Discounts in Biotech Keep Pharma M&A Rolling

As Big Pharma companies look for ways to grow their pipelines, micro-caps in the biotech space offer steep discounts.
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Tight credit markets are no doubt hindering corporate deals, but the strong likelihood remains for more Big Pharma buyouts.

Biotech firms, particularly struggling micro-caps, are ripe for the picking. And it's no secret that many Big Pharma companies in the next few years will be facing a cliff-like drop in their revenue due to various patent expirations of key drugs.

With this impending revenue decline on the horizon, these large companies are looking to emerging markets and the mid-cap space for growth potential, says Pete Meyers, co-head of health-care investment banking at Deutsche Bank. Some of these pharmaceutical giants will have no choice "but to be acquisitive," he says.

Yes, we have been left waiting to see the next chapter in


July bid for




, a large biotech that is now trading around $75 a share. "The only thing we want to say at the moment is that we are committed to the transaction and aim to reach an agreement with Genentech," a Roche spokesperson said in an email last week.

According to a recent


report, Roche had been seeking a $45 billion loan. Investors are clearly skeptical that the Big Pharma will be able to borrow enough money for the deal -- which

Genentech rejected

at the proposed price of $89-a-share.

But smaller deals are getting done. Just a week after inking a deal to buy

Omrix Biopharmaceuticals


for $338 million,

Johnson & Johnson

(JNJ) - Get Report

on Monday said it would buy breast implant company



for $1.1 billion.

Other big drug companies have seen the writing on the wall:

King Pharmaceuticals


said it would buy


(ALO) - Get Report

for about $1.6 billion, and

Eli Lilly

(LLY) - Get Report

tendered about 95% of


shares for $6 billion.

"This is the first time that I can remember seeing a sustained level of M&A in the life-sciences space," says Meyers.

"The amount of dialogue that's going on has probably never been higher," says Brent Milner, head of health-care investment banking at Stanford Group. "For the first time in pharmaceutical history they can go shopping at a discount."

The life-sciences space is bifurcated between these large, overcapitalized companies with big balance sheets and little debt that are facing an upcoming earnings gap, and other companies that are burning outrageous amounts of cash, Deutsche Bank's Meyers says.

"Although the past two months have been ugly, with biotech's 'blue-chip' companies shedding 17% of their value, their fundamentals of strong sales and robust pipelines will see them recover, but it will take some time," said G. Steven Burrill, chief executive officer of Burrill & Co., a life sciences merchant bank. "It is the small-cap biotech companies that will face the greatest challenges." The Burrill Small-Cap Biotech Index dropped 13% in November and 34% since the end of September.

"The laws of math dictate that there are fewer ImClones and more micro-caps," says Stanford Group's Milner. Indeed, fifty-four percent of the 370 publicly listed biotechnology companies tracked by Burrill & Co.'s monthly biotechnology report, now have a market cap well below $100 million.

It's not getting any easier to get drugs approved -- and with valuations frighteningly low and the inability to raise cash, it's the "perfect storm" for pharmaceutical companies interested in picking up new prospects, says Meyers.

While there's some urgency, "There's time between 2008 and patent expirations in 2012 to develop the next generation of larger opportunities," says Milner.

"Big Pharma can certainly take full advantage of the fragile global economy to buy assets at a discount," says Burrill. "They have the luxury of sitting back and waiting for the right opportunity and then acquire biotech companies at what represents 1990 prices."

In the meantime, "companies are shrinking to conserve cash and extend their runway ... unfortunately, headcount is their biggest expenditure, and as a result of the negative capital markets, many programs have been put 'in the refrigerator' until better times prevail...," he says. "If not restructuring, biotech companies will be acquired at bargain basement prices."

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One place where money isn't flowing is sponsored deals. "I've never seen leveraged debt capital markets as dislocated as they are right now," Deutsche Bank's Meyers says. "While interbank lending has improved, lending to corporations and sponsors has not returned." But it will. Eventually.

"As far as sponsored deals are concerned, once you see the leveraged debt capital markets come back, we believe you'll see a new level of activity," he says. "You'll not only see activity in health care services, you'll also see a new sponsor interest in life sciences where there hasn't been leveraged buyout activity in the past."