Leverage To Be A Challenge For Abbott, Once Deals Close: Part 2
In the Part 1 we discussed how levered Abbott (NYSE: ABT) would once its has completed the acquisitions of both acquisition of St. Jude (NYSE: STJ) and Alere (NYSE: ALR). In this article we look at some of the possible ways in which the company may go about tackling the challenge of this leverage. We estimate that the annual debt service amount in case of these two acquisitions will be around $3 billion (in case of St. Jude, or ABT+) and $4 billion (in case of both St. Jude and Alere, or ABT++). The company plans to achieve Debt-to-EBITDA of 3.5 by 2018.
Our price estimate of $47.50 for Abbott is 13% above the current market price
We explore some of the ways it may go about reducing its leverage:
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Synergy Related Free Cash Flow
The management’s estimate of pre-tax synergies from either of the deals is around $500 million. The synergies are expected from both incremental revenue and cost savings. Our estimate of FCF-to-EBITDA for Abbott is in the range of 0.65 to 0.70. Using the expected synergy at hundred percent run-rate (and using present EBITDA of combined entities), we arrive at un-levered free cash flow of about $4.1 billion and $4.6 billion.
Sell Of Non-Core Businesses
Recently Abbott announced sale of its medical-optics business, subject to regulatory approvals, to J&J (NYSE: JNJ) in an all cash deal valued at about $4.3 billions. The deal will help Abbott significantly reduce its debt burden. (Read: Making Sense of Abbott’s Sale Of Its Optics Business)
Equity Issuance
Abbott management plans to issue equity amounting to about $3 billion at a suitable time. Going forward, as the integration of the businesses is completed and reflect positively on financial performance, the equity market will be more willing and the existing shareholders will see relatively less dilution to their equity position.
Reduction In Dividends & Buybacks
Abbott is one of the S&P 500 dividend aristocrats. Over the last five years the company has returned close to $21 billion capital in dividends and share buybacks. The table below shows the performance of Abbott on this front over the last 5 years:
Going forward, in case the acquisitions are executed, we would not be surprised if the company significantly cuts down its share buybacks and reduces the dividend growth rate.
While debt does reduce the weighted average cost of capital and increases the return on equity, the increased financial leverage can also lead to distress. Although with a diversified revenue stream and diversified geographic presence, the risk with Abbott is low.
See the links below for more information and analysis about Abbott:
- What’s Abbott’s Fundamental Value Based On Expected 2016 Results?
- What is Abbott’s Revenue And Gross Profit Breakdown?
- How Has Abbott’s Revenue Mix Changed In The Last 5 Years?
Notes:
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