Coffee Sipping Big Board Stocks

[EZ2]

Pfizer and Allergan: How the Deal Adds Up

MARKETWATCH 1:51 PM ET 11/23/2015

By their constitution, $155 billion mergers are high-risk endeavors. But Pfizer(PFE) has improved its chances of an auspicious outcome.

Pfizer and Allergan announced their long-anticipated merger agreement (http://www.wsj.com/articles/pfizer-and- allergan-to-merge-in-huge-inversion-deal-1448280652)on Monday, bringing Allergan's signature products such as Botox and Restasis, as well as its favorable tax rate, into Pfizer's fold. And, at least for now, it appears Pfizer successfully resisted the temptation to overpay.

The deal values Allergan at $363.63 a share, roughly a 30% premium to the stock's price on Oct. 28, when news of talks surfaced. That is a significant payout, but some analysts thought (http://blogs.wsj.com/moneybeat/2015/11/23/analysts- react-pfizer-gets-good-price-for-allergan/)the deal price could exceed $400 a share.

Allergan trades at nearly 16 times forward operating cash flow estimates, according to FactSet. AstraZeneca(AZN.LN) was trading around 15 times back when Pfizer targeted it in early 2014. But Allergan looks to have a stronger growth profile and traded as high as 18 times.

And there are hopeful signs for the combined company, to be domiciled in Ireland and renamed Pfizer PLC. The new Pfizer expects the deal will be neutral to adjusted earnings per share in 2017, the first full year of the deal. By 2019, Chief Executive Ian Read expects the combination will add more than 10% to earnings.

A lower tax rate is clearly part of the formula: Despite recent maneuvers from the U.S. Treasury to discourage inversions, Pfizer said it expects the new company to incur an effective rate of just 17% to 18%. Pfizer's rate exceeds 25% so far this year.

Beyond that, the company said it expects operational synergies of $2 billion annually, with nearly two-thirds of these savings originating from lowered administrative costs. Those synergies, taxed at the new corporate rate and discounted through 2025, amount to a present value of more than $7 billion for shareholders.

The company expects potential revenue synergies, and investors can reasonably think there is some upside here. The vast majority of Allergan's revenue comes from the U.S., and Pfizer's strong international presence should allow for product expansion.

While Pfizer pushed back the date of a possible breakup (http://www.wsj.com/articles/pfizer-allergan-deal-its-about- more-than-taxes-1448048393) into two separate units into 2018, such a division remains a possible way to enhance shareholder value.

Pfizer certainly hasn't eliminated all risk surrounding the deal. For instance, while Pfizer has a strong balance sheet, some more aggressive use of leverage is likely. Standard & Poor's placed Pfizer's double-A rating on notice for a possible downgrade on Monday, highlighting that the company will likely conduct "significant share repurchases" to make its earnings-per-share arithmetic work.

Furthermore, the contemplated synergies must actually be obtained--shareholders are assuming some fairly significant integration risk in the meantime.

It will take years before the merger can be called a success. But Pfizer could have done far worse in choosing its target--and its price.

-Charley Grant; 415-439-6400; [e-mail]

Subscribe to WSJ: http://online.wsj.com?mod=djnwires


(END) Dow Jones Newswires
11-23-151351ET
Copyright (c) 2015 Dow Jones & Company, Inc.