Roche Genetics Deal Gets New Sequence

NEW YORK ( TheStreet) - It looks like a prolonged hostile takeover fight after Illumina ( ILMN) rejected Roche's a recent $6.7 takeover for the genomics machinery company.

But Monday's rejection -- coupled with an increase to the company's first quarter earnings forecasts -- may reinforce analyst expectations that Illumina will eventually accept a takeover at higher prices as early as the second quarter of 2012.

In rejecting Roche's amended offer, Illumina has urged shareholders not to tender their shares ahead of the company's April 18 shareholder meeting and to vote against a slate of hostile directors appointed by Roche. Illumina and its financial advisors Goldman Sachs ( GS) and Bank of America Merrill Lynch ( BAC) "unanimously determined that it dramatically undervalues Illumina and does not adequately reflect Illumina's singular position in an industry poised for extraordinary growth," wrote Illumina Chief Executive Jay Flatley in a letter.

On Monday, Illumina said it expects that first quarter earnings per-share earnings will meet or exceed analysts' estimates on revenue of about $270 million. Analysts polled by Thomson Reuters expect Illumina to earn 31 cents a share on revenue of $257 million.

The proposal by Roche is its third hostile bid in the U.S. pharmaceuticals sector after taking a previous $46.8 billion offer for Genentech and a $3 billion bid for Ventana Medical Systems directly to shareholders.

After increasing its Illumina bid, Roche has come back to the table with a higher bid in all three instances.

On March 29, Roche upped its bid for Illumina by roughly 15%, in a move that the world's leading maker of cancer treatments said would expedite an eventual takeover. In reaction to the move, analysts said that a further bid increase would be needed to turn negotiations friendly. Currently, Illumina has enacted a "poison pill" to make it uneconomic for Roche to take a large share stake in the San Diego-based company.

"While we were expecting a raised offer, we were not expecting a raised bid so soon after the initial bid. We still anticipate a higher bid, potentially mid-year, to take advantage of anticipated weakness in the space surrounding 2013 National Institute of Health funding," wrote Mizuho Securities analyst Peter Lawson in a note reacting to the bid. Lawson gives Illumina shares a price target of $62.

"We view today's move as the next step, rather than the final step, in the process that we still ultimately believe will lead to a deal... The important question is whether or not the increased bid is enough to bring Illumina to the negotiating table and allow Roche to learn more about Illumina's closely guarded pipeline," noted JPMorgan analyst Tycho W. Peterson, who rated shares "overweight" with a $70 a share price target. Analysts give Illumina an average price target of $55.38, according to consensus estimates polled by Bloomberg.

In afternoon trading, Illumina shares fell over 1% to $51.96. Year-to-date, Illumina shares are up over 60%, fueled by Roche's takeover interest, more optimism on the market for its genetic sequencing machinery and speculation that other drug giants could bid on the San Diego-based company.

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Analysts had called the January bid "opportunistic" and "undervalued," with many pointing to a higher eventual bid by Roche or a competing offer by healthcare giants like Siemens Healthcare ( SIE) and Johnson & Johnson ( JNJ), Abbott Laboratories ( ABT) and Becton, Dickinson ( BDX).

Risk arbitrage analysts at Makor said that the move was a first step to an eventual $55 a share takeover. In April, Illumina's annual shareholder meeting and Roche's now upped offer price will likely move the bid forward. Roche recently appointed a hostile slate of directors to Illumina's board. "These elections will clearly favor the bid from Roche," wrote Makor analysts, who expect a deal completion by mid-June.

Nevertheless, after a rejection to the $51 a share takeover offer, Illumina faces the risk that Roche will walk away to go with operating headwinds in 2012.

The shares of Illumina and competitor genetic research machinery makers like Life Technologies ( LIFE) have been bolstered by high expectations for new equipment that can bring cancer research directly to patient treatments. Illumina is currently developing machinery to sequence human genomes in a day, bringing down the time horizon from weeks and even months, which should also lower costs.

In bidding for Illumina, Roche would acquire the leading sequencing specialist, which would also help the company's own drug research and development efforts. Currently Illumina has an over 50% market share in sequencing machinery, as the technology becomes a part of cancer patient treatment, in addition to medical research.

With its 2011 refusal, Illumina shares were more than halved as the continuation of research grants from large scale government funded efforts like the National Institute of Health came into question. The NIH and similar organizations account for a large portion of Illumina's customers, until it can market new machinery directly to hospitals and patients.

In March, Columbia University filed a lawsuit against Illumina for alleged patent infringement five DNA sequencing patents that are material to the company's next-generation sequencing products.

For more on how deal and trading volumes may impact Wall Street earnings, see why there is a widening investment bank performance gap.

-- Written by Antoine Gara in New York