Carlyle's bid for Johnson & Johnson fixer-upper bucks market trends
A boom in US healthcare assets has not provided fertile ground for private equity, which as a rule tends to snap up under-appreciated companies near the bottom of the cycle.
Carlyle Group, whose $4bn purchase of Johnson & Johnson’s Ortho-Clinical Diagnostics division was finally agreed yesterday, seems to be the exception to the rule. The private equity group has now obtained a shrinking business in an otherwise accelerating sector, but with time and effort the division will doubtless do better as a standalone concern that in did under the J&J umbrella.
Bluntly, Ortho is in trouble. In vitro diagnostics is the biggest segment in medtech, and with a CAGR of 5.1% it is growing fast. Ortho is doing the opposite. Its technology, focused on blood screening and typing, is a long way from the flashier disciplines of companion diagnostics and genetic sequencing, and without intervention will see its market share shrink from 4.7% in 2012 to 3.6% in 2018, EvaluateMedTech forecasts show.
If J&J’s reasons for selling are clear, Carlyle’s decision to buy, and to buy now, is more opaque. Private equity deal volume in healthcare was reported to have plummeted 65% last year – neatly coinciding with the biggest US biotech bull market for years.
Carlyle certainly has form. It participated in buyouts of the CRO Pharmaceutical Product Development for $3.9bn in 2011, and Healthscope, an Australian hospital group, for $2.0bn a year earlier.
Overall, the group says it has injected $6.3bn of equity into healthcare transactions since inception in 1987, and was apparently outbid on a couple of huge deals recently. Clearly it sees in Ortho a moribund asset in need of a shakeup – private equity’s natural domain; lack of trade buyer interest could signify antitrust issues.
Even so, the Ortho deal is bold, as shown by Carlyle doing it alone rather than as part of a syndicate. It has no doubt been emboldened by central bank monetary policies that have led to the ongoing availability of cheap debt financing.
When contacted by EP Vantage Carlyle would not reveal details of the debt that has been raised to finance the Ortho acquisition, but debt reportedly makes up 80% of the $4.15bn price. Low interest rates mean that even for a severely leveraged buyout like this there is plenty of scope for private equity to make a healthy return.
Of course, this will not happen without a push, and a major restructuring for Ortho is surely on the cards – Carlyle’s assurances that it will invest in R&D and manufacturing notwithstanding. The division has been on the block for a year, so the axe probably needs to be swung.
And the price? Unfortunately Johnson & Johnson releases limited information specifically about Ortho, but the division accounts for the vast majority of its diagnostics business, which also includes a much smaller unit, Janssen Diagnostics.
In 2012 diagnostics revenue fell 4% to $2.1bn, and after nine months of last year sales were off another 8%. In comparison, the market leader, Roche, saw sales of 8.2bn in 2012 and by this measure a further six companies, including Abbott and Danaher, also lead Ortho.
The J&J unit’s earnings before interest, tax, depreciation and amortisation (Ebitda) were reported to amount to $475m in 2012, but given the falling sales must have narrowed considerably last year.
Even so, the $4.15bn price tag implies an undemanding multiple, perhaps closer to 10x than 15x Ebitda. This might not herald the start of a private equity buyout boom in healthcare, but the availability of cheap debt should spur continued appetite for distressed assets, even in a bull market.