: Michael, I suppose we should probably throw some caveats in here. We're excited about this deal because we know that Kite, being with both its CAR-T platform and it also has another platform that may allow it to target solid tumor cancers, which, wow, if you can develop a new platform for attacking a disease like non small-cell lung cancer, then you're talking billions and billions of dollars of sales opportunity there. At the same time, cancer drug development is incredibly hard, and there's significant risks. And we've seen already with Juno Therapeutics that these trials can get derailed quite quickly. We have patient deaths because of brain swelling in the Juno trials that caused it to get halted, and that still has the same target mechanism of action as Novartis' and Kite's drugs. You've got the risk of trial failure, you've got the risk of death as this rolls out to more patients, what side effects may pop up, we don't know. Then, you've got the trials that are probably going on, will those succeed or end up getting sidelined? So, there are some risks, here. And hopefully, hopefully for patients and investors, five years from now, we'll be looking back on this and saying, "Wow, what a phenomenal buy that was!"

Douglass: Sure. With that in mind, let's talk about what we actually think of the deal here now. Basically, do we like it as Gilead shareholders? Are we pleased, are we thrilled, are we scared, is this terrible? I'll go ahead and lead off because I'm posing the question, so it's only fair that I should eat my own cooking, here. I like the deal. I like it a lot. I do think it's a fairly expensive deal, but frankly, every time Gilead has done an acquisition, someone, a lot of people, have ended up accusing them of overpaying. And yet, it never has, it seems, just about. So, I'm a big fan of this deal. I think this gives them the platform that they need to make that longer put into CAR-T. This isn't about one drug. This is about a platform, this is about building a cornerstone set of therapies that can really enable them to carve out a big, dominant area in some of these really difficult-to-treat cancers. And, for me, I think it's going to do great things for shareholders, and I think it's going to do great things for the treatment of cancer. And, personally, that, for me, is the win-win.

Campbell: You know, Michael, I think a lot of the success or failure of this deal and whether or not I like it is going to be determined by how quickly do oncologists approach this for this tough-to-treat population? About 50% of Non-Hodgkin's patients can be cured by existing therapies. You're talking about a relatively small patient population out the gate of a few thousand people. A lot of it is going to [depend] on how it's priced. Some people say this could cost, what, $600,000?

Douglass: Which is, the price thing is actually a little bit frustrating, because Novartis is supposed to announce prices later today for Kymriah, and we just don't know right now at filming what they're going to do. Will Gilead price a little bit below that, a little bit above that, the same? We don't know, but that will at least give us a ballpark.

Campbell: Right, and how will payers view that, and when you go overseas, how will countries like England that NICE uses its metrics to try to figure out what the cost should be for medicines, how that will all shake out. There are some question marks, here, but overall, I think you summarized it very nicely. This gives them a platform that they can use to build an oncology franchise, and that's way more important than going out and buying one single drug as one company. And I think that's very important. And, you know what, yeah, it was expensive at $11.9 billion, but it's not like this is breaking the bank. The company still has $24 billion, and cash grew by $2.5 billion last quarter alone. So, there's plenty of money still kicking around to do other deals. So, I think this is a risky deal, but I think the reward justifies it, and I think it has a really good chance to be long-term positive for investors.

Douglass: The other thing that I'll throw out there is, Gilead's management has made clear that this isn't necessarily their only deal in oncology, that they are willing to buy up additional drugs, potentially other companies, who knows. But, they're willing to invest both in external M&A and also in internal R&D to make sure that they retain leadership in this area. And if that means they have to buy other companies, they've signaled that they're basically willing to do that, to make sure that Kite as Gilead retains its leadership in cancer. So, that's a very good sign for future M&A for Gilead shareholders. I think, as shareholders, we can be confident that a lot of that cash is going to get used in the future for maintaining that leadership. And in a lot of ways, that makes sense. More better treatments, new generations of drugs that can really help uncloak cancer and really strengthen the body's defenses are a win-win, both for shareholders and humanity.

Campbell: Totally agree with all of that, Michael, that sums it up really nicely!

Douglass: Well, thank you! By the way, I had forgotten to mention earlier, when I was talking about that M&A deal volume, that was data from PWC and S&P Capital IQ. So, thanks to PWC and Capital IQ. That's it for this week's Healthcare show. Questions, comments, you can always reach us at industryfocus@fool.com.

As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. This show is produced by Austin Morgan. For Todd Campbell, I'm Michael Douglass. Thanks for listening and Fool on!

Michael Douglass owns shares of Gilead Sciences. Todd Campbell owns shares of Gilead Sciences and Pfizer. The Motley Fool owns shares of and recommends Gilead Sciences. The Motley Fool recommends Juno Therapeutics. The Motley Fool has a disclosure policy.