Covance Parexel Merger Would Improve Recruitment, CROs Maintain

Covance and Parexel are portraying their proposed merger as a way to improve the contract research companies' appeal to financial markets and to trained professional drug development personnel.

In addition to the more typical business rationales for the merger - scale, strategic fit and opportunity for growth - Covance and Parexel are also pitching the benefits of the combination in terms of share liquidity and personnel recruitment.

"With the increased market cap of the new company, we will move solidly into the mid-cap range, a more stable and liquid market for investors," Parexel CEO Josef von Rickenbach told an April 29 teleconference. With small-cap stocks out of favor on Wall Street, increasing the market cap of the companies represents an end in itself in terms of shareholder value.

The combined company will begin operations with a market cap comfortably in excess of $2 bil., Covance CEO Chris Kuebler noted. When the stock-swap deal was announced, Covance valued Parexel at $800 mil., and the combined company at $2.5 bil.

By creating the world's largest CRO, the companies maintained, Covance Parexel will have an edge in competing for human resources.

"Our talented people will be part of the world's leading drug development company with the opportunity to work with the best minds in drug development, and on the most exciting compounds," von Rickenbach said. "Our leadership position will allow for greater opportunities to advance professionally."

The shortage of trained drug development personnel is becoming a key limiting factor in the growth of the CRO industry. During a recent Institute for International Research conference on CROs, Ibah cited the increasingly competitive market for trained personnel as a "pressure on quality."

A "bidding war" among CROs (and manufacturers) for talent is "rewarding less experienced resources and attracting otherwise uninterested/unqualified resources into the industry," Ibah said.

Covance Parexel intends to hire 3,000 additional people during the first four quarters after the merger, Kuebler said. The combined company's existing employee base is approximately 11,000.

Covance Parexel, Inc. will handle about 20% of the U.S. market for contract research outsourcing, the companies estimated.

The firms are projecting revenues of $1.3 bil. for 1999 out of a projected global market for outsourcing of $5.5 bil.-$6 bil. Covance revenues for 1998 were $732 mil., while Parexel contributed $325 mil. The merged company would have a presence in 27 countries.

The merger must be approved by regulators in the U.S. and Europe. The large number of competitors in the CRO market should ensure a relatively smooth antitrust review, the companies suggested.

The large scale of the merged firm will give Covance Parexel an advantage in negotiating large contracts with pharmaceutical companies, the firms maintain. Both Covance and Parexel already have contracts in the $50 mil.-plus range, and the companies point out that manufacturers are more comfortable signing large agreements with large partners.

The companies offered reassurance that they do not intend to compete with their customers. Covance Parexel intends to remain a "pure service company," von Rickenbach declared. The company does not intend to become involved in owning intellectual property or pursuing product development, he said.

Covance is a little more than twice as large as Parexel in terms of revenues ($210 mil. for the quarter ended March 31, compared to $90 mil.). Covance also has higher operating margins (approximately 11.5%, compared to 8.5%), although the companies report similar net margins (6.2% versus 6.3%), primarily because Parexel records more "other income," reflecting interest from its cash reserves.

Covance said that the merger would be slightly dilutive (3%-4%) in 1999, neutral in 2000, and accretive thereafter.

The combined company will be headquartered at Covance's Princeton, N.J. site. Parexel's Waltham, Mass. headquarters will remain a significant location for the merged firm. Covance's Kuebler will be co-chairman and CEO of the merged firm, while Parexel's Josef von Rickenbach will be co-chairman and president. Covance is being advised in the merger by Lazard Freres, while Parexel is represented by Hambrecht & Quist.