M&A's great -- but beware of the pitfalls

With many biotechnology companies struggling to find investor support, the idea of banding together against the harsh elements -- merging or acquiring a like company -- is gaining currency. But there are many snares for the unwary, warns mergers and acquisitions specialist Nathan Drona.

"You can never fix a poorly devised M&A plan," Drona says. "It's the biggest decision a company can make."

Drona and his business partner Frank Svenfelt have recently set up an investment bank specialising in the biotechnology and life sciences, Challiss, with offices in Sydney and New York.

It's a timely move, in a sector ripe for structural change, and struggling through growing pains. "If you look at the US and EU -- 15 years ago in the US, and 10 years ago in the EU -- the growing pains were fairly similar," says Drona.

The distrust which is currently weighing the sector down is due in part to the niche, undiversified nature of many Australian biotechs, he believes. "You need companies that have stratified and diversified risk profiles, which can attempt to have multiple shots [at success]," he says. "Distrust has built up in the sector -- which is probably a reason we're in this situation now."

Drona has advised on AGT Biosciences' merger with Californian firm ChemGenex in April last year. This transaction, he said, had the elusive quality of "synergy" -- expertise in the same target area which meant that the companies were better together than apart.

Since then, there have been some much smaller Australian-US mergers, including AustCancer's takeover of US vaccine developer Galenica Pharmaceuticals, Benitec's acquisition of Californian RNAi therapeutics company Avocel, and EvoGenix' acquisition of Absalus.

But other high-profile matches have ended in stillbirth, most notably Agenix and Peptech's failed merger earlier last year and US pharma Cephalon's abandonment of its overtures to Sirtex in 2003. And despite both solemn intentions and scuttlebutt, actual M&A deals in the Australian life sciences sector have been rare.

Why the lack of activity?

"Mergers are a fact of life for biotech companies in the US and EU," says Drona. "In Australia, because so few companies have succeeded in doing it, it's easier to not take the option [of merging] than to fail spectacularly."

However, sitting out the dance can be a dangerous move in itself, he warns. "M&A is the lifeblood of the life sciences -- it's not going away. If you think of the life sciences as a chess game, M&A is nothing more than a tactical move that changes the nature of the game. But [it] must be motivated by strategic purpose and an improved competitive position for the players.

"No company is untouched during the M&A game. There are also hostile moves.

"Some options on the table may be bad ideas which will destroy shareholder value. Sometimes what you don't do is as valuable as what you do do."

Pitfalls

And there are some major pitfalls which biotechs in the current funding drought should be wary of.

A careful player, Drona says, will not necessarily be focused on cost savings. "More than half of all M&A transactions fail. When you're dealing with companies with intangible assets it is absolutely critical that you can explain how you're going to create value together. It means having the discipline to model out these synergies.

"People talk about synergies, but haven't worked to quantify and challenge those assumptions during the deal-making process."

Also dangerous would be a parochial approach to meeting a potential partner. Companies must prospect overseas and measure themselves by world-class standards, weighing up local possibilities against transactions which are available offshore, he says. "Even if transactions are local and domestic, you need to have a broad stroke.

"Everyone is talking about consolidation, but it is rare to see companies measuring the result versus offshore ideas."

But the biggest danger to the sector overall could be a rash of 'short-termism' -- driven by impatient boards and investors.

"The boards here are generally not sector-savvy," Drona says. "The danger is that biotech companies which are too conservative when approaching their projects put themselves in a poor position versus their international competitors."

Likewise, institutions wanting to make money from biotech need to "stand fast" rather than trade on short-term price movements. "You may make temporary profits but you will compromise the long-term prospects of the sector," he says.