Local drug maker on growth, merger high

FORT COLLINS — While Fort Collins-based pharmaceutical firm Tolmar Inc. is busy taking on 40 percent annual growth, a new facility and navigating regulatory waters for products, it is also navigating an acquisition — one that quickly attracted a challenger.

On June 25, publicly traded Zila Inc. announced it had entered into a merger agreement with Tolmar. Under the agreement, Tolmar would pay 38 cents per share of Zila common stock and 44 cents per share for preferred stock, about $4 million in total. Additionally, Tolmar worked out an agreement to purchase $12 million in senior secured convertible debt from the noteholders for $5 million.

Zila, based in Scottsdale, Ariz., develops products for the treatment and prevention of periodontal disease, ranging from manual toothbrushes to oral cancer detection tools. While the company has no ties to Tolmar in the technical sense, Zila is home to a few familiar faces. Tolmar’s Vice President of Clinical Development J. Steven Garrett sits on the Zila board. He has recused himself from any and all discussions related to the proposed merger. Zila’s acting CEO is David Bethune, formerly CEO of Tolmar’s predecessor Atrix Laboratories Inc.

Bethune has served on the Zila board since December 2005 and was named interim CEO in April 2008 following a shakeup of the existing management as the company faced financial strain. Over the next year those issues grew, and the company had to start looking for alternatives.

Despite its debt troubles, Zila appears to have an attractive portfolio. During 2008 and 2009, the company held discussions with 31 potential buyers or investors, 10 of which went so far as to execute non-disclosure agreements. Just over a week after the Tolmar deal was announced, Zila received another offer. Tampa, Fla.-based Intelident Solutions Inc. sent a proposal to the board offering 42 cents per share for common stock and 48 cents per share for preferred stock. The deal would be worth $4.4 million.

After reviewing the Intelident proposal, the Zila board concluded that it was “not superior” to the Tolmar offer. The major sticking point was the debt.

Zila has not been in compliance with the terms of its debts, having missed the quarterly interest payments due on Jan. 31 and April 30. According to a recent proxy filing with the U.S. Securities and Exchange Commission, the company does not anticipate being able to pay the interest due July 31, either.

No debt plans dealbreaker

The inability to pay on or restructure the debt had Zila considering filing for bankruptcy, either Chapter 11 restructuring or Chapter 7 liquidation. In either case, the shareholders would receive nothing.

Intelident did not have a deal worked out with the note holders. Tolmar’s agreement was made in May. The Zila board worried that Intelident could be trying to delay the Tolmar deal in order to purchase assets out of bankruptcy, a proposal Intelident floated to Zila as late as June 25. The board’s concerns were amplified when Intelident’s public announcement of its offer did not discuss the fact that no deal had been struck for the debt.

“It is disconcerting that Intelident sought to make investors believe that it made a no-strings-attached offer to purchase Zila for (42 cents) per share when in fact their offer was subject to conditions that cannot be satisfied by Zila and that Intelident appears, at least at this point, unable or not prepared to satisfy,´ said Bethune, in a prepared statement. “Our noteholders have always had the ability to sell or assign their Zila notes without our knowledge or permission. The board continues to be prepared to review and act upon superior offers for the benefit of its shareholders in accordance with the exercise of its fiduciary duties.”

And so it appears to be “game on” for now. Zila shareholders are scheduled to vote on the Tolmar acquisition on Aug. 21, and Zila could face fees of up to $500,000 if the merger agreement is terminated. Tolmar CEO Michael Duncan could not comment on integration plans, since the acquisition is pending shareholder approval, but he did detail why Zila is an attractive addition for Tolmar.

Acquisition completes product line

Tolmar’s predecessor, Atrix, was founded on dental products, which remains a key business line. Duncan explained that if the Zila acquisition goes through, Tolmar will offer a full line of products, including power brushes and scalers, for treating periodontal disease. With its current portfolio, the companies can only meet 15 percent of a dentist’s needs in that area. In addition, Zila’s VisiLight Plus is used to screen for oral cancer, the sixth leading cause of cancer death.

Zila also brings an experienced sales staff of 60 to the table. Tolmar has only been selling its dental products for a year and has a sales force of 14.

Duncan said that his company originally approached Zila about selling the Tolmar dental products. Around February and March of this year, as Zila was making its financial issues clear, the firms started speaking acquisition.

