While it’s not uncommon for legal action to ensue after a seller has accepted a buyer’s offer, the rapidity with which a multitude of investigations were launched over the February 22, 2011 announcement of Forest Laboratories’ (NYSE:FRX) acquisition of Clinical Data Inc. (NASDAQ:CLDA) strongly suggests that this merger is far from a done deal. Within 24 hours of the announcement, 10 investigations were announced, and the current total is 15. What exactly happened to cause such outrage?
On January 24, 2011, Clinical Data’s Viibryd (vilazodone) was approved for the treatment of adults with MDD, major depressive disorder. This represented the most widely-anticipated depression drug to be approved since Eli Lilly’s (NYSE:LLY) Cymbalta in 2004, and what Randal J. Kirk (chairman, 52.5 percent shareholder and a fellow Radfordian) deemed “the first genuinely new antidepressant in 14 or 15 years.”
As a result, the stock catapulted 67 percent (from $15.03 to $25.17) on the first day of approval. In ensuing weeks, on expectations of either a $40-plus buyout or a sure blockbuster drug, CLDA proceeded to trade as high as $34.23.
However, on February 22, investors were disappointed. Forest Laboratories and Clinical Data announced a board-approved $30.00 cash and $6.00 contingent offer. CLDA stock immediately fell 8 percent from the previous trading day’s closing price of $33.90, which was too high compared to the NPV of Forest’s offer.
Now it appears that many Clinical Data shareholders (excluding the 57.5 percent owned by insiders) are crying foul. They intend to argue that the proposed acquisition price is inadequate, and that Clinical Data’s Board of Directors did not act in the shareholders’ best interest, and that the Forest offer is just a way for Mr. Kirk to quickly cash out and focus on other ventures. And while the market does not always have it right in an acquisition scenario, in this situation, Clinical Data shareholders are correct in demanding a higher price.
Forest Laboratories' Buyout Valuation Analysis
Current Forest Laboratories Buyout Value: $1.2bn
Major Depressive Disorder Market Opportunity
MDD is a 212 million prescription market opportunity where the most commonly prescribed agents make up $12 billion in sales, with no drug therapy having more than 25 percent market share. In FY 2010, Forest’s Lexapro achieved $2.3bn revenues with only 14.4% prescription market share in the SSRI (selective serotonin reuptake inhibitor)/SNRI (selective serotonin and norepinephrine reuptake inhibitor) antidepressant category.
Despite the availability of multiple antidepressant medications, patient dissatisfaction is still high. Two-thirds of patients fail first line SSRIs, and greater than 50 percent fail any kind of treatment. Patients also complain about sexual dysfunction (38-58 percent of patients on SSRIs) and weight gain.
Why Clinical Data’s Viibryd Can Win
Physicians are looking for alternatives to existing medications. Currently, antidepressants experience poor patient adherence because of questionable efficacy and undesirable side effects. Clinical Data’s Viibryd would be of great interest, as it not only represents a new mechanism of action, but also brings hope of a better outcome. To quote Kirk: “I haven’t spoken to anyone who doesn’t appreciate the differentiation this has.”
First, Viibryd is a dual-acting modulator of serotonin neurotransmission. It is both an SSRI and a partial agonist of the 5-HT1A receptor (a similar mechanism to anxiety drug Buspar, but without the dopamine and norepinephrine receptor antagonist), as opposed to being just another SSRI or SNRI alone. And while on the surface having a SSRI combined with a partial agonist of the 5-HT1A may not seem novel, clinical trials demonstrated the distinctiveness and benefits of this new approach. Viibryd addressed many of the chief problems of existing antidepressants -- patients experienced a one-week onset (faster than the two to four weeks for traditional drug therapies) and rarely complained of sexual dysfunction and weight gain. All three of these aspects should result in better patient adherence. With increased patient adherence, better results are likely to follow.
Viibryd also showed significant effectiveness in treating anxiety. Other branded MDD drugs, Cymbalta (Lilly), Effexor (Pfizer (NYSE:PFE)), Lexapro (Forest) and Zoloft (Pfizer), are all indicated for at least one type of “anxiety” disorder. Should Viibryd receive an anxiety indication like its competitors, its revenue potential would definitely increase.
Viibryd’s Revenue Potential Is Enormous
Worldwide Peak Sales of Branded MDD drugs based on Fiscal Year Ends
- Cymbalta: $3.5bn ($2.5bn U.S.) achieved in 2010.
- Effexor: $3.9bn achieved in 2008.
- Lexapro: $2.3bn achieved in 2010, representing 14.4% market share, according to FRX.
- Zoloft: $3.4bn achieved in 2004.
Cymbalta’s and Lexapro’s first two and a half years may give us an idea of what a successful, new product launch would look like.
1. Cymbalta (FY December; approved for MDD in Aug. 2004; Approved for General Anxiety Disorder in Sept. 2004):
- 2004: $94mm ($93mm U.S.) (at most five months of sales).
- 2005: $680mm ($636mm U.S.).
- 2006: $1,316mm ($1,159mm U.S.).
