Agouron Deal Signals Big Pharma Is Warming to Biotech

It's not just momentum investors who are interested in biotech. Big Pharma is as well.

But one thing is clear: Big Pharma isn't willing to pay too much. That's one lesson from Warner-Lambert's (WLA Quote - Cramer on WLA - Stock Picks) $2.1 billion agreement to buy Agouron (AGPH Quote - Cramer on AGPH - Stock Picks), which sells the No. 1 protease inhibitor for AIDS, Viracept.

At around 60 a share, the stock-swap deal offers a modest premium to Agouron's Tuesday closing price of 56 13/16. Agouron stock yesterday ran up 3 21/32, or nearly 7%, ahead of news of the deal. However, the La Jolla, Calif., firm's shares more than tripled between Aug. 31 and year-end, mostly on takeover scuttlebutt and surging interest in big and medium biotechs.

Warner sought to acquire Agouron because it has ongoing research in AIDS, virology and cancer, areas in which Warner-Lambert has virtually no presence. Agouron also has considerable expertise in structure-based drug design, which is the science of chemically altering the structure of molecules to make a compound safer or more potent.

Warner-Lambert offered a small premium to Agouron's recent price despite the fact that, according to people familiar with the situation, DuPont (DD Quote - Cramer on DD - Stock Picks) and Pharmacia & Upjohn (PNU Quote - Cramer on PNU - Stock Picks) both expressed interest in buying Agouron. DuPont bid 44 for Agouron in the fall, but Agouron walked away, say these people. Talks broke off in November.

Representatives of DuPont and Pharmacia weren't immediately available to comment on that account. Agouron officials didn't return a call seeking comment on the deal, but in a media conference call, CEO Peter Johnson declined to comment specifically on whether there were other bidders. He did say, "It's certainly safe to say that there was no campaign to shop Agouron around."

The takeout is easily the most significant in the history of the young biotech industry and could signal the start of a wave of consolidation.

"This Agouron deal is tremendous. It is a watershed event in biotech," says Mitch Silber, a partner at biotech consultant Carson Group. "A Big Pharma has not bought out a biotech completely since Glaxo bought out Affymax in 1995. It's been so long that investors basically had given up on this possibility. Now it's real and I bet any companies with late-stage products that are not partnered will fly on the open."

Glaxo (GLX Quote - Cramer on GLX - Stock Picks) bought drug-discovery company Affymax for over $500 million in early 1995.

The deal ratifies the impressive move that investors have made into the big- and medium-capitalization biotech stocks since September, when the bear market in the sector reached its nadir: The Amex Biotech Index is up 68% from its Sept. 1 recent low. The agreement also signals that Big Pharma, for the first time, may be interested in buying whole biotech companies, instead of just taking stakes in them or cherry-picking the best drugs in the smaller companies' pipelines.

Indeed, on other occasions, drug companies have simply taken large stakes in biotechs, such as when Ciba-Geigy in 1994 acquired a 49.9% stake in Chiron (CHIR Quote - Cramer on CHIR - Stock Picks) for $2.1 billion. American Home Products (AHP Quote - Cramer on AHP - Stock Picks) took a majority stake in Genetics Institute before buying the rest in late 1996.

The Agouron acquisition could signal that Warner-Lambert thinks its stock is richly valued and that now is time to make purchases. The lack of a significant premium may mean that while drug companies see value in biotechs, they don't see much greater value than investors have seen recently.

Also, growth in Warner's once-highflying stock has recently flattened on safety and competitive concerns over its diabetes drug Rezulin. Any slowing in Rezulin sales suggests to investors that Warner is too dependent on the growth of its megablockbuster cholesterol drug Lipitor. Investors in general have started to worry that drug company sales and earnings growth won't maintain their recent breakneck pace.

Warner-Lambert, Morris Plains, N.J., said that the deal would neither dilute nor add to 1999 earnings. The company reiterated that it expects earnings growth of 30% for 1999.

PaineWebber advised Agouron on the deal; Goldman Sachs advised Warner-Lambert.