“It’s like buying your neighbor’s car,” Duncan said. “You see it every day.”

Duncan had already worked at Atrix for four years before Bethune came on as CEO of the company in 1999. When Canadian pharmaceutical firm QLT Inc. purchased Atrix in 2004, Bethune made his exit but Duncan stayed on.

The acquisition didn’t sit well with QLT. The years following the acquisition were rocky, replete with legal battles, net losses and a plummeting stock price. In December 2006, Duncan saw through the spinoff of most of the former Atrix operations. Argentina-based pharmaceutical company Technofarma purchased the generic dermatology and dental products as well as the manufacturing business of QLT USA for $21 million, forming Tolmar with 140 employees

Duncan said it is not ironic that Bethune has popped onto the scene, explaining that he was the CEO of a dental and oncology company when he was with Atrix and now with Zila. In each instance, he came into companies in need of some new direction.

“His specialty is turnarounds,” Duncan said. “When he came to Atrix, it was in crisis mode; when he came to Zila it was in crisis mode.”

Tolmar’s interest in Zila had nothing to do with who has at the helm, according to Duncan.

“It makes it easier that we know Dave, but we would be looking at Zila no matter who was running it,” he said. “We’re investigating other deals right now.”

If the Zila acquisition is approved, it will take the company further in the direction of advancing its dentistry offerings. Duncan explained that the company is also looking at growing its dermatology portfolio through acquisition. However, organic growth has thus far been Tolmar’s main driver.

Another 40 percent growth year

The pharmaceutical industry is not necessarily known for rapid growth. The amount of time it takes to develop a drug and get it approved for sale make sales and profit increases sometimes explosive, but far between. Tolmar is building itself on a model of proprietary drug development supported by generic drug development and contract drug manufacturing. Between its existing portfolio and contract manufacturing, the company saw its revenue grow by 40 percent last year — for the third year in a row.

“We never forecast for this,” Duncan said. “We thought ’09 would be flat compared to ’08.”

Generic drugs are developed using already tested drugs that have been proven in the industry. The day the patent expires, generic manufacturers can begin offering the drug. The cost to develop generics is drastically less than proprietary drugs, but so are the returns.

According to research firm IMS Health Inc., generic drugs are steadily eating into the U.S. prescription marketshare. In 2003, branded drugs claimed 45.9 percent of the total prescriptions dispensed, with generics making up the rest. In 2008, branded drugs only made up 28.2 percent.

But the percentage of dollar volume for branded versus generic drugs has been steady throughout — with branded drugs taking the lion’s share at 78.2 percent. It’s not hard to see why Tolmar is pumping at least 30 percent of all revenue back into research and development.

Tolmar has grown from the original 140 employees to 220 and now has 25 open positions.

New building for specialty manufacturing

The company also closed June 30 on a new building, new to Tolmar, at least. The 11,000-square-foot facility on Duff Drive in northeast Fort Collins was formerly occupied by PR Pharmaceuticals, which filed for Chapter 11 bankruptcy in November. The building was tied up in the bankruptcy courts for several months.

Duncan explained that while the facility will need to be recommissioned, the process is much faster and cheaper than installing new equipment. Once the update is completed, by the end of this year, the site will be used for specialty manufacturing for at least two products currently in development. Duncan estimates the facility will be ready to produce batches for clinical trials next year with a commercial launch slated for 2013 or 2014.

Tolmar has needed an expansion for a few years, but because the company has grown so rapidly, planning has become difficult. The company recently hired a team to detail its 10-year facility needs so that an expansion can come to fruition without being obsolete. Duncan said the company will definitely need to start an expansion in 2010.

The company has come a long way in its three short years. Duncan recalls the split from QLT like being “cut loose from the mothership.” Tolmar started with an administrative blank slate, a portfolio of products and a business plan.

“We had a lot to rebuild,” Duncan said.

The company did more than rebuild, though. It has thrived, having already exceeded the 2012 goal in its business plan. Duncan anticipates Tolmar reaching $100 million in sales by then, and its first proprietary drug will launch in 2013, if all goes well. The product patents have already been filed, and it is well into clinical trials.

“We’re proud of what we’ve done so far, but we have a lot more work to do,” he said.

on Facebook on LinkedIn