What Does Salix Really Want With Santarus, And Should You Buy?

| About: Salix Pharmaceuticals, (SLXP)

Salix Pharmaceuticals (NASDAQ:SLXP) is a fast-growing multi-product biotech company that focuses on gastroenterology. Last Thursday, the company announced plans to purchase Santarus (NASDAQ:SNTS) for $32 a share, an acquisition that should definitely put Salix on your radar, if not already. But with that said, why is Salix acquiring Santarus and is it good for shareholders?

Keeping shareholders optimistic

Salix reported earnings on November 7 and saw total revenue growth of 29% year-over-year, or $238.2 million. While the company markets about a dozen products, about 85% of its sales come from Xifaxan and Apriso.

Xifaxan reduces the risk of overt hepatic encephalopathy (HE), which prevents the liver from removing toxins in the blood. In the past, Xifaxan has carried Salix's stock, but with quarterly revenue of $165.9 million and growth of 20%, Salix is now seeking new growth drivers.

Hence, Apriso for the maintenance of remission of ulcerative colitis is becoming that growth driver. In this last quarter, sales rose 93% year-over-year to $38.1 million. The growth of this single product is keeping shareholders optimistic.

The driving force behind Salix's interest

The growth of Apriso is very important for investors to understand, because although a Salix/Santarus merger creates 22 marketed products, diversification, and a company with impressive growth, Uceris is likely the driving force behind Salix's interest.

Uceris is Santarus's treatment for mild to moderate forms of ulcerative colitis. Unsurprisingly, it's in the same space as Apriso, can use a similar sales force, and the two products will likely have great revenue-generating and cost-cutting synergies.

Granted, Uceris is not Santarus's best-selling product. The company has a drug to improve glycemic control called Glumetza, which grew 6.3% year-over-year to account for $45.6 million of the company's $98.8 million in quarterly revenue. Then, Santarus has a heartburn medication called Zegerid that added $27.1 million to the company's third quarter top-line.

However, neither of these drugs are driving the company's 80% plus growth. It is Uceris that is exceeding all estimates and have pushed shares to gains of more than 110% in 2013 (pre-takeover gains).

Exceeding all expectations

Uceris launched in the first quarter, and management predicted sales of $20 million for the full year and was very hesitant to estimate peak sales potential. Thus peak estimates were in a range between $200 and $300 million. But like I said, Uceris is exceeding all expectations.

In the first quarter, sales of Uceris were $6.6 million - launched in mid-February - and then in the second quarter, sales were $16.2 million. Therefore, Uceris's sales of $22.8 million in the first six months of the year exceeded the company's full-year $20 million guidance! Then, in the third quarter, sales rose even more to $19.6 million, which continues to show incredible growth.

Since Uceris launched, peak estimates on the drug have risen rapidly, with the consensus being $500 million and some projecting sales to reach $700 million! With that said, it is easy to see why Salix wanted and is willing to pay a large premium for Santarus.

How to invest?

Now, for the most important question, how should you invest on this news?

Personally, I think even if the deal fails to materialize, Santarus is worth every penny of $32 a share. This equates to a market cap of $2.6 billion, which is seven times full-year revenue guidance on a company that has market-leading growth. But as of now, we have to assume there will be no problems, thus investors should reward themselves by taking profits.

As for Salix, this one is a bit more difficult. Certainly, I love the synergies of Uceris and Apriso, and the added growth that Santarus will provide to both Salix's top and bottom line. However, Salix has already said it will pay with cash, and with $817.7 million in cash and cash equivalents, Salix might announce a public offering in the next couple of months. If so, shares will fall, but the question becomes when and at what price will Salix be trading once the announcement occurs?

On Friday, Salix closed at $84, so investors have to determine both an investment timeframe and a price point. As for me, I sold my Santarus shares and purchased Salix for $78 in afterhours trading (Thursday). With acquisitions of this nature, investors must understand that volatility is possible. However, given the synergetic benefits, the growth of Uceris, and the history of marketing success on behalf of both companies, I think the long-term upside trumps any short-term pullback that might occur.

Disclosure: I am long SLXP. 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.

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