At recently published article in the Financial Times grabbed my attention. Citing data from Dealogic, it claimed that in 2012 and 2013 investors rewarded companies with increased share prices after announcing an intention to acquire another company. This is something I had expected based n my own observations, but the Dealogic data seems to have some rigour behind it. This information is unusual and interesting, because it contrasts with the negative reaction typically observed in prior years. See the chart below for context.

Drug Industry

Students of financial history will know that acquisitions typically destroy value for shareholders in the acquirer, hence the traditional negative reaction of investors to acquisition announcements. The article quotes a failure rate of acquisitions of around 70%, which tallies with a number of studies I have observed in the past. It seems to me that the current phenomenon is likely a function of today’s vanishingly-­?low interest rates. Ultra-­?cheap credit and low opportunity costs have fostered a radical change in equity investors’ attitudes towards deal making. This has been buttressed by the attitude of the credit providers who, if the data on ‘cov-­?lite’ oans and PIK note issuance is anything to go by, will warmly embrace nearly any opportunity to lend these days.

These days, there may be no better example of this phenomenon at work than in the specialty drug industry. Valeant Pharmaceutical (VRX) is a roll-­?up strategy that has, thus far, achieved seemingly outstanding results. So outstanding that there are now a number of copy-­?cats hoping to replicate its successes. These include Actavis (ACT), Endo Pharmaceutical (ENDP) and, to a lesser extent, Forest Labs (FRX). (We note – with a raised eyebrow – the recent announcement of a tie-­?up between two of these copy-­?cats, Actavis and Forest Labs.) It seems that each time Valeant even mentions a potential deal, the stock rises – and ACT and ENDP rise with it in sympathy. With each deal, investors seem to build in expectations of further earnings accretion on future deals – deals that have not even been conceived yet. There is exuberance in investors’ attitudes here. However I cannot be certain whether that exuberance is irrational yet. To make such a conclusion, one would have to undertake really thorough research and I have not done so yet. It is also not fair to over- generalise; I am most familiar with Valeant’s strategy and know a lot less about ACT, ENDP and FRX. Itappears as though the strategies vary somewhat amongst the group.

 

Full article via valueinstitute