Allergan Attempts to Elude Ackman Bid Fuel Bearish Bets: Options

Aug 28, 2014 12:24 am ET

(For an Options column news alert: SALT OMA.)

Aug. 28 (Bloomberg) -- Should Bill Ackman and Valeant Pharmaceuticals International Inc. fail in their bid to take over Allergan Inc., options traders will be hedged.

There are 1.4 bearish puts on Allergan for each call outstanding, close to the highest level since 2008, according to data compiled by Bloomberg. Last week, two-month contracts betting on a decline in the shares reached the most expensive level since 2011, compared with those betting on a gain.

The battle is stretching into a fifth month. Allergan has rejected two takeover proposals, said it may do its own deal to fend off the suitor and filed a lawsuit alleging insider trading between Valeant and hedge-fund manager Ackman, whose Pershing Square Capital Management LP owns 9.4 percent of Allergan shares.

“People were impressed when Ackman took a stake and kind of saw it as an ordained conclusion that he would get Allergan,” Scott Houlihan, a merger arbitrage research analyst at Purchase, New York-based Ota Limited Partnership, said via phone. “I imagine everyone in the arb community underestimated the will of these guys to get away.”

Valeant Offer

Valeant teamed up with Ackman’s Pershing Square in April to make a cash and stock offer for Allergan. The company’s shares jumped 15 percent the day of the announcement and closed yesterday at $162.76, up 47 percent for the year. Valeant has raised its offer twice, recently to $72 in cash and 0.83 of its own shares for each Allergan share. The offer was valued at $54.2 billion, or $168.79 a share, as of yesterday’s close.

Allergan said in a complaint filed Aug. 1 that Ackman and his firm secretly colluded with Valeant to let Pershing Square acquire Allergan shares as a tender offer was being put together. Valeant and Pershing Square called the suit a “desperate attempt to delay” a special meeting requested by Ackman to remove most of the company’s board and add six new directors.

Bonnie Jacobs, a spokeswoman for Allergan, declined to comment.

Valeant built itself into a dealmaker through its 2010 merger with Biovail Corp. Following the deal, Valeant bought more than 30 businesses, data compiled by Bloomberg show. David Pyott, Allergan’s chief executive officer, has encouraged shareholders to keep the Irvine, California-based company independent while rejecting offers from Valeant in May and again in June.

Mounting Debt

Valeant would “gut Allergan’s research and development program to inflate short-term profits and use Allergan’s cash and cash flow to service Valeant’s mounting debt,” the Botox maker said in its Aug. 1 lawsuit.

Pyott last month announced a restructuring including 1,500 job cuts, about 13 percent of the company’s global workforce. The restructuring will create about $475 million of savings in 2015, according to a July 21 statement.

Buying a sizable competitor is one way Allergan could make itself a more expensive target for Valeant, which has $17.2 billion in outstanding debt. During an interview on Bloomberg Television last month, Valeant CEO Michael Pearson said a deal could “force us to walk.”

“It seems people betting on the downside are more nervous this thing may collapse and that short-term people that got into Allergan are going to flee,” Michael Waterhouse, an analyst at Morningstar Inc., said via phone. “The biggest thing that could derail it would be if Allergan could do its own acquisition.”

Options Skew

Allergan approached Salix Pharmaceuticals Ltd. about buying the drugmaker in recent months, people with knowledge of the matter have said. In July, Pyott told Bloomberg News his company “has a lot of options,” after some analysts saw Allergan as a potential buyer of Shire Plc, later bought by AbbVie Inc.

Puts betting on a 10 percent drop in Allergan cost 4.7 points more than calls betting on a gain of that size, according to data on two-month contracts compiled by Bloomberg. The price relationship known as skew has averaged 3.3 points this year. Last week, it reached a three-year high of 11 points.

There are 1.4 puts outstanding for each call on Allergan, twice the 10-year average ratio of 0.71, data compiled by Bloomberg show.

More Movement

“People are pricing in a lot more movement,” Jared Woodard, a senior equity derivatives strategist at BGC Partners LP, said via phone. “With implied vol where it is now versus back in May, it’s a pretty significant increase in the cost of these positions even though the stock price has been mostly unchanged.”

The top three Allergan contracts with the most open interest are puts conveying the right to sell the shares. The most-owned contract has a strike price of $140.00 by Oct. 18, 14 percent below the current share price.

The Chicago Board Options Exchange Volatility Index, the measure of stock volatility known as the VIX, rose 1.3 percent to 11.78 yesterday.

Allergan shares are close to unchanged since jumping after the initial offer on April 22, while Valeant stock has declined 14 percent. The decline in Valeant shares could pose a problem for the acquisition if the price continues to fall, according to Keith Moore, an event-driven strategist at MKM Holdings LLC.

“As Valeant goes down, the less likely it is they can get the Allergan company board or shareholders to approve it,” Moore said in a phone call from Stamford, Connecticut.

Valeant shares have rebounded 9.4 percent since Aug. 7, as the company extended its offer to the end of the year and Ackman won a bid to fast-track litigation that seeks to force Allergan to hold a shareholder meeting as part of the takeover bid.

“It puts a lot more pressure onto Allergan that Ackman got that meeting,” Morningstar’s Waterhouse said. Still, Allergan hasn’t shown signs of backing down, he said. “Allergan has made some really bold moves, it really seems the management is focused on not letting the deal go forward.”

--With assistance from Caroline Chen in New York and Jef Feeley in Wilmington, Delaware.