Comment: Are you ready for the resurgence in Australian life sciences M&A?

By Reece Walker, Partner, Malcolm McBratney, Partner and Elissa Etheridge, Solicitor, McCullough Robertson

The recent flurry of takeover deals of Australian late-stage companies by foreign-owned global pharmaceutical companies has heralded the commercial resurgence of the industry. It signals a need for listed and unlisted companies to be aware of their potential as a takeover target and be deal ready to respond appropriately and maximise value for stakeholders.

Key to a company being deal ready is for it to understand current takeover trends and be able to easily and efficiently demonstrate the quality of its assets and organisation. Factors which demonstrate this and allow a company to manage opportunities as they arise include:

• understanding the merits of different control transaction structures: takeover bids versus schemes of arrangement;
• being ‘due diligence ready’;
• ensuring all intellectual property protection is up to date;
• being able to understand value and respond readily to asking price;
• having clear and realistic regulatory and commercialisation pathways;
• being able to demonstrate quality management and disciplined fiscal management; and
• engaging experts who understand the preferred deal structures of foreign bidders and the specialised nature of biotech takeovers.

Recent deals evidencing the resurgence within the Australian life sciences industry include:

• Cephalon’s $225 million takeover of leukemia drug developer Chemgenex Pharmaceuticals Limited;
• Henry Schein Inc’s $93.2 million scheme of arrangement with Provet Limited, a veterinary product, equipment and services provider;
• Qiagen’s $341 million offer via scheme of arrangement, for tuberculosis diagnostic company Cellestis;
• Cephalon’s $US1.7 billion deal with stem-cell development company Mesoblast;
• Leo Pharma’s $US287 million merger with cancer therapeutics company Peplin; and
• Cephalon’s $317 million cash takeover offer for Arana Therapeutics, developer of antibody therapeutics for the treatment of inflammatory diseases and cancer.

A similar trend is occurring globally with the following recent buy-outs occurring:

• French company Sanofi-Aventis SA’s $US20.1 billion cash takeover offer of US company Genzyme Corp;
• Pfizer Inc’s $US3.7 billion cash buy-out of pain drug development company King Pharmaceuticals;
• UK company BTG’s £218 million takeover offer of fellow UK company Protherics;
• Johnson & Johnson’s $US480 million buy-out of Californian medical devices company Micrus Endovascular Corp; and
• Abbott Laboratories $US272 million cash buy-out of cancer drug development company Facet Biotech Corp.

One of the driving factors of this takeover trend by large global pharmaceutical companies is the need for these companies to replace revenue lost by patent expiration and to refresh their development pipelines. The next few years will see many drugs come off patent and the holders of these ‘blockbuster’ products lose revenue to generic alternatives.

Australian biotech companies typically offer quality intellectual property, skilled staff and frequently high quality facilities, making them prime targets for takeover by a large pharma seeking efficient, new technology.

Recent trends Recent Australian takeover trends include:

• approximately 60% of announced deals are recommended by target company Boards;
• a success rate of around 55% for announced bids;
• ‘cash is king’ – over 60% of bids are for cash consideration, not scrip;
• attractive premiums – examples ranging between 30-60% of recent trading prices;
• an increased use of schemes of arrangement but takeovers still account for two-thirds of deal structures; and
• more active involvement by domestic regulators, including the Australian Securities and Investments Commission (ASIC), the Australian Securities Exchange (ASX), the Takeovers Panel, the Foreign Investment and Review Board (FIRB) and the Australian Competition and Consumer Commission (ACCC), as well as foreign counterparts.

An emerging feature of the terms of recent Australian biotech takeovers is the increased standardisation of bid terms. This is fuelled by the formal regulatory environment surrounding control transactions.

In particular, the Takeover Panel’s recent decisions and policy guidelines have influenced the formulation of deal protection mechanisms (lock-up devices) including no-shop, no-talk restrictions, matching rights and break fees. Whilst frequently balanced by fiduciary and superior bid ‘carve outs’, there is increasing pushback on the extent of these devices.

Foreign bidders may have different expectations, based upon prevailing practices and views in their jurisdiction, as to what sort of deal protection can be ‘guaranteed’.

An often contentious issue is break fees, with guidance here suggesting a fee above 1% of equity value (the total of all equity classes at the takeover consideration amount) may give rise to ‘unacceptable circumstances’ and an adverse finding by the Takeovers Panel.

This reinforces the need to engage experts who understand the preferred deal structures of foreign bidders, the specialised nature of biotech takeovers and the Australian regulatory landscape.

Perhaps for this reason, while takeover bids still account for approximately two-thirds of deals, recent deals have shown an increased use of schemes of arrangement, with bidders appreciating the enhanced protection of a merger implementation agreement and the certain, albeit binary, outcome of the scheme meeting process.

Some of the key differences between these deal structures are highlighted below:

Issue	Takeover bid	Scheme of arrangement
Control of process	A bidder has the initiative at each stage of the takeover.	The target controls the process, however this will be subject to the terms of a merger implementation agreement between the bidder and target.
Target co-operation	Not required.	Required.
Ultimate % ownership	A bidder can accept less than 100% ownership under a takeover. The bidder can compulsory acquire outstanding securities if relevant thresholds reached (90%).	All or nothing. In addition to any initial shareholding, the bidder will either acquire all of the outstanding shares or no further shares at all.
Vulnerability to blocking stake/level of participation required	A blocking stake can be small under a takeover if the bidder requires minimum acceptances to reach 90% to complete the bid. Where there is a low acceptance condition (e.g. 50%) then there is little vulnerability to a blocking stake.	The vulnerability to a blocking stake increases as the bidder’s stake in the target increases, as it diminishes the pool of eligible voters.
Offer structure flexibility	Limited - can only bid for securities of a certain class.	Flexible - can include reduction of capital, demerger and asset acquisitions.
Tactical flexibility	Flexibility to increase offer price and waive/modify conditions quickly.	Terms can be varied, but generally only with the sanction of the Court which is more time consuming.
Timing	Varies – unlikely to be less than three months. While the minimum offer period is one month, this is usually extended.	Varies – three months is possible. The ‘end date’ is more certain.
Payment of consideration	Usually spread over time, commencing before security (e.g. to third party financier) is available over target assets.	At one time. May be able to take security (e.g. by third party financier) over target assets at completion.
Disclosure	Similar. Prospectus style disclosure where scrip offered as consideration.	Similar. Prospectus style disclosure where scrip offered as consideration.
Capital gains tax rollover relief for target shareholders (where scrip in bidder offered)	Possible if bidder reaches 80% ownership in target.	Possible. More certain for target shareholders.

In addition to the above, we also advise consideration be given, in appropriate circumstances, to conducting an on-market bid. This can have significant advantages in terms of speed to acquire a controlling stake and may suit an aggressive bidder for hitherto unfavoured or unidentified assets.

With a current high success rate for takeover deals in Australia, many cashed-up global bidders seeking product revenue replacement and unmet R&D needs for the biotech industry to address, the appeal of Australian biotech companies looks set to continue.

McCullough Robertson is a corporate and intellectual property law firm with expertise in the life sciences industry. For more information, call (07) 3233 8888 or email info@mccullough.com.au.