Celgene/Bristol: Happy Union Or Runaway Bride?

Wellington, the largest institutional shareholder in Bristol, and activist firm Starboard both have publicly opposed the Bristol/Celgene merger but the strong crossover of investors in both biopharmas suggests the deal will still obtain approval.

With Bristol-Myers Squibb Co.’s largest institutional investor revealing that it opposes the $74bn acquisition of Celgene Corp. and a recently engaged activist investor trying to build a strong case against the combination, several analysts nonetheless say the proposed deal – facing an April 12 shareholder vote – still has sufficient momentum to go through.

Questions surrounded Bristol’s intent to acquire Celgene at a 54% premium to its closing price Jan. 2 closing of $66.64. The terms unveiled Jan. 3 also give Celgene upside potential in the form of a $9 contingent value right (CVR) pegged to approval of three late-stage Celgene pipeline assets. (Also see "Bristol Values Celgene's Hematology, Immunology Portfolio At $74bn, But Does It Price In Risk?" - Scrip, 3 Jan, 2019.) Celgene’s stock price had been declining because of several regulatory and clinical setbacks. In that regard, Bristol is taking advantage of the opportunity, but some investors are still questioning the size of the premium.

On Feb. 27, Wellington Management, which owns 7.7% of Bristol’s outstanding stock according to a Schedule 13D filing with the US Securities and Exchange Commission (SEC), issued a terse press release stating that it does not support the proposed merger for three reasons.

1. 1. 1. The deal places too much risk on Bristol shareholders and gives Celgene shareholders significant equity in the combined company at a discount.
      2. The merger’s execution could be more challenging than portrayed by the principals.
      3. There could be “alternative paths” to value creation that would benefit Bristol shareholders more greatly.

          

Wellington is the largest institutional shareholder in Bristol, so its opinion carries weight, even if it holds voting control over slightly more than 20% (more than 28.1m shares) of the total outstanding company stock it owns (nearly 125.7m shares). There are more than 1.6bn general shares in Bristol in circulation presently. Reports suggest that Bristol’s fifth-largest institutional shareholder, Dodge & Cox, also opposes the merger but it has not said so publicly.

Adding to the refrain on Feb. 28 was a 16-page letter against the transaction from activist investor Starboard Value LP, which holds about a 1% ownership in Bristol, obtained almost entirely since the Celgene deal was announced in early January. Starboard nominated five of its own executives, including CEO Jeffrey Smith, as board members in Bristol, but a vote on those candidacies would not occur before the April shareholder vote on the merger.

Starboard Alleges Bristol Moved Defensively, Hastily

Starboard’s argument against the merger, while much longer than Wellington’s, made similar arguments. Mainly, the group says Bristol essentially would be buying a ruinous patent cliff as Celgene’s top-selling drug, hematologic cancer therapy Revlimid (lenalidomide), accounts for 63% of the big biotech’s sales revenue but faces US patent expiration in 2022.

Starboard further posits that Bristol hurried into a merger with Celgene from a defensive posture – seeking to stave off acquisition by a third party – and assumed highly optimistic prospects for Celgene’s R&D pipeline to make the financials seem attractive.

The activist investor said that it approached analysis of the proposed deal with an open mind and a willingness to be persuaded of its benefits, taking numerous meetings and calls with Bristol execs. The letter concludes that “the more work we do, the more conviction we build that this transaction is not in the best interest of shareholders. Therefore, we intend to solicit shareholders to vote against the transaction.” It adds that its views is “solidified” by “numerous other long-term shareholders” in Bristol who also oppose the deal.

To work financially, Bristol apparently believes that Celgene’s pipeline can yield new products replacing more than 60% of current revenue in the next seven years, which Starboard says “is an aggressive assumption and may not be realistic based on historical precedents.” Further, it alleges that Bristol performed only about two weeks of due diligence regarding Celgene’s R&D potential, which would seem insufficient to evaluate a set of candidates expected to produce significant near-term revenue.

“There is a better path forward for Bristol-Myers, either as a more profitable standalone company with a more focused, lower-risk strategy, or in a potential sale of the whole Company,” the letter states.

