No Shortage of Suitors for Genzyme

Erik Kobayashi-Solomon: Hi. I'm Erik Kobayashi-Solomon, co-editor of Morningstar OptionInvestor, and today it's my great pleasure to welcome back Karen Andersen who is senior biotech analyst here at Morningstar and also co-editor of Morningstar's Healthcare Observer.

Karen, thanks for coming.

Karen Andersen: My pleasure.

Kobayashi-Solomon: So we did an option strategy on a company that you covered, Genzyme, just a short time ago. It's got a lot of investor interest and there's been some news about Genzyme, of course, so I wanted to ask you about that.

Now, way back in February in Healthcare Observer, you had a list of pharma firms and biotech firms, most likely to be acquired in 2010, and Genzyme happen to be on that list. Can you tell why you thought it was going to be acquired and kind of where it was placed in the list?

Andersen: Well, Genzyme actually came out at number seven on our take-out list.

Kobayashi-Solomon: Seven of 20, was that right?

Andersen: Seven out of between 50 and 60 companies.

Kobayashi-Solomon: All right.

Andersen: There are several parts to our methodology, but I would say for Genzyme, a couple of key things. One is just the strength of their portfolio of drugs, particularly in rare diseases, and then another really interesting part of their potential as an acquisition target is sort of the rate at which their pipeline is going to mature. So they have a couple of drug candidates in late-stage testing that look like they could reach the market 2012-2013.

Kobayashi-Solomon: So for all of these companies that are just kind of running dry in their pipeline that looks very attractive.

Andersen: Exactly. That's sort of a key part of the – what they term the 'patent cliff' for the big pharma firms. That's sort of a key point where a lot of these companies are going to see a big drop-off in revenue. So if they could sort of find companies like Genzyme that potentially could have very strong revenue growth around that time, I think that could be a really smart strategy.

Kobayashi-Solomon: So really nice kind of bolt-on. They've already got things in the pipeline. They're already going to--well on their way to approval.

Andersen: Right, exactly.

Kobayashi-Solomon: Okay. So flash-forward about seven months, end of July and, lo and behold, rumors start circulating that French firm Sanofi-Aventis may make a bid to acquire Genzyme. We're talking about a week after that. Can you kind of get us up-to-date on what's happening with that?

Andersen: Okay. So initially it was just rumors that Sanofi could be in informal talks with Genzyme, that they had been talking to them for a period of weeks and then we heard news that Sanofi's Board had in fact voted to support making an offer for Genzyme.

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Kobayashi-Solomon: That was late last week I think.

Andersen: Yes.

Kobayashi-Solomon: End of July.

Andersen: Then, you know, we've been sort of waiting to see an official offer, and just recently we've heard that they have made an offer and it's $69 a share.

Kobayashi-Solomon: Okay. So it's $69 a share, but actually their shares are trading for over $70 and usually when you see something like this, it means that the market is anticipating either a bid from somebody else or anticipating that the acquirer will have to pay more than what their bid is. What's the situation there? Are there other candidates do you think that might acquire Genzyme?

Andersen: Well, for a company this size, where I think the acquisition could end up playing out somewhere around the $20 billion mark that does sort of limit the number of companies that might have the financial capacity to take something like that on.

Kobayashi-Solomon: Sure. So we're talking about big pharma?

Andersen: We're talking about, yes, the biggest of the big pharma. And then also we've looked at some of the companies that might actually have some overlap in terms of the drugs that they already market, they might be able to use their sales forces to kind of complement Genzyme's products. So looking at both of those together, we've kind of come up with a list of some of the most promising potential acquirers outside of Sanofi. So companies like, for example, Pfizer, believe it or not, it's actually making quite a bit of progress digesting its Wyeth acquisition, and it looks like it does have the financial strength to pull something like this off.

Kobayashi-Solomon: You think that there is appetite within management for maybe another acquisition after Wyeth?

Andersen: Yeah, and Pfizer and actually GlaxoSmithKline have both expressed interest in rare diseases. So this could be…

Kobayashi-Solomon: Right up Genzyme's alley.

Andersen: …a very interesting way to kind of build a very strong foundation right off the bat in that area. And then another Company actually on my coverage list, Amgen, the biggest of the biotechs They actually do have a very strong financial position. I think that they have been saving up for some sort of acquisition, and…

Kobayashi-Solomon: I'd heard that actually they--what was it--they've reduced their share buybacks or something, so they'd have kind of extra cash or something?

Andersen: They have. Well, that's a part of my theory. I mean several months ago, they did announce sort of an accelerated share repurchase program. So I've been monitoring kind of their level of activity and it looked like it did take a dip in the second quarter from the first quarter. So they have plenty of cash.

Kobayashi-Solomon: Socking away for a rainy day may be.

Andersen: Yeah, yeah. So I mean between their cash and issuing a little bit more debt, I think they have plenty of cash to make a very solid offer for Genzyme.

Kobayashi-Solomon: So let's talk a little bit about the offers that relates to your fair value. Right now, Sanofi's bid is about 10% less than your fair value estimate. What do you think the chances are that Genzyme will go ahead and accept this, let's say, a lower bid? First of all, what do you think those chances are?

Andersen: Well, I would put it under a 25% chance that Genzyme could actually accept an offer as low as Sanofi's initial bid at the $69 number.

Kobayashi-Solomon: I'd heard that Genzyme really wanted close to $80, is that right?

Andersen: Well, I think that my fair value estimate is $78, and I think that somewhere around that number could really be a sweet spot for something that both Genzyme shareholders and also Genzyme's Board could be willing to accept.

Kobayashi-Solomon: So, right on the money then?

Andersen: Yeah, we'll see what happens.

Kobayashi-Solomon: It sounds great. Karen, thanks a lot for coming, and I sure appreciate it.

Andersen: You're welcome. Thanks.

Kobayashi-Solomon: And thank you for joining us. Please stop by the OptionInvestor website where there are many more option ideas based on Morningstar's Fundamental Research.