The new tax inversion rules in the U.S. can make the potential acquisition of AstraZeneca less attractive for Pfizer ( PFE ). Although its last bid ailed, Pfizer was likely to make another attempt at it, in our view. The question is: will it happen now? The likelihood has certainly decreased significantly, but the possibility is not out of the question yet. Pfizer is looking for new avenues for growth and considering the current industry situation, investment in Oncology (where AstreZeneca is strong) makes sense. In fact, Pfizer's revenues related to oncology drugs jumped 16% globally in Q3 2014, sustaining the growth rate observed in the second quarter and representing a growth acceleration compared to the first quarter. For the first nine months, the segment's revenue growth stood at roughly 13%. The figure is the highest among the company's primary business segments, with vaccine sales racing past that of oncology drugs only in the third quarter. There is no doubt that Pfizer intends to strengthen its Oncology pipeline, and AstraZeneca can help it with that. The incentive for the deal extends well beyond tax benefits.
Our price estimate for Pfizer stands at $35 , implying a premium of about 20% to the market price.
What Was Pfizer's Tax Incentive And How Change In The U.S. Tax Rules Impact It?
The acquisition of AstraZeneca could have provided an opportunity for Pfizer to shift its headquarters to the U.K., thus resulting in a lower tax rate and significant savings that would boost its earnings. A 6 to 7% reduction in its tax rate could potentially help Pfizer save up to $1 billion. However, the recent changes in the U.S. tax rules seem to have nullified this advantage.
The U.S. Treasury Department revealed the new changes to the inversion rulebook in September, which seems to have been driven by the concern that inversion deals pose a threat to the U.S. government's tax revenue. Effectively, the rules make tax inversion deals, such as the one Pfizer was contemplating with AstraZeneca, less desirable. However, experts suggest that the companies that want to get access to the profits and cash stored abroad without paying repatriation taxes will be affected the most. Pfizer states that it only keeps 10%-30% of short-term funds in the U.S. tax jurisdictions, with the remaining funds kept overseas. The new rules can affect Pfizer to a great extent.
However, That's Not All Pfizer Is Interested In
Pfizer's revenues have declined from $67.8 billion in 2010 to $51.6 billion in 2013 due to the loss of patent exclusivity of some major drugs, including Lipitor. The continued impact of generic competition, as well as the expiration of certain co-promotion agreements for drugs such as Enbrel, have weighed on the company's revenue growth this year. Pfizer had pinned its hopes on some recent drug launches, but the market adoption has been rather slow. For example, its kidney cancer treatment drug Inlyta and lung cancer treatment drug Xalkori have seen weak sales over the last few years. However, AstraZeneca's pipeline could potentially fill in this gap.
Bullish about its oncology pipeline, AstraZeneca's management is targeting a growth of 75% in its revenues by 2023. Earlier this year, the company presented promising clinical trials data on two of its experimental drugs for the treatment of lung cancer. The peak sales for each of these drugs have been estimated to be between $3.0 billion and $6.5 billion. Overall, the company expects to launch 10 new drugs in the next seven years.
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The FDA recently granted approval for Pfizer's ( PFE ) Duavee, which has been developed by its wholly-owned subsidiary Wyeth in collaboration with Ligand Pharmaceuticals Inc.  The drug introduces a novel approach to treating hot flashes in menopausal women, and is also approved for the treatment of postmenopausal osteoporosis (common bone disease due to low estrogen levels). Unlike other drugs in the market, Duavee pairs conjugated estrogen ( CE ) with an estrogen agonist/antagonist (also known as a selective estrogen receptor modulator). The drug has the advantage of protecting uterus lining against hyperplasia, which increases risk of cancer of uterine lining and can happen with estrogen-only treatments. 
Given the reduction in cancer risk, we expect the drug to gain traction. There are approximately 33 million women in the U.S. between the ages of 45-59 (menopausal), and most of them experience hot flashes. [ 1 ] The quality of life can get significantly affected if this common condition is left untreated. Pfizer's existing drug Premarin, which primarily consists of conjugated estrogen, earned over $1 billion in revenues in 2012. We expect Duavee to cannibalize some of Premarin's sales starting from the first quarter of 2014. Furthermore, given that Pfizer is a well diversified company with several other major drugs, Duavee's success will lead to only a small incremental value add.