US drug company Charles River Laboratories International announced on Friday that it was aborting a $1.6 billion takeover of Chinese drug research and development outsourcing company Wuxi PharmaTech.
Charles River is a provider of research models and associated services of preclinical drug development. WuXi is a pharmaceutical, biotechnology and medical device research and development outsourcing company, with operations in China and the United States. Charles River and WuXi announced the takeover in April. The deal has been withdrawn only days ahead of a meeting at which Charles River shareholders were to vote on the acquisition.
Charles River chief executive James Foster said in a statement that he continues to believe the takeover of WuXi "would have resulted in long-term strategic benefits" for the business but conceded that stockholders concerns were causing the company to terminate the agreement. The most vocal opposition to the deal was from New York-based hedge fund Jana Partners. Jana started buying shares in Charles River after the takeover was announced and has become the largest shareholder in Charles River with an estimated 7% stake.
Jana opposed the takeover on the grounds that Charles River is paying an unreasonable price; the deal is based on highly speculative synergies and questionable strategic benefits; Charles River has a poor track record in integrating acquisitions and allocating capital; the deal delivers inadequate returns even if all proposed benefits kick in; and that Charles River could more effectively use share buybacks or strategic alternatives to create value. US shareholder advisory firms ISS/RiskMetrics Group and Glass Lewis were also recommending shareholders vote against the merger.
However, a third shareholder advisory firm, Proxy Governance, was advising shareholders to support the deal. And some sources believe that the strategic benefits for Charles River of buying a leading Chinese drug company were not adequately communicated to its shareholders. "The deal did not have a strong-enough champion in Charles River," said a source.
Moody's said in a research note issued yesterday that "abandoning the deal is credit positive for Charles River because it means the company will not assume roughly $1 billion in incremental debt and will not face the acquisition and integration risks with WuXi". However, Moody's added that the turn of events cast doubts over Charles River's future strategy as the Massachusetts-based company could "adopt more shareholder-friendly policies, potentially to the detriment of creditors over the longer term".
The Friday announcement by Charles River also contained news of a $500 million stock buyback plan. Moody's questioned whether the announcement would appease shareholders and speculated that "there could be a proxy fight at next year's shareholder meeting" in case it did not.
The deal would have been the largest China inbound M&A deal to date. And that mantle seems to be jinxed. In 2008 the Coca-Cola Company attempted to acquire Huiyuan Juice Group for $2.4 billion, the largest inbound M&A deal until then. That deal was canned by Chinese regulators.
WuXi will get a $30 million break fee from Charles River, which is small compensation for the deal's collapse. The other losers are the banks that were working on the deal which are likely to have booked only a token signing fee and have foregone a hefty success fee. Charles River was being advised by J.P. Morgan. The US bank, along with Bank of America Merrill Lynch, was providing a $1.25 billion credit facility to finance the debt component. Credit Suisse was advising WuXi.
For Credit Suisse and J.P. Morgan this is the second high-profile Asia M&A deal they have worked on this year that has collapsed at an advanced stage. Both banks, along with Lazard, were advising Prudential on its $35.5 billion offer for AIA Group, the Asian life insurance business wholly owned by American International Group (AIG). The Prudential deal was of an awesome scale, with some sources saying the fees earned would have set a record for M&A deals. The break fee Prudential paid was around $225 million.
The common thread connecting the Charles River and Prudential deals is that the buyers were paying a premium to acquire a leading Asian franchise and both deals were scuttled by shareholders.
And therein lies the challenge for companies in Western markets that are seeking to secure future growth through acquisitions in Asia. Asian economies have not been hard-hit by the credit crisis. "Companies in the region are growing at healthy rates and have access to capital to fuel their future ambitions," said a source. "So Asian sellers are still demanding full valuations, based on trading multiples which factor in high future growth potential."
Companies in more mature markets trade at multiples based on existing revenue streams. Buyers in the West have to contend with shareholders made nervous by the recent financial crisis, who are not necessarily willing to support deals being struck at growth premiums. Bridging this divide is not easy and could put a damper on efforts by Western acquirers to buy into the Asia growth story.
