Pfizer Inc. will merge with Allergan PLC in a deal valued at $160bn, representing the largest health care merger ever, the companies announced Nov. 23. The mega-deal will yield the largest drug company in the world with pro forma 2015 sales of roughly $64bn, and importantly it will position Pfizer to lower its tax rate by redomiciling to Dublin, Ireland, the main driver of the deal.

The deal pits Pfizer – a company as iconic to America as McDonald’s or Coca-Cola – against the US government, which has sought to end tax-motivated corporate inversions. Last week, the US Treasury issued new rules intended to further reduce the economic benefits of inversions ahead of reports that Pfizer and Allergan were close to finalizing a deal ([A#14151119003]).

But the department’s authority is limited and the changes apparently do not have sufficient sway over Pfizer’s plans to buy Allergan, at least partly because of the way the deal has been structured. Whether or not the government will now step up its efforts to block the merger remains to be seen and is one of the lingering risks to the completion of the merger. [See Deal]

A decision on whether or not to break up Pfizer will now be delayed until 2018 instead of coming in late 2016 as previously forecast, the firm said.

Despite pushback, Pfizer CEO Ian Read has talked openly about the company’s ambitions to complete an inversion and his responsibility as the leader of a public company to deliver shareholder value and position Pfizer to compete against international rivals. Last year, Pfizer tried to buy AstraZeneca PLC with a similar motivation, but ultimately failed.

By maintaining Allergan’s Irish domicile after the merger, Pfizer stands to reduce its corporate tax rate from 25% to 17%-18% post-merger, while also accessing billions in offshore cash.

Read reiterated his position on the tax issue in a same-day conference call announcing the deal. “We appreciate that the issues raised are important for the future competitiveness of the country, and that many good minds are working to reform the system,” Read said.

“While reform progresses, we’ve assessed the legal, regulatory and political landscape and are moving forward with our strategy to combine these two great companies for the benefits of patients and to bring value to shareholders. That is our obligation,” he added.

Read will continue to lead the combined company as CEO, while Allergan CEO Brenton Saunders will become president and chief operating officer.

Is The Price Right For Allergan?

The final agreement is an all-stock transaction that values Allergan at $363.63 per share, or $160bn based on the closing price of Pfizer common stock of $32.18 on Nov. 20. The price represents a 30% premium based on the unaffected share prices of the two companies as of Oct. 28, when merger speculation first arose ([A#00151102012]).

But some Allergan investors may want more justification for the deal, given the high growth prospects for Allegan as an independent company. Some analysts speculated the company would sell for higher, closer to $400 per share. The company’s stock opened the day down 2% to $306.30, suggesting some uncertainty on the part of investors.

Allergan and its management team – including Saunders and Chairman Paul Bisaro – have impressed investors since Bisaro took over what was then the small US generic drug company Watson Laboratories Inc. in 2007 and steadily transformed it through M&A. The company transitioned from merger to merger, buying Actavis, Warner Chilcott PLC, Forest Laboratories Inc. and Allergan PLC, inverting to Ireland in the process. Now, it is considered a promising branded pharma company with solid growth expectations.

Allergan’s Top Five Drugs

Botox: $1.32bn (9 month global sales)

Namenda IR/XR: $1.1 bn

Restasis: $683.2m

Bystolic: $476.9m

Asacol/Delzicol: $455.7m

Earlier this year, Allergan agreed to sell the generic drug business – primarily made up of the former Watson and Actavis businesses – to Teva Pharmaceutical Industries Ltd. for $36bn, a deal that is still on track to close. Many investors were wondering what Allegan would buy next, not who would buy it ([A#14150727005]).

Now, some investors may still be questioning if a merger with Pfizer is the right long-term strategy, particularly given inherent differences between the two companies – from R&D philosophies to therapeutic areas of focus.

A 56% Versus 44% Ownership Structure

Under the Pfizer/Allergan merger, Allergan shareholders will receive 11.3 shares of the combined company for each of their Allergan shares, and Pfizer shareholders will receive one share of the combined company for each of their Pfizer shares.

Technically, Allergan will be the parent company of the combined group. A subsidiary of Allergan will be merged with Pfizer and the parent will be renamed Pfizer PLC after the closing of the transaction. Pfizer stockholders will have the opportunity to receive cash instead of stock for some or all of their shares, provided the amount paid will not be less than $6bn or greater than $12bn, the firm said. Assuming all of the $12bn in cash is paid in the merger, it is expected that former Pfizer shareholders will own approximately 56% of the company, and Allergan shareholders will own approximately 44% of the company.

The structure is important since some of the new tax rules issued by the US Treasury apply only to companies when the US firm owns 60% or more of a new corporation following an inversion.

If all goes smoothly, the deal is expected to close in the second half of 2016. Pfizer will maintain its operational headquarters in New York, and will continue to have operations in Irvine, Calif., where Allergan is operationally based.

“This transaction is about two great companies coming together to create a highly competitive biopharmaceutical leader,” Read said.

The combined company will have $64bn in combined pro forma 2015 revenue, with Pfizer contributing roughly $48bn and Allergan $16bn. The merger will unite Pfizer’s 95,000 employees around the world with Allergan’s 15,000 workers.

The merged company will have a vast portfolio of drugs spanning Pfizer’s expertise in cardiovascular disease, oncology and vaccines and Allergan’s focus on aesthetics/dermatology, ophthalmology and gastrointestinal disease.

But the companies operate under inherently different business models. Pfizer, despite the challenging patent cliff it has faced losing Lipitor (atorvastatin) and other blockbuster drugs, is recognized for its substantial investment in R&D. More recently, the big pharma has been working hard to reinvent its R&D, and the pipeline is beginning to show signs of rejuvenation, particularly in the area of immuno-oncology. Pfizer invested $8.39bn on R&D in 2014, about 16.9% of sales.

Allergan, meanwhile, is better known for in-licensing or acquiring late-stage drugs and for spending less on R&D; the company pledged to maintain an annual R&D budget of $1.7bn following the Actavis/Allergan merger, about 7% of the combined company’s sales. Allegan’s biggest near-term growth driver continues to be the wrinkle reducer Botox, which is used for medical indications like migraine and overactive bladder, as well as aesthetic conditions.

But Read said the lack of overlap between the two portfolios is an advantage.

“Allergan expands our leadership position by bringing very strong franchises in aesthetics, dermatology, eye care, GI, women’s health, urology and anti-infectives,” he said. “Some of you may remember that several years ago Pfizer decided to exit or de-prioritize these areas, not because they were unattractive but because we did not have the scale, expertise or market-leading positions to be competitive. With Allergan, we gain access to expertise and market-leading products in these areas.”

For Allergan, Pfizer brings its broad geographic reach, and the ability to expand to 70 markets in which Allergan doesn’t currently have a presence and another 30 where it relies on distributors.

Management forecasts the merger will yield cost savings of more than $2bn over the first three years of the completion of the transaction, with most of the cuts coming from selling and administrative expenses, and about one-third coming from R&D.

Many of Pfizer’s investors have been pushing for a breakup of the company and have hoped a mega-merger that would bolster its innovative pharma business could pave the way for an eventual split. A separation is still a possibility, but a decision on whether or not to break up the business will now be delayed. The company had been promising investors it would make a decision on a split by the end of 2016, but now says it will wait until 2018 to decide. One positive is that the deal could result in two stronger entities to eventually divide.

For now, a mega-merger will be enough for Pfizer to swallow.

Pfizer/Allergan: An American Icon Heads For Greener (Tax) Pastures

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