Investment View: Astra is worth the risk after its link up with BMS

Astrazeneca. Our view: Buy Price: 2,882p (+29p)
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The Independent Online

One big business story outside of banking over the weekend was AstraZeneca's teaming up with US drugs giant Bristol Myers Squib for the $7bn (£4.5bn) acquisition of US biotech company Amylin.

The deal, on the face of it, looks anything but cheap. The bidders paid a premium of 95 per cent compared to the pre-bid share price. Amylin remains loss making and last October its shares were down at the $8 level (the acquisition price was $31 a share). And it is facing competitors who are busily working on rivals to its treatments.

However, what Amylin does have are two approved treatments for diabetes, one of which is a potential blockbuster. For starters, BMS and Astra can team up to sell these outside the US (their combined, global sales force is quadruple the size of Amylin's).

The pair already have an alliance when it comes to treating diabetes, and BMS will merge with Amylin before selling Astra a half share in Amylin's future earnings (or losses). So the risks are shared.

Since diabetes, sadly, is a huge growth area, the production of treatments is a good business to be in with the potential to address a major headache for both buyers – falling sales.

The FTSE 100-listed Astra faces a number of threats. First there are the generic copies of Pfizer's Lipitor cholesterol treatment in the US, which present a challenge for Astra's strong-selling Crestor cholesterol drug.

But that's just for starters. Astra stands at a crossroads: with one of the industry's biggest "patent" cliffs. In other words, these are due to expire on many of its key treatments.

Investors are divided on how it should respond. One group thinks it should shrink and focus on returning cash to investors. Another wants more deals like this one.

The interim chief executive Simon Lowth has clearly set out his stall, pitching for the top job with the latter approach.

As a rule, I'm no lover of mergers and acquisitions, which often don't do much for shareholders.

In fact, they cost them. They stump up for the deals, for the fees that enrich investment bankers and then for the extra bonuses the ambitious executives, who drive deals through, then expect to be paid extra regardless of whether they work for shareholders.

However, I'd be willing to make an exception with Astra.

Mr Lowth needs to have a care. The departure of his predecessor, David Brennan, was related to overpayment for another biotech, although going in with BMS means the risk of this one going wrong is at least shared.

However, it seems clear that his chairman, Leif Johansson, endorses the approach and Mr Lowth said he sees more opportunities out there.

As long as he is careful about the targets, and retains pricing discipline (biotechs with approved treatments like Amylin are well aware that they are in a sellers' market), this could prove to be the right approach.

Investors need to be prepared for the risk of it all going pop and Mr Lowth following Mr Brennan out of the door if it does so. But they aren't going to have to pay much for taking that risk. Astra's difficulties find it on a compelling valuation.

The shares were basically flat yesterday, indicating that the market is neutral on the deal, probably for the reasons expressed above.

All the same, the shares trade at a smidgeon over 7.5 times this year's forecast earnings, with a prospective yield that doesn't need any drugs: at 6.5 per cent it's very healthy and the pay out is more than twice covered by earnings.

The Independent's investment column advised a hold in October, with the shares just north of £30. They are a little way off that now.

But with the valuation low, the yield high, not to mention the pharmaceutical sector's defensive qualities handy right now, I think there are reasons to update that stance.

Astra has questions to answer. It has to finally settle on a permanent chief executive, and reassure investors that he won't go overboard when it comes to deals. That said, given how cheap the shares are, it is worth taking a risk with them. So buy.

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