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How to Play the Viropharma Buyout


Possible acquisition by Teva could create attractive convertible option.

Editor's Note: This content was originally posted to the Buzz & Banter. It's being republished here for the benefit of the Minyanville community.

With continuing speculation about a deal between Glaxo (GSK) and Human Genome Sciences (HGSI) spurring other biotech takeover rumors, one I just heard has a convertible angle. Apparently there's some talk that leading generic drugmaker Teva (TEVA) (itself one of the granddaddies of convertible issuers) may buy Viropharma (VPHM).

Well, Viropharma has a nice convert for this play. The bonds have recently been trading at about $0.70, although it may not be easy to get an offer close to that today with the rumor mill spinning. Let's just say, for the sake of argument, you buy the bonds at $0.75.

In a cash deal (as most biotech deals are), the bonds would go to 100 upon closing with the "poison put" feature. To review, this feature lets convertible holders require the issuer to redeem bonds at par, regardless of stock price, in the event of a cash buyout. This is designed to protect investors from buying the bond, having the stock drop, then having it taken away from them even though they thought they were buying a longer-dated option on the stock's upside.

Anyway, if the Viropharma rumor proves accurate, investors buying in at 75 would get a 33% return for the period through the closing of a deal. If the rumor proves to be a lot of hot air, they would still own a bond with a 6% yield to 2017 maturity.

A word of caution: 2017 is an eternity from now in biotech land, or really in any market. A 6% yield on a small cap biotech company for that long is nothing in itself to brag about. Put another way, I wouldn't necessarily expect the bonds to remain in the mid-70s if the deal chatter faded away. There might be five to ten points of downside, maybe even more.

Still, all in all, it's not a bad risk/reward.
Position in VPHM.

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