* L'Oreal does not need to sell Sanofi stake for Nestle deal
* Hopes recede for debt-funded buyback of stake by Sanofi
* Sanofi may still proceed with separate buyback - analysts
* Drugmaker may also lift holding in U.S. biotech Regeneron
By Natalie Huet
PARIS, Feb 11 (Reuters) - French drugmaker Sanofi will face market scrutiny over what it plans to do with its cash as the prospect of a massive buyback of its shares held by L'Oreal fades.
French cosmetics firm L'Oreal and Nestle loosened a 40-year partnership on Tuesday when L'Oreal said it would buy 8 percent of its capital for 6.5 billion euros ($9 billion) from the Swiss food group - but did not need to sell any of its Sanofi shares to fund the deal.
L'Oreal thus remains Sanofi's biggest shareholder with a stake of close to 9 percent, worth about $12 billion, and its Chief Executive Jean-Paul Agon told a conference call that L'Oreal was "very happy" with that situation.
Shares in Sanofi dropped nearly 2 percent after the deal was announced, reflecting disappointment over the lost opportunity for the drugmaker to proceed with a debt-funded share buyback that would have substantially boosted its earnings per share.
They later recovered to stand unchanged by 1145 GMT.
Deutsche Bank analyst Mark Clark said buying back L'Oreal's 9 percent stake would increase Sanofi's earnings per share by 6 to 8 percent. It remains unclear whether L'Oreal will buy back more of Nestle's holding in the future, he said, noting that this would likely require selling down the Sanofi stake.
It was disappointing for the market that L'Oreal will only buy back some of the Nestle stake - for which it did not need to sell Sanofi shares - and it seemed to signal an intention to retain its Sanofi holding over the long run, he said.
"It doesn't rule anything out in the future, but people will conclude it reduces the chances of Sanofi buying back that 9 percent stake in due course," Clark said.
For the time being, the news increases pressure on Sanofi to clearly state what it plans to do with its cash pile, said Berenberg analyst Alistair Campbell.
"I think Sanofi would preferably like to invest in bolt-on acquisitions to strengthen the business - they've always been clear on that front - but I also think you could well see them at some stage commit to a share buyback of their own," he said.
Campbell expects Sanofi to have 3 billion euros in excess cash this year and to use 2 billion to launch a share buyback programme unrelated to the fate of L'Oreal's holding.
RAISE REGENERON STAKE?
Citi analysts, meanwhile, say that Sanofi could pump the free cash into new partnerships with biotechs, such as the deal it recently struck with U.S. company Alnylam, as it strives to refill its pipeline after many patent expiries.
Sanofi has consistently said it aimed to spend 1 to 2 billion euros each year on bolt-on acquisitions. But Chief Executive Chris Viehbacher said during the company's quarterly results last Thursday that the sky-high price tags of biotech companies with late-stage drugs in their pipeline made acquisitions hard to justify.
In the meantime, analysts say Sanofi might prefer deals where it can gradually increase its stake in a company depending on how its drugs fare in clinical trials.
Sanofi has hinted in the past that it could use its cash to raise its stake in U.S. company Regeneron Pharmaceuticals , its partner on several promising products, including a potential multi-billion dollar cholesterol drug.
Viehbacher said in September Sanofi could look at raising its stake in Regeneron from about 16 percent to as much as 30 percent.
Raising its stake in Regeneron beyond the 20 percent threshold and consolidating related income would cost Sanofi 1 billion euros but would boost earnings by 3 percent from 2015, Citi analyst Peter Verdult wrote.
A spokeswoman for Sanofi noted the company had bought back more than 1.6 billion euros of shares in 2013 but she declined to comment on the L'Oreal-Nestle deal or on Sanofi's future use of cash.