Summary
- Merck is acquiring ArQule at quite a hefty premium, what is a bolt-on deal for the company nonetheless.
- The company continues to thrive on Keytruda sales growth, yet non-Keytruda sales are up as well.
- Merck continues to offer solid appeal here, as I am looking to add op dips again.
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Merck (MRK) continues to employ M&A to bolster its leading position in oncology, as it has acquired ArQule (ARQL) in what seems to be quite an aggressive move to add to its pipeline. Despite the aggressiveness, ArQule is just a bolt-on acquisition for a firm the size of Merck which continues to add to the pipeline, driven by very strong operational momentum.
The Deal
Merck has reached a deal to acquire ArQule for $20 per share in cash, working down to a $2.7 billion equity valuation. The company focuses on so-called kinase inhibitor discovery and development for cancer patients and other diseases.
The company has a leading candidate called ARQ 531, being an oral Bruton's tyrosine kinase inhibitor, which is currently in Phase II for treatment of B-cell malignancies.
ARQ 531 has shown a manageable safety profile in early clinical trials while early signs of anti-tumor activity looked good for patients with relapsed or refractory chronic lymphocytic leukemia and Richter's Transformation.
The deal once more shows the potential for investors in the biotech sector, although timing and picking winners is everything in this sector. ArQule was actually already around during the dotcom bubble, and saw a typical boom-bust cycle like its peers, yet lack of progress and cash burn made that shares traded at just $1 and change in 2018. Good research results pushed shares up to $6 last year yet shares started 2019 down to $3 again, before continued good research results pushed shares up towards $10, with Merck doubling that price level in its buyout attempt.
Really Just A Bolt On Deal
For Merck even a $2.7 billion deal to add to the pipeline is more or less an educated guess and in fact there is no noteworthy impact seen in the share price of Merck in response to the deal.
The company ended the third quarter with cash and investments totaling $10.1 billion, although it has $26.1 billion in debt on its books as well. The resulting $16 billion net debt load will increase to $18.7 billion following the deal, yet it remains very modest for a firm the size of Merck. Based on adjusted earnings metrics the company is already earning about $15 billion in operating earnings, not even accounting for the depreciation component (albeit relatively small given the nature of the operations).
The addition to the pipeline helps to bolster the future outlook of Merck, as third quarter results were pretty strong already. Total sales for the quarter were up 15% to $12.4 billion, with growth of course driven by a 62% increase in Keytruda sales towards $3.1 billion, now making up a quarter of total revenues.
Adjusted earnings were up 22% to $3.9 billion and trend at an annualized rate of $6 per share, although GAAP earnings came in just around half of that number for the third quarter. It should be said that the gap between both earnings metrics was particularly large this quarter on the back of a near billion pre-tax charge on the acquisition of Peloton Therapeutics. The company furthermore incurred $300 million in pre-tax restructuring costs and nearly a billion in deal related costs. Of interest is that Peloton Therapeutics was acquired at little over $2 billion earlier this year, as the size and soon timing of the write-down are not really a comforting sign of course.
With a share count of nearly 2.6 billion shares, Merck is valued around $230 billion at $88 per share, making for an enterprise value of nearly $250 billion upon closure of the deal. This really shows that the latest deal is simply an educated guess on the better fortunes for Merck, equivalent to about 1% of the overall valuation.
