The Q&A: Pfizer/Allergan – five key questions

Pfizer and Allergan have confirmed they are in preliminary negotiations regarding a potential business combination...

Is anyone surprised?

In recent weeks, Pfizer has hinted increasingly that it remains interested in an acquisition that would allow tax-inversion status at the right price. CEO Ian Read had also suggested he would rather close any deal under current US congress, prompting ISI Evercore analyst Mark Schoenebaum to suggest the next few months were "put up or shut up" time.

Is it too bold a move?

That said, the pharmaceutical industry remains firmly in the political crosshairs, owing to debate around US drug pricing. With congress having already set stricter criteria for tax inversion in 2014 – a move largely prompted by Pfizer's efforts to acquire AstraZeneca – are politicians likely to sit back on this occasion? Read has spoken repeatedly of his view that Pfizer's tax burden is too high; is the company's quest for inversion at the very least a bold means to pressure the US government into reform?

Pfizer's current tax rate is 25 percent. Allergan's is 15 percent.

How much will it cost?

Bernstein analysts suggest that any deal – which will likely be all-equity to ensure a 40 percent/60 percent conversion and allow Pfizer to fully benefit from inversion – will cost between $375 and $400 per share. Analysts at Nomura suggest Pfizer will have to go higher – in excess of $400 per share – to secure its target given the benefits it will provide. Both agree that Allergan is currently undervalued following the recent correction in pharma valuations; an unfair outcome give the company’s strong fundamentals, add analysts at Nomura.

Can we be friends?

In contrast to Pfizer's hostile pursuit of AstraZeneca – which caused friction not only between the two companies, but also between Pfizer and the UK government – Allergan represents a much friendlier proposition. Bernstein analysts suggest that Allergan management are "unlikely to be an obstacle to a transaction," citing in particular the role of CEO Brett Saunders in both the sale of Forest Laboratories to Actavis and the subsequent acquisition of Allergan. Saunders was not promised a role in either company, they note, nor would he likely block a deal if he wasn't promised succession of Read as Pfizer CEO.

Do they fit?

While both the failed AstraZeneca deal and the potential acquisition of Allergan are firmly focused on Pfizer's ability to invert its tax rate, the former did provide the added benefit of expanding Pfizer's presence in cancer immunotherapy (although much of the hostility around that transaction stemmed from the fear that Pfizer would disproportionately cut R&D spend).

By comparison, Allergan primarily operates in the primary care markets, although Pfizer knows this sector well. Geographically speaking, despite its all-important domiciliation in Ireland, Allergan is mostly run out of the US, which would simplify post-merger integration.

Allergan's revenues are expected to grow at 9 percent per annum between 2016 and 2020, versus a forecast growth rate of 2 perecent for Pfizer's top-line over the same period, remarked JP Morgan analyst Chris Schott in a note to investors. The acquisition would bolster both Pfizer's innovative pharma and established product divisions, adding both growth and scale. This would retain an ability to split the company into two standalone businesses at a later date; a strategy that Read and shareholders remain enthusiastic about.

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