The Pfizer-Amgen Deal Worst-Case Scenario

Last Updated Dec 17, 2008 12:07 PM EST

amgen.gifDeutsche Bank analyst Barbara Ryan has again gone public with her desire to see Pfizer get off its pile of cash and make a dramatic mega-buy that would solve its pipeline hole. This time she thinks Amgen ought to be the target. BNET readers have been down this road before. A couple of weeks ago Ryan suggested Pfizer buy Bristol-Myers Squibb. Shortly after that, Jim Cramer said Pfizer ought to buy Allergan. Let's look at a potential Pfizer-Amgen hookup. Using the sensible principle that it's always worth knowing what the downside is, what is the worst that could happen?

On Pfizer's side, the company just levelled its dividend payout, forgoing a rise for the first time since -- ulp! -- I was born. The speculation is that the company is hoarding cash, ready to strike. It's worth pointing out that Pfizer-Amgen (Pfigen? Amzer?) is not a new suggestion. Credit Suisse's Catherine Arnold was batting around the same idea in March. (But then, Arnold also said Sepracor might be a target, and that didn't happen either.)

The major difference between March and now is that in March Amgen was cheap, trading near $40. Now, Amgen is expensive, trading above $55 since August. If Pfizer is to offer a premium to Amgen shareholders, that premium just got much more expensive. Thus the financial damage to Pfizer in terms of lost cash, extra debt and a downgrade of its credit rating would be greater now than had Pfizer acted in spring.

Second, Amgen isn't a problem-free acquisition, and we're not talking about its legal problems. Sales of Aranesp were crimped last quarter. Sales of Epogen have flattened. Enbrel will face competition from a Centocor-marketed rival in 2009. An upcoming ruling by the FDA could reduce Vectibix's sales. And many of these brands have been on the market a long time -- meaning their patent lives aren't that long. (Epogen was approved in 1989, Neulasta in 1991, Enbrel in 1998, Aranesp in 2001.) Yes, Amgen has five drugs in its phase 3 pipeline, but pipeline drugs carry a cashflow uncertainty that approved drugs do not.

So there's a question of how long it would take Pfizer to earn back the $61 billion-plus that Amgen would require. Don't forget that Roche has been unable to raise the $45 billion it needed to get Genentech. Pfizer will need access to the credit market because it holds only $26 billion in cash.

Another unfortunate variable for Pfizer is that Amgen is locked into a profit-share agreement with Wyeth that costs Amgen one third of its entire sales and marketing budget. The cost of that agreement is rising:

Wyeth profit share expenses increased 22 percent to $298 million in the third quarter of 2008 versus $245 million in the third quarter of 2007. The Company still expects Wyeth profit share to be one third of adjusted SG&A expenses for the full year 2008.
That agreement -- which Pfizer would presumably remain bound by post-acquisition -- is having a deleterious effect on the productivity of Amgen's sales reps. Amgen earned a respectable $4.31, for every dollar spent on sales reps last quarter. But that yield is down from the year before, when Amgen earned a sterling $4.95.

Pfizer, by contrast, earns $3.40. That's much less, but it's trending up over time, based on CEO Jeff Kindler's ruthless efficiency drive (and tons of layoffs). In other words, a Pfizer-Amgen pairing would put together a company that is becoming less efficient over time (Amgen) with one becoming more efficient (Pfizer).

This would go completely against Kindler's long-held belief that Pfizer needs to remake itself from the ground up as a smaller, more nimble, more entrepreneurial, cancer-focused company. As such, an acquisition of Amgen would reek of the adventurism shown in the Lilly-ImClone deal.

Only one thing is for sure: if enough analysts name enough Pfizer target companies then eventually one of them has to be right.