Arena Is The Subject Of A Buyout Rumor - Think First

May.20.14 | About: Arena Pharmaceuticals, (ARNA)

Summary

Rumor floated in pre-market.

Eisai and Arena have standstill agreement.

Stock opens in normal ranges.

Sometimes news for the sake of news takes on a life of its own. This appears to be the situation with a rumored buyout of Arena Pharmaceuticals (NASDAQ:ARNA) by marketing partner Eisai (OTCPK:ESALY). The two companies have a marketing deal for the anti-obesity drug Belviq.

In Pharma there always seems to be a bit of speculation about anything from clinical trial results to drug approval, all the way to mega-merger deals. More often than not they prove to be wishful thinking on the part of over-passionate investors. In this case the rumor grew legs with publication by market tracker The Fly On The Wall.

Whether there is any truth to the rumor is something that will be the topic of discussion around social media and the web. There will even be some buyers and sellers of both equities based upon this speculation. What investors should really do is assess what their respective stance would be if a buyout were to happen. Thinking ahead and planning out expectations and strategy is something I always recommend.

Last year, when Eisai spoke to $200 million in Belviq sales between launch and March 31st of this year and $150 million by December 31st of 2013, I went about looking at the projections from a standpoint of what it would take to get there. I graphed a sales pace that essentially required a substantial hockey stick-like inflection in sales. The graph was my interpretation of what the weekly sales would need to look like in order to get to those lofty Eisai projections. I encouraged readers to think about the stated goals and consider what it would mean to their investment. I asked readers to think about what they themselves considered bad, good, and great sales levels. Very few took the recommendation to heart and most rested their case with "Eisai is projecting $150 million and that is what will happen." As the weeks unfolded, it became more and more clear that the trajectory of actual sales was pacing substantially less than the stated goal. Ultimately the sales figure by December 31st was about $29 million and the sales by March 31st were at about $44 million. Arena stock was about $9 when Belviq launched last June with investors seeking huge sales in the first year. As time passed, and sales seemed lower than projections, the stock dropped. Some readers wanted to rest the blame on me for having the nerve to track actual sales vs. expectations. Those that were able to remove their emotions from the equation saw the drop for what it was. A slower than expected launch and sales pace.

The lesson that was learned by some the first time around will serve those readers well as we look to what could potentially happen with Arena and Eisai. For others, there is a new opportunity to set a strategy in place, and formulate your own expectations yet again.

What would you expect in a buyout offer to Arena? Is a cash deal better than a stock deal? What is the current value of the pipeline? What is the future value of the pipeline? What will happen with the prescription anti-obesity space? Can Belviq "own" the market? Will Vivus (NASDAQ:VVUS) revive Qsymia sales or will a generic threat upset the whole sector? Will Orexigen (NASDAQ:OREX) get approval in June for Contrave? Will Novo Nordisk (NYSE:NVO) get a label modification to include obesity on its already approved diabetes drug? Will Zafgen gain traction toward approval on its drug beloranib?

While cash deals sound attractive, they are oft frowned upon because of tax implications. In contrast, an all stock deal avoids taxes, and can be much more friendly and still gives investors potential upside with added stock appreciation later on. Frankly, a deal is not very likely in my opinion.

If there are negotiations between Arena and Eisai, it will give investors some real insight as to the real value of Arena, its pipeline, and its potential. I sometimes get communications from readers stating that Arena is worth $50 or $100. These are mostly hyperbole and wishful thinking, but it does give an indication that there still remain investors that are "keeping the faith" that this stock is the next big thing.

All investors should take a few minutes to assess a potential buyout situation and frame their expectations now. If the deal, whether cash or stock, were to value Arena shares at $10 would that be acceptable to you? Would $12 do the trick? What about $15? Is your number $20 or even $25? Are you in the $50 to $100 camp?

After assessing what you think the buyout value is, look at what others are finding acceptable. One thing that you need to understand is that if the Board of Directors agrees to a negotiation and proposed buyout, the shareholders will vote on the matter. If the number proposed is $15 and the shareholders as a group approve, the deal is done. If you wanted $25, or $50, or $100, you will have no choice in the matter. You can vote your shares on the issue, but that does not mean that you will get what you want. As an investor you need to be prepared to accept something other than what you may want. At the moment you see an "offer" on the table, you really need to step back and understand that such an offer is usually in the ballpark of reality. If your expectations are too high, you may get vastly disappointed.

The bottom line here is to understand what your own expectations are as well as what the street expectations are. The street will usually be closer to what is real than any individual investor. Over the past year it should be crystal clear to investors what happens when expectations are too high. At the moment all that we can do is understand that a rumor was floated and assess our investment and expectations. Stay Tuned!

Disclosure: I am long ARNA. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I have no position in Eisai, Novo Nordsisk, Vivus, or Orexigen

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.