Roche’s Purchase Of Ignyta: Drop In A Bucket But Strategically Aligned
Roche (NASDAQ:RHHBY) and biotech firm Ignyta (NASDAQ:RXDX) recently announced a merger agreement. The deal, pegged at $1.7 billion, implies a significant premium for Ignyta but is a drop in the bucket for Roche which had a market cap of nearly $215 billion as of Dec 26, 2017.
There are a couple of considerations here. First, what’s the strategic fit of the acquisition? It is fairly apparent that Roche’s strength has been cancer therapeutics, and the company’s key cancer drugs Avastin, Herceptin, and Rituxan account for nearly $21 billion in annual sales. However, these drugs have either lost patent protection, or are expected to lose it in the next 1-2 years. The deal appears to be a small part of filling the sales gap which will emerge when these drugs start facing meaningful competition from biosimilars. Roche has highlighted Ignyta’s investigational phase 2 drug entrectinib which targets cancer tumors exhibiting specific type of gene rearrangements. In other words, the drug targets rare types of cancer. The addition of such a precision drug will enhance Roche’s portfolio.
Our price estimate for Roche stands at $33, implying a slight premium to the market price.
The second consideration is — Did Roche pay a reasonable price? This becomes a tricky question considering that the drug in question is still in phase 2 clinical trials and Ignyta has not generated any revenue till date. So a reasonable thing for us to do is to compare this acquisition to our Roche’s drug pipeline valuation. Take a look at our interactive breakdown of Roche’s phase 3 drug pipeline which shows key factors determining the pipeline’s value such as expected peak sales, expected growth trajectory, and probability of market approval. We estimate that $1 in peak sales of a phase 3 drug for Roche is worth $1.60 for the company, taking into account roughly 50% probability of approval. If we apply this equation to Roche’s recent deal, we find that the company would expect at least $1.1 billion in peak sales from Ignyta’s current drug portfolio if the drugs were in phase 3 trials. However, that’s not the case. While entrectinib is in phase 2, there are two more drugs in phase 1 and one drug in pre-clinical phase. This means that the company is expecting much higher peak sales in the future (because probability of approval for drugs in these phases is much lower) and this is certainly a long term bet.
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