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Odds May Be Against a Pfizer-Bayer Deal

The chatter in Europe today is the rumor that Pfizer may be interested in acquiring Bayer. Bayer's stock is trading up on the news.

It's an interesting prospect. Pfizer's stock is in the dumpster and won't start looking up until its pipeline starts to revive after 2011. The constant drumbeat behind CEO Jeff Kindler's leadership has been that he's got to do something. But doing something doesn't mean doing anything -- there are pros and cons to a deal with Bayer that, even if it were done, may leave Pfizer back where it started.

Historically, Pfizer's M&A strategy has been to find a tired old company with one or two blockbuster brands and gigantic legal problems, which Pfizer has traditionally seen as an encouraging sign. That was the case with both Warner-Lambert and Pharmacia. After acquisition, Pfizer ended up bailing those companies out after it emerged that they had been selling Neurontin off-label (leading to a $430 million settlement in WL's case) and engaging in a kickback scheme (leading to a $35 million settlement in Pharmacia's case).

Bayer fits that bill in part: Bayer became suddenly valuable this summer when it submitted its new once-daily anticoagulant pill, Xarelto, for approval in the U.S. The headline: "clinical trials involving 7,000 patients showed there were no issues attributable to the drug," according to Reuters. Revenues on such a product are estimated at $3.15 billion a year because it can prevent strokes in people with heart arrhythmia.

The importance of Xarelto was only heightened when Pfizer and Bristol-Myers Squibb spiked their rival product, apixaban, after it failed a late-stage trial.

That's not the only new hole in Pfizer's future. The company today yanked its antibiotic dalbavancin from all markets worldwide in which it had asked for approval. So Bayer fits the first desired quality for Pfizer by clearly having a blockbuster that Pfizer wants.

As a bonus, Bayer potentially also has massive legal problems looming. I recently noted that Bayer is at the center of a storm over the global mass death of bees. Its pesticide division is suspected of marketing a product that is the culprit in that controversy. If the dice roll badly for Bayer, the company could find itself being sued by every food producer on the planet. (Farmers need bees to fertilize their crops.) And, just to get the conspiracy theorists salivating, shortly after Bayer became the subject of legal action in both the U.S. and Germany over its pesticides, one of Bayer's pesticide factories in the U.S. mysteriously exploded. Lastly, Bayer has also demonstrated an inability to calculate its taxes properly.

By those lights, Bayer looks ripe for a Pfizer takeover. But let's look at the practical problems in such a deal. First, Bayer's market cap is somewhere between €41 and 44 billion. Pfizer's balance sheet shows that it carries about $48 billion in cash and cash-like assets. It also has $50 billion in debt. So a deal would have to be constructed with Pfizer stock and even more debt in order to offer a premium to Bayer's shareholders. Loading up Pfizer with extra debt obligations would make it more difficult for the company to continue making its famously generous dividend payments to stockholders.

There's also the question of Bayer's consumer division, which markets over-the-counter brands like Aleve and Midol. Pfizer just sold all its consumer brands to Johnson & Johnson. Why would it want their equivalents back? (One potential solution: sell the OTC division to help finance the takeover deal!)

I'll leave you with this thought:

Even though Kindler initially made a bunch of noise about making acquisitions, he's clearly pulled in his horns and concentrated on reforming Pfizer from within. He's emphasized biotech by opening a new R&D center in California. He's emphasized Pfizer's cancer R&D pipeline, which has gotten hardly any media coverage. And in his most recent earnings call, he hinted that Pfizer has a plan to continue squeezing Lipitor for revenue even after it goes generic. His strategy chief, Kristin Peck, gave a talk at Columbia Business School earlier this year in which she suggested that Pfizer could still get a premium on Lipitor as a generic that people trust over copycats. The most obvious interpretation of all this is that Kindler is not, in fact, looking to do a giant M&A deal. Rather, he's trying to do the unglamorous, detailed, internal work of positioning a smaller, leaner Pfizer for a post 2011 world. Boring but true.

The stock is just going to have to take its hits until that time.

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