Two players in the gene sequencing space, Illumina and Pacific Biosciences, have scotched their planned $1.2 billion merger roughly two weeks after the U.S. Federal Trade Commission (FTC) posted a 5-0 vote to seek an injunction against the merger. While Illumina is consequently liable for nearly $100 million in termination fees, it could recoup those monies under some circumstances.
The $1.2 billion merger between Illumina Inc., of San Diego, and Pacific Biosciences of California Inc., was formally announced by the two companies in November 2018, but the deal faced substantial regulatory difficulty from the outset. The FTC said in a Jan. 2 statement the deal would have quashed competition in the next-generation sequencing market.
The companies signed an extension to the deal in September 2019 to allow more time to come to terms with regulators, but that deadline was extended to the end of March 2020 in a handshake dated Dec. 18, 2019. Whether the most recent extension was a plausible effort to keep the deal together has been debated, given that the FTC had voted to oppose the merger Dec. 17, 2019, the day before the two companies agreed to give the effort one more extension.
Termination fee due in days
The outlines of the agreement include a payment of $98 million in termination fees to Pacific, which would be due by Jan. 6, 2020. The deal also calls for $34 million in continuation advances, although Illumina may be able to recapture much – and possibly all – those monies. In the simpler and more immediate scenario, Pacific will have to repay those sums if it is acquired by the end of September 2020. The window for repayment is extended to the end of March 2022 if Pacific either raises at least $100 million in equity or debt financing by that date or enters into a change of control transaction.
U.S. regulators were not the only entities that saw an issue with the merger. The U.K. Competition and Markets Authority (CMA) had voiced concerns on more than one occasion over the course of the agency’s evaluation of the proposal. Analysts had indicated at the time that CMA’s opposition could prove difficult to overcome even though the two companies had proposed a set of remedies which would have included compliance mechanisms to ensure that the terms of any CMA sign-off were observed.
Illumina had made several concessions to CMA beyond the compliance oversight, including a concession of 16 Pacific patents to Oxford Nanopore Technologies Ltd., of Oxford, U.K., without royalties. Five of the patents were obtained from the U.S. Patent and Trademark Office, including three for nanopore sequencing. The remaining patents were filed with patent offices in Germany, France, Switzerland, the U.K. and the European Patent Office. The oldest of these patents was granted in July 2016, and thus had most of their exclusivity in front of them.
In a Nov. 13, 2019, investor’s note, Cowen Equity Research analysts said the patent concession suggested that intellectual property was not the primary driver of the merger, and that Pacific and Illumina had believed that CMA might find the offer satisfactory. Still, the Cowen bulletin indicated that CMA was of the view that only a structural remedy would pass muster, and that the only structural remedy of interest to the agency was to put a halt to the deal.
Sam Samad, Illumina’s chief financial officer and senior vice president, said on a Dec. 4, 2019, investor’s conference call that the company is focused on mergers and acquisitions that lower “the barriers of adoption for some of our customers.” In a Dec. 5 conference call for the Piper Jaffray Healthcare Conference, Samad said Illumina disagreed completely with the CMA conclusion that the merger would have been anticompetitive. He indicated that a memorandum of understanding between CMA and the FTC may explain the apparent lack of interest in the matter on the part of the U.S. Securities and Exchange Commission, but added that Illumina has a series of research and development priorities to exercise should the Pacific merger collapse.
Timing a surprise, decision to halt is not
Cowen’s Jan. 2 investor note stated that the timing of the decision to call off the merger “is a bit of a surprise” given the efforts to salvage the deal. However, the decision to withdraw from the effort was not, given the regulatory opposition. There were other companies in the sequencing business that were deemed potential suitors for Pacific in November 2018, including Thermo Fisher Scientific and Exact Sciences, but Cowen said shares for Pacific are “likely fairly valued” in the range of $6.50 per share. That valuation was premised on a $5-share value in a no-deal scenario, although a need to build out the company’s leadership team would have suggested a value lower than the cited figure of $6.50.
Cowen said the outcome of this merger effort suggests Illumina will be “very limited in pursuit of sequencing assets” going forward, although Samad had obliquely addressed this at the Dec. 5 Piper conference. Samad noted that investment in Illumina’s own R&D programs is “really, really important for us,” adding that the company typically invests as much as 20% of revenues in R&D. He did emphasize, however, that any merger and acquisition activity would be driven by an interest in improving adoption of sequencing, although this could focus on assets at any stage of the sequencing process, including post-sequencing interpretation and informatics.
Illumina’s shares (ILMN:NASDAQ) opened Friday at $327 and closed at $322.73, a 1.31% decline. Pacific Biosciences shares (NASDAQ:PACB) opened Friday at $5.16, and the shares increased to close the day up 1.94% to $5.26.