When Illumina (ILMN 0.30%) announced it had agreed to acquire Pacific Biosciences (PACB 7.19%) in November 2018, the already concentrated world of DNA sequencing was bracing for further consolidation. The $1.2 billion acquisition promised to combine the world's leading technology platform for reading short fragments of DNA (short-read) with the world's most proven technology platform for reading long fragments of genetic material (long-read). It would also give the $46 billion sequencing titan near-full control of the global $8 billion market opportunity by 2022.
While Illumina has been built on acquisitions, investors weren't off base for wondering if gobbling up Pacific Biosciences would make a little too much noise in the halls of trade authorities across the globe. Now they have an answer: The United Kingdom's Competition and Markets Authority (CMA) has opened an investigation into the transaction.
The inquiry is still in the earliest stages of development and the situation is complicated, but it's the first sign to investors that the acquisition -- originally expected to close in mid-2019 -- could come under increased scrutiny from regulators.
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What's at stake in the acquisition?
On paper, the acquisition would allow Illumina to absolutely dominate the global DNA sequencing market. It's already pretty dominant today. The business reported $3.3 billion in revenue last year and held an estimated 77% global market share the year before. But that's all courtesy of short-read technology, which chops up strands of DNA into tiny fragments and reads the pieces as they're reassembled.
Short-read is useful for many sequencing applications, but cannot read an estimated 9% of the human genome, suffers on certain accuracy metrics, and isn't ideal for various non-human organisms. Researchers are increasingly craving more detailed genomic information provided by long-read technologies, which can peer into regions the genome short-read is blind to. The problem has always been the cost.
Consider that Pacific Biosciences could use its novel long-read technology platform to sequence a human genome for $12,000 (expressed as the cost of the chemical reagents to run its machines) in early 2018. But the company promised technology upgrades would nudge that down to $7,000 in late 2018 and all the way down to $1,000 in early 2019. If successful, the global long-read market could jump to $2.5 billion in 2022 from just $660 million in 2017. Over the really long term, cheap and accurate long-read tech could make short-read close to obsolete.
That road map and growth potential (and ability to stave off competition down the road) was convincing enough for Illumina, which can throw large sums of capital at the cost problem to help long-read technology meet its long-term goals -- if trade authorities sign off on the deal, of course.
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Will the United Kingdom torpedo the acquisition?
The CMA of the United Kingdom opened an investigation into the Illumina and Pacific Biosciences deal on April 17. Under the Enterprise Act 2002, the body has the authority to review mergers in which "the two merging companies together supply or acquire at least 25% of any particular goods or services supplied in the U.K." By definition, any acquisition by Illumina would clear that bar, and those of trade authorities in most other countries.
So why is the United Kingdom the only country putting the acquisition under the microscope? Well, the U.K. is home to Oxford Nanopore Technologies, which is developing a novel long-read sequencing platform of its own utilizing nanopore technology. There are numerous advantages to nanopore sequencing on paper, but it has to overcome cost and accuracy concerns before translating that into a market advantage.
That said, the business is quickly and quietly making progress on its promise to enable a sub-$800 human genome. By the way, that's the straight-up cost, whereas Illumina uses depreciation in its per-genome cost calculation, and Pacific Biosciences only reports consumables expense. In fact, Oxford Nanopore's latest technology upgrade, now available in an early access program, has achieved the same level of accuracy that prompted Illumina to acquire Pacific Biosciences in the first place: 99.999% consensus accuracy. The quick rise of nanopore sequencing was likely a significant factor in the acquisition -- and that's true for a very different reason.
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This is a developing (and complicated) story
While it makes sense for the United Kingdom to protect its homegrown DNA sequencing power-to-be, the antitrust issue is complicated by the nation's current membership in the European Union. The CMA can only investigate mergers if the European Commission doesn't do so on behalf of the bloc, which suggests the European Union has yet to dig into the transaction. It all leaves more questions than answers for investors.
Could Illumina appeal to the European Commission to open an investigation into its own acquisition of Pacific Biosciences in an attempt to nix the CMA inquiry? How does Brexit affect the authority of the United Kingdom relative to the European Union? Can the CMA delay the merger past Brexit? After all, the merger is expected to close in mid-2019, while Brexit is now delayed to the end of October 2019. Will other trade authorities step in to erect barriers to the acquisition?
This is all very complicated. If the acquisition ends up getting nixed over competition concerns, then investors will be forced to regroup and reassess. Illumina would likely be fine in the near term, but will have to position itself for the inevitable rise of long-read tech, including nanopore approaches.
Pacific Biosciences might not be so lucky, as it has yet to deliver on its previously announced technology timeline for lowering sequencing costs. And everyone will be forced to keep an even closer eye on Oxford Nanopore, which threatens to shake up the entire industry.
