Actelion May Not Come Cheap For J&J

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We recently wrote on why Johnson & Johnson‘s (NYSE: JNJ) intention of acquiring Actelion might resonate well with investors (read Will J&J Buying Actelion Be Good For Investors?). However, the picture is incomplete unless J&J pays a reasonable price. Though structuring of the deal remains a key variable, we estimate that J&J may have to confirm to inflated transaction multiples which seem to have become the latest norm for big deals in the pharma sector. There is a good chance that EBITDA multiple could exceed 25 if the other firms join the bidding process. We don’t think this deal, if it happens, will come cheap and therefore, a lot depends on Actelion’s pipeline potential. It will have to fire.

It must be noted that Actelion is reportedly hesitant about an outright acquisition and may be considering a more complex deal that combines Actelion with certain J&J pharma assets, and lets it operate independently. [1]

Our price estimate of $118 for Johnson & Johnson is slightly above its current market price.

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How Much Premium? 

Actelion’s market price jumped nearly 20% after the announcement that J&J has approached the company’s management regarding an acquisition deal. This jump reflects market’s expectations around how much premium J&J may be willing to pay, if it was to purchase the entire firm. We note that the average premium paid for the U.S. pharma companies during M&A transactions between 2006 and 2015 has ranged between 35% and 60% for the most part. [2] So the potential premium that market reaction reflects still falls below the lower end of this average, suggesting that the price point may not be outrageous. However, this conclusion can not be drawn without looking at the implied transaction multiple.

What Do Multiples Tell Us About The Potential Transaction? 

If we look at the potential transaction multiples, assuming 20% premium, we find that the price to sales ratio will be somewhere around 8.5, with EBITDA multiple of nearly 23 (based on approximation of revenue and EBITDA for the next 12 months). Looking at historical transaction multiples, we find that average EBITDA multiple for M&A transactions in the pharma sector has ranged between 8 to 18 during 2006 to 2014. [3] In 2014, this figure started climbing steeply for larger deals (>$2.5 billion), and has ranged between 23-35 in the last couple of years. For such big deals, the EBITDA transaction multiple has averaged around 15 prior to 2014. Considering the above information, we can draw the following conclusions:

First, the potential transaction multiple that J&J might be willing to pay confirms with the recent inflated norms. Second, the multiple is still substantially higher than the average we have seen prior to 2014. So overall, it may be an expensive deal.

What’s Our Conclusion? 

While premium may look lower than average, this won’t be a cheap deal for J&J. On the contrary, the confirmation with the inflated transaction prices could potentially indicate a seller’s market, and may end up being a relatively expensive proposition for J&J.  Having said that, there is no way that J&J could manage a deal at more reasonable multiples we have seen prior to 2014 because Actelion itself was trading at a higher multiple before the news hit the market. Clearly, J&J seems to have confidence in Actelion’s pipeline and future prospects. We think 20% premium may be a baseline, and the real risk is price inflating much higher if the other firms join the bid.

What do you think? Please let us know your views by commenting in the box below.

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Notes:
  1. Actelion weighs complex deal to combine with part of J&J, Financial Times, Nov 28 2016 []
  2. HBM Pharma/Biotech M&A Report 2016 []
  3. Global M&A Report, Pharma / Biotech 2016, IMAP []