Gilead's Smart Risk

Gilead Sciences' (NASDAQ:GILD) acquisition party rolls on. In its biggest deal yet, the company announced today that it will purchase fellow drug developer Myogen (NASDAQ:MYOG) for $2.5 billion in cash. Gilead's stock is taking a hit at the moment, perhaps because of worry about the acquisition's price tag. However, investors can rest assured that this deal rests on sound thinking.

For one thing, while the purchase is a major step for Gilead, the Calif.-based company has had lots of green on its books for a while, so it has the financial flexibility to get the deal done. As of June 30, the firm had $3.3 billion in cash. Granted, the Myogen purchase probably will involve Gilead taking on debt, but given that for the six months ended June 30, the company generated over $600 million in free cash flow, it should be able to shoulder the burden.

More important, though, the deal could provide Gilead with some much-needed diversification. For the first six months of this year, its three AIDS drugs generated 67% of the company's revenue. As for product sales alone, AIDS medications made up 80% of Gilead's total.

Myogen, meanwhile, has two promising drugs in late-stage trials in the hypertension area, and both have the potential to be big earners. The one furthest along in development, ambrisentan, a potential treatment for pulmonary arterial hypertension, is in phase 3 trials. Analysts are putting peak annual sales for this medication at as much as $800 million. Darusentan, the second candidate, has achieved positive results in phase 2 trials as a possible option for hard-to-treat hypertension; the drug is expected to enter phase 3 studies soon. This molecule could bring in as much as $1 billion in yearly sales.

Admittedly, it's certainly possible that both of Myogen's possibilities could flame out. Frankly, though, this deal is a well-timed risk. Gilead's earnings have been sweetened over the past year by hefty royalties from Tamiflu, which has seen heavy demand as one of the few possible treatments for avian flu. But Gilead's Tamiflu boom isn't likely to be repeated. Roche has said it has ample supplies of the medicine in case of an influenza breakout and that it is processing orders for stockpiles. For Gilead, either one of Myogen's candidates would help keep the growth going.

For related content, check out these stories:

• Gilead's Acquisitive Mood
• Gilead's Got Cash Up to the Gills

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Fool contributor Brian Gorman does not own shares in any of the companies mentioned. The Fool has a disclosure policy.