Proxy adviser urges rejection of Icos sale
Seattle Times business reporter
One of the nation's leading proxy-advisory firms, Institutional Shareholder Services ISS), recommended Tuesday that Icos shareholders vote against Eli Lilly's proposed purchase of the Bothell biotech company.
In a 23-page report, released one day after its analysts met privately with Icos executives, ISS laid out a methodical critique of the takeover. It does not argue with the strategic reasons for the sale but contends the price of $32 a share, for a total of $2.1 billion, is too low.
"It's clear why Lilly wants to buy Icos and wants to buy the company now," the report said. "Icos recently turned profitable, and both the company and the Street project attractive growth for the foreseeable future."
The report criticizes the timing of the deal, announced two days before unexpected positive news that profit had quadrupled for the joint venture that markets the Icos impotence drug, Cialis.
"It really would have been in the interest of shareholders to have important news about Cialis sales and prospects factored into the stock price before Lilly submitted its bid," Chris Young, director of M&A research for ISS and author of the report, said in an interview. "Then they could have decided if the bid was really sufficient."
The report also criticizes Lilly's extensive veto rights in the takeover talks, which gave Lilly the right to block other potential suitors.
In addition, ISS questions the need for last-minute sweetener bonuses to Icos management, worth $13.6 million.
HealthCor Management, a 5 percent stockholder in Icos, has argued the company is worth at least $40 a share. John Schroer, a member of HealthCor's investment team, said he was happy with the ISS report.
"We have put a lot of resources and brainpower into our analysis, and we've presented a compelling case," he said. "We are pleased with the decision by ISS."
Lacy Fitzpatrick, a spokeswoman for Icos, noted that ISS only makes recommendations, and that institutional investors make up their own minds on how to vote.
Icos still considers the $32 price "very attractive" and in the best interest of shareholders, based on the board's careful analysis, she said in a statement.
The shareholder vote is Dec. 19 at Icos headquarters in Bothell.
Young said ISS mostly recommends in favor of acquisitions. The firm, based in Rockville, Md., has more than 1,600 clients worldwide subscribed to its advisory services for help in proxy voting and studying corporate-governance issues.
Young said the Icos sale was unusual and worth voting against, for two main reasons. The company's joint venture with Eli Lilly made it impossible to negotiate with another bidder, and the timing of the sale announcement put a cap on Icos' price two days before positive news.
He did not dispute the deal's underlying strategy. Young said it makes financial sense for Eli Lilly and should be good for Cialis to have one company in control instead of an "unwieldy" joint venture.
But for shareholders, the ISS report concluded that at $32, the 18 percent premium over Icos' prior-day stock price means Lilly is paying "significantly below average" compared with other biotech takeovers.
Icos has longstanding ties to Lilly. It formed a joint venture with the Indianapolis-based drug maker to develop and market Cialis in 1998.
Cialis is on pace to reach up to $950 million in global sales this year and to top $1 billion next year. In the United States, the world's largest impotence market, it has 26 percent market share but still trails the original drug, Pfizer's Viagra.
The ISS report notes Icos was unprofitable until recently, and its shares have been volatile because it depends on a single product.
HealthCor, in its analysis, argues that erectile-dysfunction prescriptions are growing again after a lull, and ongoing clinical trials of Cialis in other diseases — enlarged prostate and pulmonary arterial hypertension — could significantly boost sales.
Young noted that Icos management has "flip-flopped" its role, as takeover targets often do, from bullish to bearish.
He said Icos is laying out a more negative case about its future to encourage shareholders to grab the $32 price.
Recently, Young said, Icos has downplayed the potential of Cialis' new disease indications on future earnings and has started warning about generic competition when Viagra goes off patent in 2012.
It also has backed away from a fairness opinion issued by Merrill Lynch, which was attacked by HealthCor; now it is using a discounted cash-flow analysis to justify the $32 price.
Young said such an analysis can be useful but is only one piece of the puzzle.
The ISS report was released after markets closed Tuesday. Icos stock lost 10 cents, to $32.46.
The stock has traded above the $32 offer price since HealthCor began agitating Nov. 2 for a higher price. Young said that suggests shareholders think it is likely Lilly will raise its bid to assuage the activist shareholders.
A Lilly spokeswoman did not return a call for comment.
Fitzpatrick also updated the status of Icos' employees. She said about 390 of the 550 employees in Washington state have received 60-day layoff notices or have been asked to stay through a transition period. The only departments left unsure of their fate are drug discovery and facilities.
The company has asked employees in its contract-manufacturing department to stay through 2007 to honor contracts Icos has to third parties.
Luke Timmerman: 206-515-5644 or email@example.com
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