SAN FRANCISCO – We have just come off a record year in the dealmaking milieu with biopharmaceutical mergers and acquisitions (M&As) racking up a total of more than $200 billion in collective value. That amount was well over twice the average annual deal volume recorded in the last decade, according to EY’s Firepower Index and Growth Gap Report 2015: Firepower fireworks.

The EY Firepower Index measures the ability of biopharmaceutical companies to fund M&A transactions based on the strength of their balance sheets and their market capitalizations. For example, a company’s firepower will increase when either its market capitalization or its cash and cash equivalents rise – or its debt falls.

The resurgence was driven by the need of those companies to satisfy key imperatives of adding focus, scale and/or growth. In 2014, the report observed that there was a convergence of forces that lit the fireworks, including rising equity valuations, historically low interest rates and prodigious firepower.

Although it was a comparatively quiet period for big pharma M&As in 2013, they made up for it in 2014, spending nearly $90 billion in an effort to create more focused businesses and close persistent revenue “growth gaps,” which are expected to total $100 billion by 2017.

“The growth gap has emerged as big pharma companies as a whole have seen slower growth than the overall pharmaceutical market,” Glen Giovannetti, EY’s Global Life Sciences Leader, told BioWorld Insight.

FOCUS STORY

A significant proportion of the deals that took place were mainly related to sales and purchases of operating divisions. Nevertheless, the intrapharma transactions that occurred were well received by the market. As a result, valuations rose and boosted firepower, the report said.

“The focus story for pharma really revolves around companies looking to concentrate on the businesses they wanted to be in and their therapeutic focus going forward,” said Giovannetti. “Companies were asking themselves about how they could allocate capital in the most efficient way so they could be globally competitive. This, in the main, was the major catalyst for driving most of pharmas transactions in the year.”

Even with the increased level of dealmaking by pharma companies, their total spending was eclipsed by specialty pharma firms who opened their wallets to the tune of $130 billion in total M&A transactions last year. According to EY’s analysis, powered in part by tax efficiencies, specialty pharmas orchestrated a number of transformative acquisitions that allowed a number of them to gain the scale necessary to compete in a challenging global pricing environment.

In the vanguard of that activity was Dublin-based drug company Actavis plc, which concluded three deals in quick succession. In July, the company closed a $28 billion acquisition of Forest Laboratories Inc., which put an exclamation point on the wave of high-value specialty pharma transactions that included Forest’s own $2.9 billion Aptalis Pharma buy. (See BioWorld Today, July 3, 2014.)

DIGGING DEEPER

Late last year, they dug even deeper to the tune of $66 billion to free Allergan Inc. from the hostile overtures of another giant specialty pharma, Valeant Pharmaceuticals International Inc.

Sandwiched in between those two megadeals, Actavis found time to scoop up infectious disease specialist Durata Therapeutics Inc. for approximately $675 million, plus contingent value rights of up to $5 per share in additional cash payments linked to regulatory and commercial milestones for Durata’s lead product, Dalvance (dalbavancin). (See BioWorld Today, Oct, 7, 2014.)

“Remarkably, the combined total of these deals alone exceeded the total dollar volume of all the 2014 transactions conducted by big pharma companies,” noted Giovannetti.

The transactions carried out by Actavis should act as a wake-up call to big pharmas, the report warned, because superior growth has delivered superior returns. EY found that over the past five years, biotechs and specialty pharmas delivered cumulative growth that was more than five times that of big pharma and that provided total shareholder returns of 257 percent and 332 percent, respectively. In the same period, big pharma’s total shareholder returns increased 116 percent, which was roughly in line with the major averages. However, looking ahead to 2017, big pharma’s projected annual growth rate remains anemic, at just over 1 percent. Through that year, the big biotechs and specialty pharmas in EY’s dataset are projected to enjoy double-digit growth.

STRATEGIES FOR GROWTH

While this year will challenge firms seeking growth through acquisitions as they face a scarcity of affordable prime acquisition targets and increased competition, big pharmas with significant gaps still have strategies that they can employ to reinvigorate their dealmaking strategies.

One of those is the increased use of contingent deal structures, such as option-to-acquire agreements that enable companies to gain access to pipeline assets that could fuel future revenue growth, Jeffrey Greene, EY’s Global Life Sciences Transaction Advisory Services Leader, told BioWorld Insight.

“In addition, pharma companies, while challenged to do megadeals, will still have no problem conducting bolt-on acquisitions in the range of $5-10 billion to acquire additional depth in product areas where therapeutic expertise already exists.”

Even companies with the least firepower should be able to execute those strategies successfully. In most cases, closing growth gaps will likely require a portfolio of deals rather than one or two larger transactions, according to the report.

Going forward, “we expect a year of robust and highly competitive M&A activity in the biopharma industry, marked by a continued rise in deal premiums. This will be challenging, especially for some big pharma firms still in need of acquisitions to meet market growth expectations,” Giovannetti said.

Shareholder activism also is likely to increase, Greene noted. Activists are attracting more funds and support especially from more traditional investors when they believe in the investment thesis of the activist. As a result, that could drive dealmaking activity.

“The efficient deployment of firepower to create strategic franchises better positions companies to prevail in a rapidly changing health care climate,” the report concluded.