Starboard’s assertion that Bristol’s decision to acquire Celgene was “hastily construed” ignores the fact that the two companies mutually considered a merger for several weeks in mid-2017, meaning there had been prior due diligence. In SEC filings, Bristol revealed that it had been an off-and-on suitor for Celgene for more than a year-and-a-half, during which time Celgene sought out another large pharma – possibly Merck & Co. Inc. – as a potential buyer but was rebuffed.

Too Much Crossover Ownership To Scuttle Merger

In a Feb. 28 note, BMO Capital Markets analyst Alex Arfaei called some of Starboard’s rationale “simplistic, and arguably overstated or misleading.” Nonetheless, the charge that Bristol made a hasty, defensive decision to go forward with its bid for Celgene is serious and something that Bristol management needs to get out ahead of with a direct response, the analyst added.

Arfaei conceded that Bristol’s posture in seeking to acquire Celgene is partly defensive, although he thinks the company is hedging as much against internal risk as against the possibility of being acquired by another company. With its recent R&D setbacks in immuno-oncology and the increasing probability that Opdivo (nivolumab) will fail to obtain labeling for first-line non-small cell lung cancer (NSCLC), the diversification beyond IO that acquiring Celgene would provide has a clear rationale, Arfaei said. (Also see "Amid PD-1 Uncertainty, Bristol Under Pressure For M&A Activity" - Scrip, 25 Oct, 2018.)

He added that Wellington and Starboard’s now-public opposition to a Bristol/Celgene tie-up indicates that both shareholders perceived an increased likelihood of better valuation from a third-party buyout of Bristol. Nonetheless, given the significant overlap in Bristol and Celgene stock ownership – BMO estimates it as “at least 35%” while Michael Yee of Jefferies estimates 25% material overlap – the merger is still very likely to obtain enough votes for approval, Arfaei asserted.

Yee argued in a Feb. 28 note that overlapping shareholders would have too much to lose by opposing the deal, noting the appreciation in Celgene stock value since the planned merger was announced. Celgene closed the trading day Feb. 28 down 8.7% to $83.06 per share, reflecting increased uncertainty about the merger vote, while Bristol closed up 1.4% to $51.66.

“If the deal is voted against, then Celgene stock would fall significantly, possibly to the ‘pre-deal’ price around $65 or even lower, and funds that own Celgene thus would experience significant downside losses if the deal doesn’t happen,” Yee said. Many Bristol shareholders who don’t like the proposed deal probably voted with their feet already and sold off their positions, he pointed out.

In a Feb. 27 note that circulated shortly after Wellington’s announcement but before the Starboard letter’s release, Tim Anderson of Wolfe Research commented that investor sentiment toward the merger is mixed, with holders just of Bristol shares less positive on the deal on than those who hold positions in Bristol and Celgene or just Celgene. Still, Anderson said the survey suggested the odds of a third party coming in and buying Bristol before the April 12 vote at just between 10%-20%, an estimate Wolfe Research agrees with.

“Survey respondents still tilted in favor of voting for the deal,” Anderson noted. “Even if we assume that firms who solely (or mostly, as in the case of Wellington) own Bristol shares vote against the transaction, about two-thirds of remaining shareholders appear to have meaningful stakes in both companies, which suggests a majority will still vote in favor of deal closure. However, aggressive shareholder activism – or a change in circumstances such as a bidder (e.g. Amgen Inc.) coming in for Bristol – could still be disruptive.”

In a recent assessment of M&A possibilities among the large pharma companies, Morningstar determined that even after the Celgene acquisition went through, Bristol might remain an appealing and realistic takeout target for Pfizer Inc. or Johnson & Johnson. (Also see "BioMarin Is Carrying The Biggest Target On Its Back, Morningstar Says" - Scrip, 18 Feb, 2019.) For Sanofi, Novartis AG, Amgen, AbbVie Inc. and Gilead Sciences Inc., buying Bristol would make sense strategically, but would be beyond their financial means once Celgene was incorporated into the valuation.