The pharma sector saw deal activity fall in 2017 compared to previous years. While the number of deals remained robust, their value was significantly lower due to fewer large acquisitions.
Deal activity fell because many US companies spent late 2016 awaiting the outcome of the US presidential election and 2017 waiting to see how US tax reform would unfold. Nevertheless, 2017 resulted in a handful of stand-out deals including Gilead’s acquisition of Kite Pharma for $11.2 billion, which Gilead acquired to access Kite’s cutting-edge chimeric antigen receptor T cell (or CAR-T) therapy Yescarta. Another prominent deal was Johnson & Johnson’s acquisition of Swiss drug developer Actelion for $30 billion, which involved the spin-off of Actelion’s drug discovery operations and early-stage pipeline to a newly-created group called Idorsia.
Pharma companies continued to make ‘bolt-on’ deals to replenish depleted pipelines, such as Takeda’s $5.2 billion purchase of Ariad Pharmaceuticals. Larger groups also continued to manage their portfolios by divesting unwanted assets while bulking-up elsewhere. For example, Novartis bolstered its oncology business by acquiring French radiopharmaceutical company Advanced Accelerator Applications for $3.9 billion. And Pfizer announced that it is reviewing strategic alternatives for its consumer healthcare business, with options including a sale or spin-off, while Merck KgaA also said it was considering a sale of its consumer healthcare business.
Deal premiums continued to increase as competition among bidders for the most attractive takeover targets intensified. Dealmakers continued to use tried-and-tested structures to bridge ‘valuation gaps’ between buyers and sellers. Mechanisms such as deferred payments and milestone payments, which are triggered upon events such as the successful completion of a clinical trial, receipt of regulatory approval, first commercial sale or sales above certain financial thresholds, continued to be widely used.
Looking forward, the underlying rationale for deal activity remains strong. Many big biopharma companies are cash rich and in need of growth to offset the loss of patent protection on their biggest selling drugs. They also continue to seek economies of scale to counteract the significant costs of developing successful drugs and pricing pressures from governments and other healthcare providers. Meanwhile, smaller companies are developing innovative new treatments which improve health outcomes, making them attractive takeover targets. Given this background, deal activity will continue. However, Trump’s tax reforms announced in late 2017 are expected to boost deal activity by major US biopharma companies.
The headline reform was a cut in the corporate tax rate from 35 percent to 21 percent, but also significant are changes in how US companies’ foreign profits are taxed. Prior to the December 2017 passage of the new US tax law, the earnings of US companies were taxed globally but in the case of overseas earnings the tax is deferred until the cash is repatriated back to the US. This has encouraged US companies to leave profits parked overseas. There will now be a one-off repatriation levy payable over eight years of 15.5 percent on offshore earnings held in cash and 8 percent on other offshore earnings, which will apply irrespective of whether the earnings are repatriated or left overseas. Given that many US pharma groups are cash rich, these reforms are expected to boost the firepower of US groups to fund acquisitions, although analysts expect the majority of any extra cash to be used to increase dividends or undertake share buy-backs.
Trump’s reforms, coupled with Obama’s 2016 reforms, mean that talk of ‘tax inversion’ deals, where a multinational changes its tax domicile by acquiring a foreign rival, should now become the exception.
Overall, many expect deal levels to pick-up as Trump’s tax reforms give US companies increased cash resources to fund acquisitions. Indeed, as of mid-January deals worth over $30 billion have already been announced. However, whether deal activity surpasses the peaks of 2015 and 2016 remains to be seen.
James Baillieu is an of counsel at global law firm Norton Rose Fulbright
