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PF(LUX)-Biotech: Roche offers to acquire rest of Genentech
Roche has offered to acquire the shares it does not own in Genentech for USD89 per share. The move makes sense from a financial perspective as it will allow Roche to fully consolidate Genentech’s cash-flow stream, realise annual synergies to the tune of USD750m and turn its cash reserves into a cash-generating industrial asset at attractive conditions. The surprise here, though, is that Roche has always argued that Genentech’s innovation power was a direct result of that fact that it is virtually independent from Roche and its stock-exchange listing. In that sense, the deal might mean that Genentech’s innovation power is on the decline.
We believe the deal does indeed make financial sense for Roche. Also, we have certain sympathy for the “declining innovation power admission” side of the deal. That being said, Genentech is clearly not the same company today that it was nine years ago, when Roche bought out the minorities and re-listed the company. Since then, Genentech has grown by a factor of 29 in terms of sales going from USD0.4bn to USD11.7bn and five in terms of employees growing from 2000 to 11,200. In other words, what was good for Genentech nine years ago might be different from what is good for Genentech (and Roche) today. In any event, we believe this transaction will go through at a 5-10% premium to the offered price. There is a pre-agreed process in place that will result in an independent valuation of Genentech, after which there is very little that can hinder the transaction from being consummated.
Industrial assets are preferable to financial investments
The read-across for other companies is simple: large pharmaceutical companies and large biotech companies have excess cash they need to deploy; industrial assets are preferable to financial investments (i.e. share buy-backs), as they potentially generate long-term additional cash flows and, most importantly, current valuation levels, which are at 10-year lows, make such industrial assets significantly more attractive to a company than continuing to repurchase its own shares. Recent statements by GlaxoSmithkline and Novartis’s cancellation of its own share buy-back program in favour of the Alcon acquisitions are two other recent tangible signs of the same phenomenon
PF(LUX)-Biotech benefits from acquisitions
PF(LUX)–Biotech is benefiting from this potential acquisition, as it held a 4.5% position in Genentech shares. Going forward, the fund should continue to benefit from the strong fundamentals of biotechnology companies, namely strong pipelines, new drug approvals and, eventually, solid sales growth, which is forecast to remain at the 20% p.a. level over the foreseeable future. Such fundamentals, attractive valuation levels (5x forward sales and 23x times forward EPS) plus an investment environment that benefits companies with defensive characteristics should drive further share price appreciation in the sector.
