Endo International Plc; Market Cap (as of 13/03/2015): $15.4bn

Salix Pharmaceuticals Ltd; Market Cap (as of 13/03/2015): $10.8bn

Valeant Pharmaceuticals Intl, Inc.; Market Cap (as of 13/03/2015): $63.9bn

The pharmaceutical sector has turned into a war-zone again with of the bidding war between two aggressive dealmakers and two ex-colleagues: Mr. Rajiv De Silva of Endo and Mr. Michael Pearson of Valeant. Endo International Plc (NASDAQ: ENDP), a company focused on generics, branded pharmaceuticals and medical devices, made a bid to Salix Pharmaceuticals Ltd (NASDAQ: SLXP) under which the company is offering $175 per share in cash and stock, valuing Salix at approximately $11.2 bn.

Endo: Who is the newcomer?

Headquartered in Ireland, Endo has carried out its operations in four main business units: U.S. Branded Pharmaceuticals, U.S. Generic Pharmaceuticals, International Pharmaceuticals and Devices. Especially after the appointment of the new CEO Mr. Rajic De Silva, who was an executive in Valeant and served as COO and president under Mr. Michael Pearson, the company has showed its determination to capture growth by acquiring or licensing rights to additional products and regularly evaluating selective acquisition and license opportunities. Since February of 2013, the month Mr. De Silva took charge as new CEO at Endo, the company has spent more than $4 billion in acquisitions of Boca Pharmacal, Paladin Labs., Grupo Farmaceutico Somar, DAVA Pharmaceuticals, Inc. and Auxilium Pharmaceuticals.

Similar to Valeant, Endo is also a proponent of efficiency and cost cuts. Costs were a driver in the $2.6bn acquisition of Auxilium, where Mr. Rajic De Silva stated that Endo follows low risk research and therefore lower cost and lower risk drugs.

Valeant: Who is the original bidder?

Valeant, the serial pharma dealmaker entered into a definitive agreement with Salix Pharmaceuticals on February 22 to acquire all outstanding common stock of Salix for US$158 per share or approximately $10.2 billion in an all cash transaction (link to our coverage of the deal). Valeant is on an acquisition mission since it fell short in the bidding war for Allergan against Actavis – the reason being a higher offer from the opponent. Valeant’s largest acquisition in years was in 2013 acquiring Bausch & Lomb Inc. for $11.6bn, to compete on the global eye care market. As with Salix deal, cost cutting was of the essence with $800 projected savings in the following year to the acquisition.

The bidding arena

Just a few weeks ago five companies were bidding for Salix. One of those companies was Endo offering $150 per share which fell short of Valeant’s $158 per share offer. On Wednesday March 11, Endo made a new offer that came as a surprise since Valeant and Salix had already signed the agreement about two weeks ago. Endo is now bidding $175 a share that is to be paid 75% in stock. This left investors and analysts wondering whether Valeant was going to wait for Salix’s response to this new offer or choose to increase its offer before Salix’s shareholders’ meeting to be held on Saturday March 14. Finally, Valeant decided to make a counterbid of more than 160$ a share. These two offers need to be considered carefully as each brings advantages and disadvantages.

Senza titolo

The chart above shows the evolution of Salix since it started searching for buyers last year. After this Friday’s announcement Salix’s stock closed at $169.4 – in between $175 form Endo and over $160 but reportedly lower than $170 counterbid from Valeant. This shows that many investors believe in the plausibility of the Endo’s proposal and a bid closer to $170 from Valeant.

Comparing the offers

If Salix wants to consider Endo’s offer it would have to go through a meticulous due diligence process since Endo’s offer is 75% in stock. It is higher in value than Valeant’s offer and Salix’s shareholders would get a more favorable tax treatment as the payment of taxes is delayed until they decide to sell their shareholdings. This deal would give Salix’s shareholders 40% in the combined company, a material equity component. On the other hand, a potential problem for Salix’s shareholders is that Endo, unlike Valeant, has to secure approval of its shareholders through shareholder vote that adds uncertainty to the deal. Moreover, provisions of Salix’s agreement with Valeant prevent it from quickly singing with Endo. Salix has to give 4 business days’ notice to Valeant and has to provide Valeant the proposed deal documents and thus give it a chance to increase its offer. Under a SEC rule, a tender offer like Valeant’s must remain open for 10 business days from the last price increase. There is also a breakup fee of $365m that Endo would become liable for. This all adds to the uncertainty of the deal under Endo’s proposal. Its offer has however intrigued Mr. Paulson, the hedge fund manager whose investment vehicle is the largest investor in Salix.

Valeant’s offer is difficult to refuse since it’s a 100% cash offer. For Salix’s shareholders, this means a clear exit and certainty in value.  Valeant is financing its $10bn bid with $22.2bn of bonds and bank loans. It has already raised $5.5bn in loans and its $9.6bn bond offering was a success. The additional cash that Valeant needs to raise to be able to pay more than 160$ a share is reported to come from issuing preferred shares to the existing shareholders. That way of raising more cash would prevent possible credit rating downgrade. Valeant received the support from its top shareholders, including Pershing Square and ValueAct Capital who will also receive the issuance of the new preferred shares.

One of the ways Valeant is planning to extract value from this deal is the decrease in taxes. Salix currently pays about 30% while Valeant’s tax rate is only 5%. Endo is able to provide similar tax efficiencies since it managed to strike a tax inversion deal – acquiring Paladin in 2013 and incorporating in Ireland.

Both offers are argued to be accretive by the acquirer’ managers and similar in magnitude:  15%-20% for Valeant in the coming 2 years and 15%-20% for Endo (and subsequently Salix) shareholders by 2017.

NOTE: You can find attached the analysis of EPS Accretion/Dilution that we have carried out. It confirms estimates in the Valeant case, while due to lack of available information and data is not a real representation of the Endo case, though useful for a comparative analysis and educational purposes.

Outlook

As the newsletter comes out on the weekend of March 14-15, the decision of the Board of Salix is yet unknown and the battle may still continue. Now that Valeant expressed its willingness to go over $160 per share, we believe it makes sense for the Board to haggle and extract more value for its shareholders. As many case studies show, the obvious winners in a bidding war are the target’s shareholders.

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