UPDATE: Merck Animal-Health Deal Supports Profit Forecast
July 30 2009 - 3:17PM
Dow Jones News
Merck & Co.'s (MRK) animal-health deal with Sanofi-Aventis
SA (SNY) Thursday gets Merck one step closer to closing its
purchase of Schering-Plough Corp. (SGP) - and should support
Merck's post-merger vision for earnings growth.
In March, when Merck announced its $41 billion cash-and-stock
offer for Schering, Merck executives said they expected the deal to
result in average annual earnings growth, excluding certain items,
in the high-single digits on a percentage basis through 2013.
That forecast essentially assumed that Merck would retain half
of Schering-Plough's animal-health business and the other half
would be realized in an asset sale. Merck executives in March
discussed a scenario of rolling Schering-Plough's animal-health
operations into Merck's 50-50 venture with Sanofi, called
Merial.
That appears to be just what Merck is doing, albeit in a
two-step process that has an element of uncertainty. Merck said
Thursday that it would sell its 50% stake in Merial to partner
Sanofi for $4 billion cash.
That will give Sanofi 100% ownership of Merial - at least
temporarily - and presumably satisfy antitrust regulators' concerns
about Merck gaining too much share of the animal-health market by
having both a 50% stake in Merial and all of Schering's
animal-health assets. The Sanofi deal is expected to clear the way
for Merck to close its Schering-Plough purchase by year end.
"We believe that the divestiture of our interest in Merial
should remove the potential of any competitive issues" related to
Merck's deal with Schering-Plough, Merck spokeswoman Amy Rose
said.
Merck could choose to hang onto Schering-Plough's animal-health
assets following the companies' merger. But there's more to
Thursday's Sanofi deal that makes that unlikely. Sanofi also
obtained a call option - after Merck closes the Schering-Plough
deal - to combine Merck's newly acquired animal-health assets with
Merial in a new venture that would be 50-50 owned by Sanofi and the
new Merck.
Sanofi would have to pay Merck an additional $750 million to
make this new combination. The outcome would be that Merck and
Sanofi would once again have a 50-50 animal-health joint venture,
but it would include the Schering-Plough animal-health assets Merck
stands to inherit.
Miller Tabak analyst Les Funtleyder suspects Sanofi got the
better end of the bargain because Merck was under regulatory
pressure to deal, while Sanofi, as an existing partner in Merial,
had a close understanding of its worth. Still, it serves the larger
purpose of getting the Schering-Plough deal done, which Funtleyder
thinks is a good move for Merck.
There are lots of moving parts here, but the upshot is that this
appears to be exactly what Merck had in mind in March.
Still, it raises the question of whether a bulked-up Merial
venture wouldn't spark the same antitrust concerns that arose in
the Merck-Schering-Plough deal. Merck and Sanofi say a combination
of Merial and Schering-Plough's animal-health assets would be
subject to antitrust clearance, and Sanofi acknowledged Thursday
some divestitures might have to be made to satisfy regulators.
Plus, Merck's half ownership stake of a Merial with Schering's
animal-health assets would be less than if Merck continued to own
50% of the current Merial and all of Schering-Plough's
animal-health assets.
Barclays Capital analyst Tony Butler says there's a small chance
the U.S. Federal Trade Commission could be uncomfortable with the
option arrangement, which could complicate Merck's plans.
An FTC spokesman declined to comment.
Sanford C. Bernstein analyst Tim Anderson estimates a bulked-up
Merial would contribute about 3% of the new Merck's annual
earnings. Merck could get a slightly higher earnings contribution
if it keeps Schering-Plough's animal-health business for itself.
But to ensure that, it would have to pay $400 million to $600
million to Sanofi to cancer the call option. And it would be
forgoing the additional payment from Sanofi to form the new joint
venture.
"Today's news was not unexpected, but is a slight positive in
that it takes MRK/SGP one step closer to merger completion,"
Anderson wrote in a note.
The Merck-Schering-Plough deal is still subject to approval by
both companies' shareholders, who are scheduled to vote in early
August.
More animal-health deals are on the way. Pfizer Inc. (PFE),
which has agreed to buy Wyeth (WYE), has said some of the combined
entity's animal-health assets would have to be divested to satisfy
antitrust regulators.
In afternoon trading in New York, shares of Merck rose 1.6% to
$30.35, Schering-Plough gained 1% to $26.80, and American
depositary shares of Sanofi were up 4 cents at $33.03.
-By Peter Loftus, Dow Jones Newswires; 215-656-8289;
peter.loftus@dowjones.com
(Mimosa Spencer contributed to this article.)