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News that DepoMed, Inc. (ASRT -0.99%) might entertain offers from potential acquirers sent shares in the company soaring last Friday. Could shares continue to go higher? Or is the company's current $1.5 billion market cap fair? Read on to get a better idea of what an acquirer would get in a DepoMed acquisition and what they might be willing to pay. 

Jousting with management

After being out-bid by DepoMed in its attempt to buy Johnson & Johnson's opioid pain medicine Nucynta last spring, competitor Horizon Pharma crunched the numbers and tried to buy DepoMed last summer.

Horizon Pharma made DepoMed three offers, including a final $33 per share bid, before DepoMed's board finally rejected them. However, growing concern over opioid abuse has caused DepoMed's shares to decline since then, and that's got activist investors lobbying for the company to change its mind and embrace a deal.

Jeffrey Smith, who is at the helm of Starboard Value L.P., an investment management partnership, has been especially critical of DepoMed's board. In April, Starboard Value L.P. disclosed a nearly 10% stake in DepoMed, and since then, Smith has sent no fewer than three letters to shareholders calling for changes to DepoMed's board of directors. 

What's in play?

DepoMed's crown jewel is Nucynta, a nine-figure pain medication that's DepoMed's best-selling drug. After acquiring Nucynta from J&J last year, the company relaunched it with a new price and a tripling of its sales force, and those efforts have paid off with spiking sales and prescription volume. In Q2, Nucynta's sales totaled $72 million, and prescription volume for Nucynta ER, the extended-release version, were at a record high in June.

DepoMed recorded $274 million in Nucynta sales in the past year, up 59% from the amount J&J hauled in from the drug during the comparable period the year before. Second-quarter prescriptions of Nucynta ER finished June up 26% year over year, and prescriptions for Nucynta's immediate release version have started growing again for the first time since 2011.

Clearly, DepoMed's promotion strategy is resonating with prescribers and patients, but management still thinks there's more runway ahead. The company hasn't increased Nucynta's price yet this year, and if it does, that could add some momentum into year end. More importantly, Nucynta's market share of the pain market remains tiny, suggesting it could make big inroads still against market share leader Oxycontin. 

In addition to Nucynta, an acquirer would also get shingles pain medicine Gralise, with annualized sales of $96 million, migraine drug Cambia, with $30 million in annualized sales, fentanyl spray Lazenda, with $25 million in annualized sales, and pain medicine Zipsor, which is selling at a $25 million annualized clip. 

What's it worth?

It's anyone's guess what price DepoMed could fetch in an outright bidding war, but it wouldn't be unreasonable to think that any deal that gets done would happen at a price that's north of where shares are trading today.

The company has stepped back from prior projections for $500 million in Nucynta sales by 2018, but it hasn't abandoned projections that Nucynta has a billion-dollar per year blockbuster sales potential. In July, DepoMed measured Nucynta's market share at a paltry 1.95%. 

Since Nucynta's prescription volume and sales are growing while competitors are struggling, it's not hard to see why management's so bullish -- and an acquirer might be willing to pay up, especially if the company can demonstrate that Nucynta is a better and safer alternative to oxycontin.

DepoMed reports that only 5% of Nucynta patients experience withdrawal following abrupt discontinuation, and evidence suggests Nucynta isn't subject to the same level of dose-creep as other opioids, a sign of opioid misuse. Nucynta also maintains preferred tier 2 status on both Express Scripts and CVS Health's drug formularies, suggesting that pharmacy benefit managers believe it offers good value.

Assuming an acquirer is willing to pay three to five times sales, Nucynta's current sales pace suggests Nucynta is worth at least $1.2 billion all by itself. Applying a similar multiple to the company's other drugs, which are selling at an annualized $176 million clip, suggests an acquirer could be willing to pay an additional $500 million for them, too. Combine those figures together, and we get a starting point of $1.7 billion, which is about 12% higher than shares are currently trading.

Clarity coming

An acquirer, however, could be willing to pay much more than that if a patent decision expected later this month goes DepoMed's way. If management nets a favorable patent ruling, Nucynta will be protected until 2029, if not, Nucynta could lose patent protection in 2023. 

Since a patent win could provide clarity deep into the next decade, an acquirer might be willing to boost the multiple to sales to reflect a much higher peak sales forecast for the drug. If that's the case, an offer north of $2 billion wouldn't seem crazy to me. 

Nevertheless, there's always a risk that drugmakers will stay on the sidelines because of concerns over the opioid abuse problem, and if patents don't go DepoMed's way, no suitors may emerge. For that reason, investors shouldn't buy DepoMed shares simply because they think it may get bought. Instead, they should focus on DepoMed's potential as a stand-alone company. Since the company is well-capitalized and already profitable (industry watchers expect EPS to grow from $1.21 this year to $1.49 next year), I think a good argument can be made for buying this company regardless of the M&A potential -- especially if patents are upheld.