Pfizer-AstraZeneca marriage divides opinion
US pharma company’s cash pile introduces doubt over any deal
A scientist prepares protein samples for analysis in a lab at the Institute of Cancer Research in Sutton in this July 15, 2013 file photo. Instead of testing one drug at a time, a novel lung cancer study announced on April 17, 2014 will allow British researchers to test up to 14 drugs from AstraZeneca and Pfizer at the same time within one trial. The National Lung Matrix trial, which is expected to open in July or August at centres across Britain, is part of a growing trend in cancer research to remodel the way new drugs are tested to keep up with the age of genomic medicine - fine-tuning treatments to the genetic profile of patients. REUTERS/Stefan Wermuth/Files (BRITAIN - Tags: HEALTH SCIENCE TECHNOLOGY DRUGS SOCIETY)©Reuters
Opinion is divided on the merits of Pfizer’s £60bn approach to AstraZeneca – strategic, financial and political.
For defenders of the putative deal, it will allow Pfizer to bulk up promising or new areas of its portfolio while taking advantage of a comparatively favourable tax regime in the UK. The combined company would keep headquarters in the UK as well as the US. British intellectual property would be protected, indeed nurtured by Pfizer, incentivised by the government’s “patent box” of tax breaks for pharmaceutical companies.
For critics, promised savings in costs and boosts to revenues are as yet too uncertain to quantify. Pfizer’s record on job retention in the UK is not great – two years ago 2,000 people lost their jobs at its Sandwich research and development centre in Kent.
Cost savings from its last big deal – the takeover of Wyeth in 2009 – are difficult to measure, as is so often the case for anyone trying to analyse the consequences of a deal. But those savings it has delivered appear to have been mainly via cuts to jobs and the R&D budget, hardly a good augur for AstraZeneca.
It is notoriously difficult for investors to hold acquirers to their pre-deal savings promises, let alone measure them in the years after consummation. The tax benefits of a Pfizer-AstraZeneca marriage certainly exist and it is easy to see why they are tempting for Pfizer’s finance team. They would not be the first to be so swayed. Shifting tax domicile to Ireland or elsewhere in Europe has become a well-worn path for US pharma companies. And the rationale for other recent deals – the $48bn hostile takeover approach by Valeant Pharmaceuticals for Allergan or the troubled $35bn merger of France’s Publicis by Omnicom – has also been driven to a significant degree by tax.
But tax benefits should not be confused with a good underlying business argument for a deal that would underpin its long-term success. There is a second tax issue: Pfizer will be able to pay for a substantial proportion of the cash element of the proposed price from the estimated $30bn of cash that it holds outside the US. Like other US companies, Pfizer is unwilling to pay the tax it would incur on repatriating this money and is thus incentivised to find another use for it.
The existence of this cash pile does not in itself negate Pfizer’s arguments in favour of the deal. But it certainly introduces room for doubt. Before news of the approach to AstraZeneca surfaced, analysts had been suggesting that other companies or assets provided a more logical fit for Pfizer – Bristol-Myers, for example, would give Pfizer a better entry into immuno-oncology than AstraZeneca, according to US broker Jefferies.
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And the recent history of US companies flush with cash making sorties into Europe gives little grounds for great confidence either. HP, when it splashed out a generous £11bn for the UK software maker Autonomy in 2011, funded the cost partly from its offshore cash. This relatively painless source of financing may well have contributed both to HP’s willingness to overpay as well as its apparent lack of due diligence before the deal – it took a well-documented $5bn writedown on Autonomy in 2012. And Autonomy wasn’t the only ill-fated deal HP was tempted into by a fat cash cushion. It spent half its $63bn of cash flow between 2007 and 2012 on acquisitions – remember Palm handheld computers?
US companies held $1.64tn of cash at the end of 2013, according to Moody’s, of which nearly $950bn was estimated to be overseas. The bulk of this is held by just 20 companies, of which technology companies such as Apple and Microsoft account for the largest share, but pharma companies own the second largest share. Although many do not report their offshore cash holdings, it is a safe bet that the current frenzy of M&A in the pharmaceutical sector is being greatly encouraged by the US rules on taxation of repatriated profits.
The distortion to decision-making that this introduces is difficult to measure. But investors should be even more wary than usual in weighing up the merits of proposed deals. When companies have a lot of cash shareholders either want it back or want management to do something with it. Since cash earns so little, in theory anything else a company does with it ought to earn a better return. But the M&A battlefield is littered with the corpses of pharma megadeals. With so much cash lying idle abroad, it makes the decision to buy less fraught and less painful. And pain is necessary when contemplating M&A.