2. Lexapro (FY March; approved for MDD in Aug. 2002; approved for General Anxiety Disorder in Dec. 2003):
- 2003: $245mm (at most seven months of sales).
- 2004: $1,089mm.
- 2005: $1,605mm.
Clinical Data Valuation Considerations
In the biotechnology and pharmaceutical industry, the enterprise value to revenue multiple is often used to assess acquisition values (though other metrics will be briefly mentioned). Since there are no true comps, Forest Laboratories with its Lexapro product, and Shire PLC (SHPGY) with its large ADHD (attention deficit hyperactivity disorder) franchise, will be used to establish a range of valuation multiples for consideration.
Shire was chosen because ADHD is another hard-to-treat disease where many patients fail therapy, and it has a sufficiently large target market (approximately 15 million potential ADHD patients, according to Shire, versus approximately 18 million potential MDD patients, according to Clinical Data). It also represents a company with above average growth prospects and undue pressure from patent expirations.
1. Forest Laboratories -- April, 1 2003 (after first seven months of Lexapro sales)
- Enterprise Value = $17.0bn.
- FY 2004 Sales: $2.7bn (40% Lexapro).
- EV/FY 2004 Sales Multiple: 6.3x.
2. Forest Laboratories -- February 25, 2011 (Lexapro patent expires in March 2012).
- Enterprise Value = $4.9bn.
- FY 2012E Sales: $4.5bn (55% Lexapro).
- EV/FY 2012E Sales Multiple: 1.1x.
3. Shire PLC -- February 25, 2011.
- Enterprise Value = $16.4bn
- FY 2012E Sales: $4.3bn (36% ADHD products).
- EV/FY 2012E Sales Multiple: 3.8x.
Clinical Data Price Targets
For the purposes of establishing a base case scenario, a 3.5x EV/Revenue multiple will be used, the midpoint of Forest Laboratories’ valuation depicted above. This multiple is chosen with recognition that Viibryd has compelling attributes that could enable it to gain significant long-term share and become a blockbuster drug in a large, high-need market, but will also have to compete in a more mature antidepressant field than in 2004. Also, it is very rare for a company with this type of product and industry attention to trade towards the lower end of the valuation spectrum.
With all this in mind, an EV/Revenue multiple within a range of 3-6x for CLDA would seem appropriate. Let’s keep in mind that if Viibryd experiences a launch profile in line with historical precedent, a 6.0x multiple could be realistic.
Assuming increased competition has impacted the growth trajectory of new product launches in the antidepressant market, revenues for FY 2012 and 2013 will be discounted 60 percent (similar to the impact felt by Cymbalta in its early years).
- FY 2012: $382mm * 3.5 = $1.3bn.
- FY 2013: $695mm * 3.5 = $2.4bn.
- FY 2012: $382mm * 15% profit margin /55 Shares Outs. = $1.04 * 30 = $31.25.
- FY 2013: $695mm * 20% profit margin /60 Shares Outs. = $2.32 * 25 = $57.92.
- FY 2014: $1,043mm * 25% profit margin /65 Shares Outs = $4.01 * 20 = $84.23.
Based on the valuation scenarios, a $1.2bn deal is only fair if an investor is looking short-term. For most CLDA shareholders, it would behoove them to wait for increased adoption and sales of Viibryd. The blockbuster potential and realistic adoption of Viibryd is not priced into this acquisition price (as a “true to hype” launch would render the above numbers conservative).
While $1bn in sales may seem like a lofty target, this is likely to represent less than 5% of total antidepressant prescriptions. I for one would not be so quick to part with my shares for $1.2bn for a medication that could eventually be among the top in its field.
If it is also not clear from this analysis, the $6 contingent, which basically assumes achievement of blockbuster status, falls well short in valuation. While investors can understand the reason Forest Laboratories would like to hedge its bets, investors in Clinical Data have little concern for whether this is a good deal for Forest shareholders. Maximizing CLDA shareholder value could be mutually exclusive.
Furthermore, on an individual basis most CLDA shareholders have very little ownership in Clinical Data. Unlike Kirk, who owns more than 50 percent of the company, CLDA shareholders do not need to accept a liquidity discount. If we assumed that the $1.2bn price included a discount that a large shareholder would typically need to accept for an exit, the Forest deal is low. Think of the Forest deal as an IPO for Kirk.
While CLDA could mark time in the near-term, as a stand-alone company the next two to three years’ return would likely be substantial and above market averages – great from an investor or a portfolio management perspective. The $1.2bn deal also subscribes no value to Stedivaze (apadenoson), which will start Phase 3 trials in 2011 for cardiac stress imaging. Most analysts currently have assigned values ranging from $2-4/share.
Given that the Forest deal has already been approved by Clinical Data’s Board of Directors, investors are advised to purchase CLDA stock at current levels. The upside of holding shares compared to exiting now is high. CLDA investors can win in three ways: $1.2bn is underpriced for a buyout, and a higher offer could come; Clinical Data as a stand-alone company is positioned to have a great long-term future; and, if the deal is approved, you pay $30.30 (February 25, 2011 close) to get $30.00 cash and contingent rights.