The Health Care M&A Monthly: With An Eye On The Future--
Novartis Buys Alcon, Builds Eye Care In $39.0 Billion Deal
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April saw the announcement of the largest Medical Device deal ever recorded. This deal boils down in effect to the adage that it is unwise to put all of one’s eggs in the same basket.
Nestle SA (VX: NESN) entered into a deal with Novartis AG (NYSE: NVS) to sell its 77% interest in medical device company Alcon, Inc. (NYSE: ACL) for $39.0 billion. It’s a deal that has been in discussion for some time now, and it’s not the only one that the two companies have struck up. Last year, Nestle bought NVS’ Gerber baby foods unit for approximately $8.0 billion.
Incorporated in Switzerland, with U.S. headquarters in Fort Worth, Texas, Alcon develops, manufactures and markets drugs, devices and products to treat eye diseases and disorders. ACL operates three divisions: surgical, pharmaceutical and consumer vision care. The company is a world leader in the cataract surgery market: it manufactures cataract, vitreoretinal and refractive systems, devices, surgical packs and solutions. Its pharmaceuticals unit embraces both prescription and OTC drugs, focusing on glaucoma and macular degeneration, as well as eye infections, inflammations and allergies. And its consumer vision care division offers such products as contact lens solution and ocular vitamins. It is not just the diversity of business lines that makes ACL attractive, but the diversity of revenue sources. The company is not hamstrung by having all its revenue come from one geographic source or from one kind of customer, such as managed care organizations. In the areas of laser surgery and consumer health, ACL derives revenue from private pay customers. It is regarded as the world’s largest and most profitable eye care company. On a trailing 12-month basis, ACL generated revenue of $5.6 billion, EBITDA of $2.0 billion and net income of $1.6 billion. For 2007, the surgical division posted $2.5 billion in revenue; the pharmaceutical division, $2.3 billion; and the consumer health division, $800.0 million.
Under terms of the deal, Novartis is to pay Nestle $11.0 billion for its initial 25% stake. In this first tranche, NVS is paying $143.18 per share. The deal also gives NVS the exclusive right to buy NESN’s additional 52% stake for $28.0 billion between January 2010 and July 2011. In the second tranche, NVS has agreed to pay $181.00 per share. The first tranche thus represents a 3.5% discount to Alcon’s current price; the second tranche, a 22% premium. The price to be paid represents an implied purchase price of $52.0 billion for a 100% interest in ACL, along with a price to revenue multiple of 9.3x and a price to EBITDA multiple of 26.0x. Under the actual price of $39.0 billion stipulated in the deal, however, the P/R multiple is 7.0x and the P/EBITDA multiple is 19.5x.
What has Alcon got that would prompt Novartis to take the risk of paying out $11.0 billion now for a 25% minority stake and waiting up to three years before it drops the other $28.0 billion shoe? The acquisition of ACL will help NVS spread risk from its core pharma business, which is facing generic competition now and in the foreseeable future. Recognizing this, NVS has been diversifying away from the novel blockbuster drug by branching into generics with its Sandoz unit and into vaccines with its 2006 acquisition of Chiron. R&D for new drugs is becoming more expensive; government approval for drug candidates, more onerous. Like other major pharma players, NVS has had its share of setbacks. At the request of the FDA, the company withdrew its irritable bowel syndrome drug Zelnorm because of increased risk of heart attacks. Approval of the company’s new diabetes drug Galvus has been delayed. Its Prexige painkiller, once hailed as an up-and-coming blockbuster, is unlikely to receive FDA approval since it belongs to the same COX-2 class of drugs as Merck’s (NYSE: MCK) ill-fated Vioxx. Finally, Diovan, NVS’ top selling blood pressure medication, which brings in $5.0 billion annually, faces U.S. patent expiration in 2012. These risks are reflected in the fact that while ACL currently boasts an EBITDA margin of 36%, NVS gets by with 26%.
Nor is NVS a novice to eye care; the acquisition of ACL will complement the company’s existing Ciba Vision unit. Adding ACL’s revenue to Ciba’s annual take of $2.5 billion will create an eye care unit that has pro forma revenue of $8.1 billion.
What about the risk to Novartis of tying up company resources, especially financial ones, for up to three years? While the second tranche is technically "optional," both companies would have to agree not to exercise their rights for the deal to fall through. Nestle can force through the purchase of the second tranche while NVS can opt out if there is a material change in the business. But at this juncture, Novartis wants to see the second phase completed because it gains no long-term advantage by owning just a 25% stake in ACL. And Nestle certainly wants to see the deal through to the end because it would help reduce debt, streamline the worlds’ largest food group and equip its war chest for future acquisitions with a considerable punch.
NVS is to finance the first tranche from its cash reserves and external short-term financing. The second tranche would be financed from cash and further borrowing. As a historical footnote, Nestle acquired its stake in ACL in 1978 for just $275.0 million, so the company is yodeling all the way to the bank.
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