U.S. stocks are lower on Thursday afternoon, with the Dow Jones Industrial Average (DJINDICES: ^DJI) and the S&P 500 (SNPINDEX: ^GSPC) down 1.14% and down 1.25%, respectively, at 1 p.m. ET. Shares of pharmaceuticals Pfizer and Allergan PLC are displaying similar losses (down 0.94% and 1.38%, respectively).
Leerink Partners, an investment bank specializing in the healthcare sector, published a report on Tuesday that looks at which of Pfizer's or Allergan's shareholders are getting the better deal in their proposed $160 billion tie-up. Their conclusion ought to stoke concerns about the merits of the deal for Pfizer's owners.
Leerink puts the value of the post-merger company at $37 to $38 per share based on a sum-of-the-parts valuation, which is right in line with the company's $37 price target. According to the analyst, this suggests "most of the near-term value captured by the deal is going to AGN [Allergan] shareholders."
In pursuing Allergan, Pfizer was manifestly motivated to complete a deal that would enable it to transfer its domicile to a lower tax jurisdiction (a so-called "corporate inversion"). There was a very short list of potential targets large enough to ensure that Pfizer shareholders end up with fewer than 60% of the shares of the new company, a requirement in order to achieve the optimal tax treatment.
The circle narrows
Roughly speaking, using today's market capitalization for Pfizer and excluding the value of synergies, the target would need to be worth at least $134 billion. As of today, there are only six pharmaceutical companies in the world other than Pfizer that meet that criterion. Actually, with a market value of $124 billion, Allergan doesn't meet that criterion today (don't forget those synergies, though!).
The list of targets got shorter in May, when Pfizer abandoned its proposed $118 billion acquisition of AstraZeneca plc this year, a deal that offered the same benefit. (The current proposed deal has Pfizer shareholders owning roughly 56% of the combined company.)
Pfizer's single-minded ambition to carry out an inversion has forced management to take their eyes off other key considerations in assessing the attractiveness of a mega-deal.
From serial acquirer to serial offender
It was not always thus. This column has previously referred to the Boston Consulting Group's 2004 report, Growing Through Acquisitions: The Successful Acquisition Record of Acquisitive Growth Strategies, which identifies Pfizer as a model of the successful acquirer, writing that "Pfizer is perhaps the most dramatic example in the pharmaceutical industry of a company that has built a strong competitive position and substantial shareholder value, at least in part by means of aggressive acquisition."
A successful acquisition-driven growth strategy ultimately sows the seeds of its failure, as the acquiring company is forced to pursue larger and larger targets to sustain it. At some point, the size imperative crowds out other considerations in evaluating potential transactions. In other words, size matters...too much. That was the case with the $68 billion acquisition of Wyeth in 2009, and history is at risk of repeating itself with this latest deal.