A white knight rides in

FRAZER, Pa.—What seemed in late April like it might be awhirlwind takeover of Cephalon Inc. by Canadian company Valeant PharmaceuticalsInternational Inc. turned out, in a real-life plot twist, to instead become awhite knight-style rescue by Israeli company Teva Pharmaceutical IndustriesLtd.—which outbid Valeant by more than a billion dollars in a friendlyacquisition offer at the beginning of May.

It's been a busy and globally diverse several weeks forCephalon. No sooner had it announced a friendly merger deal with Melbourne,Australia-based biopharmaceutical company ChemGenex on March 29, than suddenlyValeant announced it wanted to acquire Cephalon for $73 per share, or about$5.7 billion total.

Cephalon's board of directors rebuffed Mississauga,Ontario-based Valeant repeatedly, complaining that the unsolicited offer wasinadequate. Among the many complaints coming from the Cephalon board was that"By Valeant's own admission, its analysis of Cephalon's value is based on aworst-case scenario, which is an inappropriate methodology."

Valeant maintained that it was offering a 29 percent premiumover Cephalon's 30-day average and argued that a series of research anddevelopment setbacks had left Cephalon with no new major products for more thana decade. Cephalon's board and management countered that Valeant's timing wasopportunistic, as the 30-day average Cephalon share price of $56.74 on whichValeant based its proposal was near the stock's 52-week low, and the proposalrepresented "virtually no premium to Cephalon's 52-week high."

Cephalon also disagreed with the sentiments regarding itspipeline, which it argued is one of the broadest in the industry, with 10late-stage product candidates targeted at novel and best-in-class therapeuticgoals. Cephalon says that includes six indications with blockbuster potentialthat are expected to begin launching in the next three years.

Cephalon already sells Provigil for treatment of narcolepsy,which last year generated sales of $1.12 billion, and the company reportedtotal revenues of $2.81 billion in 2010.

Unmoved, in mid-April Valeant set a May 12 deadline forCephalon to accept the offer and also began the process not only of appealingdirectly to shareholders but working to replace the entire board of directorsat Cephalon.

Eric Schmidt, an analyst with Cowen & Co. in New York,was among the many market-watchers who predicted Valeant would win out in theend but would likely have to boost its offer and perhaps give a little on itsdeadline, noting that "There will be a dance and courtship and there will be adeal at the end of that process," and writing in an investment note that if itoffered somewhere between $75 and $80 per share, "We would not expect Valeantto encounter a lot of resistance" from Cephalon.

Ten days before Valeant's deadline, though, Teva andCephalon announced that their boards of directors had unanimously approved adefinitive agreement under which Teva will acquire all of the outstandingshares of Cephalon for $81.50 per share in cash, or a total enterprise value ofapproximately $6.8 billion—a transaction that is not conditioned on financingand is expected to be completed in the third quarter of 2011.

What made Teva's arrival stand out so much, though, was theprevailing opinion that no white knights were likely to arrive. Cowen &Co.'s Schmidt, for example, was one of the many analysts who thought that mostpotential acquirers had probably already evaluated Cephalon and were shyingaway because of perceived weaknesses at the company in the wake of its founderand CEO Frank Baldino—a driving force for the company—dying some four monthsprior to the Valeant proposal.

Still, while Teva is paying a billion dollars more thanValeant said it would pay, the Israeli company is still probably getting a gooddeal. According to figures gathered by Bloomberg, Valeant's proposal valuedCephalon at 5.3 times earnings before interest, taxes, depreciation andamortization, which would reportedly have made it a huge bargain compared toother recent deals in the $1 billion-plus category. In fact, Bloomberg dataindicated that even if Valeant had bumped the offer up to $84 per share, itwould be one of the cheapest deals in history—and clearly Teva's offer fallsbelow that.

When his company was still in the running, Pearson said thatif neither Cephalon nor its shareholders could be moved, "we will be happy tomove on to other opportunities," and he appears to be doing just that, tellingBloomberg shortly after the Teva-Cephalon announcement that "We have many ironsin the fire around the world." He added that $300 million to $500 million ishis company's "sweet spot" but also noted they "could go a little higher" thanthe $5.7 billion they offered to Cephalon if the right company came around.

Pearson will likely pursue one or more other acquisitions aggressively soon,having said many times that that early-stage drug research is too risky anddoesn't make solid economic sense—preferring to grow Valeant and expand itspipeline through acquisitions rather than organic growth.

For Teva, which is known largely for being a top dog in thegeneric drug market, the acquisition of Cephalon reinforces a long-termstrategy of building out its branded and specialty pharmaceuticals businessthrough diversification and expansion. Indeed, the combined company's brandedportfolio represents approximately $7 billion in sales, with a pipeline thatincludes more than 30 late-stage compounds and which creates "immediate andsustainable value in niche therapeutic areas including CNS, oncology,respiratory and pain management," Teva notes.

Zacks Investment Research indicates that the acquisition"makes sense for Teva, which is currently facing patent challenges forCopaxone. With Copaxone accounting for 20.5 percent of total revenues in 2010,the earlier-than-expected entry of generic versions of Copaxone would be amajor setback for Teva."

Zacks also notes that Teva's pipeline will be boostedsignificantly following the closing of the acquisition, citing such pipelinecandidates as Lupuzor for systemic lupus erythematosus and Cinquil foreosinophilic asthma.

"We currently have a Neutral recommendation on Teva," Zacksnotes, adding that the acquisition of Cephalon "will not only strengthen Teva'spipeline; it should also help the company achieve its goal of increasing its brandedrevenues from $4.6 billion in 2010 to more than $9 billion in 2015."

Cephalon andChemGenex agree to acquisition terms

With its board of directors in agreement with a proposal toacquire the Australian company for about $163 million, ChemGenex announcedMarch 29 along with Cephalon CXS Holdings Pty Ltd., a wholly-owned subsidiaryof Frazer, Pa.-based Cephalon Inc., that shareholders of ChemGenex will beadvised to accept the offer in the absence of a better one.

"The ChemGenex board welcomes Cephalon's bid, whichrepresents an attractive premium to the current and recent trading prices ofChemGenex shares," says Brett Heading, ChemGenex's chairman.

"The proposed transaction allows ChemGenex shareholders torealize cash proceeds at a significant premium to recent trading levels," saysKevin Buchi, CEO of Cephalon.

ChemGenex focuses mostly on hematology, and is currentlydeveloping its lead product candidate, OMAPRO, which is intended for thetreatment of patients with chronic myeloid leukemia and which recentlycompleted Phase III clinical trials. ChemGenex plans to file a new drugapplication for the product with the U.S. Food and Drug Administration in thesecond half of the year.

In other recent activity, Cephalon signed a definitivemerger agreement with Gemin X Pharmaceuticals Inc., to acquire all of theiroutstanding capital stock for $225 million, as well as entering into atechnology collaboration with Champions Biotechnology Inc.

Both deals show howCephalon has been focusing on oncology lately, as does the ChemGenexacquisition plan, which Buchi says "adds an interesting late-stage opportunityto our portfolio."

In a letter to his company, Buchi notes that "bystrategically investing in a comprehensive pipeline now, Cephalon will ensurethat it has the opportunities to continue to grow far into the future."

A white knight rides in

About the Author

Jeffrey Bouley

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May 2011

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