Debt, integration and buyer’s remorse: can Abbott pull off its deals?
Abbott Laboratories has a good track record when it comes to closing acquisitions and integrating the companies and technologies it has bought. But it has never taken on the kind of transformational deal represented by its $25bn cash-and-stock purchase of St. Jude Medical – and certainly not while it already has another multibillion-dollar deal already on the slate.
That first deal, the $5.8bn acquisition of the diagnostics group Alere, already looks troubled, with Abbott unsuccessfully attempting to back out. And both deals are wholly or partly debt-funded, which added to Abbott’s planned assumption of its targets’ debt could put it a fair way onto the red. The company already had an uphill battle to secure this one-two, and now things are looking hairier than ever.
Abbott agreed a hefty premium for Alere back in February, despite the company carrying $2.6bn of debt (Abbott pays $5.8bn to climb the diagnostics rankings, February 1, 2016).
It began to look as if Abbott could have done a better job on its due diligence when it emerged six weeks later that the US Department of Justice was investigating allegations of corrupt sales practices by Alere in Africa, Asia and South America. Alere is working to respond to the probe, but said the investigation meant it would miss the deadline to file its 2015 annual report with regulators.
The real shake came when it became clear that Abbott was no longer overly keen on the merger. On its first-quarter earnings call, Abbott’s chief executive refused to comment about whether the acquisition would still close. A week later, on April 28, Alere stated that Abbott had tried to call the whole thing off, offering up to $50m to the diagnostics group to terminate the deal.
Alere said no.
That imbroglio occurred the same day Abbott announced that it was to buy St. Jude. Naturally negotiations for the St. Jude deal would have been under way for some months – presumably at least since rumours of the takeover were squashed last summer – but the timing makes it look like Abbott tried to back out of a poor deal in favour of a better one.
Abbott seems to be stuck with Alere for now, though the likely eventual outcome is litigation over the break fee, with Abbott presumably set to argue that Alere's accounting woes constitute a material change of circumstances. But can Abbott afford both transactions?
The group has said it plans to use cash on hand from expected long-term borrowings to acquire Alere. But in February, Abbott obtained a $9bn short-term unsecured bridge loan to provide back-up financing, as well as the refinancing of Alere’s $2.6bn net debt.
The cash portion of the St. Jude deal is also to be funded with debt; at $46.75 per share this comes to around $13.8bn, 55% of the total deal cost. St. Jude’s net debt of $5.7bn is to be assumed or refinanced by Abbott. And again, Abbott said it will fund the cash portion with medium and long-term debt, but took out a just-in-case bridge loan, this time for up to $17.2bn.
As of the end of March, Abbott had $8.1bn total debt on its balance sheet, not overwhelming for a company with a market cap of $56bn. But analysts from Jefferies wrote that the materially higher debt load that came with the transactions would "likely suppress dividend growth, share repurchases and M&A for the next couple of years”.
The debt levels from the Alere deal prompted both Standard & Poor’s and Moody’s to put Abbott’s credit rating on review for downgrade. Both agencies reiterated their concern following the St. Jude announcement, with Standard & Poor’s saying the deals significantly increased Abbott’s debt leverage “well beyond our expectations within the current assessment of a minimal financial risk profile”.
That said, S&P did point out that Abbott had a solid record of conducting sizable debt-financed acquisitions, adding that it did not expect the company to have much difficulty in integrating St. Jude and Alere.
Abbott’s previous largest medtech acquisition was funded through borrowing. When it bought Guidant’s vascular technologies in 2006 – the unit was sold to allow antitrust passage of Boston Scientific’s purchase of Guidant – it used $2.3bn in existing cash, plus $4.1bn in short-term debt.
|Abbott's $1bn-plus acquisitions|
|Date announced||Target||Target focus||Value ($bn)|
|April 28, 2016||St. Jude Medical||Cardiology; neurology||25.0|
|February 1, 2016||Alere||Diabetic care; in vitro diagnostics||5.8|
|April 21, 2006||Guidant's vascular business||Cardiology||4.1|
|February 25, 2009||Advanced Medical Optics||Surgery; ophthalmics||2.8|
|April 6, 2004||TheraSense||Diabetic care; patient monitoring||1.2|
It is worth remembering, however, that the Guidant buy predates the Abbott-AbbVie split; at the time it occurred Abbott was a much larger company.
So the purchase and absorption of Alere alone would be a bigger challenge than Abbott has ever faced. And St. Jude is an order of magnitude larger than any of the other medtech groups Abbott has bought.
And then there are the accounting and legal problems with the Alere. It is not so much any legal penalty that might come – any fines that might be imposed are unlikely to trouble Abbott unduly – but the investigation and subsequent resolution of the financial reporting could mean years of uncertainty for the group.
The accounting issues with Alere might mean that of the two open deals, St. Jude will be the easier to close.