General Electric Company [GE: NYSE] – Market Cap as of 03/03/2019 $89.40bn
Danaher Corporation [DHR: NYSE] – Market Cap as of 03/03/2019 $91.18bn
Introduction
On Monday 25th February 2019 General Electric (GE) announced the sale of its BioPharma business to Danaher for a total consideration of $21.4 billion, including $21 billion in cash. GE, which had previously come under investor pressure in relation to its relatively high debt, will use proceeds from the sale to reduce leverage and strengthen its balance sheet. The deal puts Danaher in a strong position to become the leader in biotech equipment manufacturing while strengthening its own abilities in molecular-level disease therapy and DNA modification.
About General Electric
General Electric is an American industrial conglomerate founded in 1892 and based in Boston, boasting a market capitalization of $89.49bn as of March 3, 2019. GE operates as a global infrastructure and digital industrial company through a wide variety of business segments including Power, Renewable Energy, Oil & Gas, Aviation, Healthcare, Transportation and Electric Connections & Lighting. Additionally, GE maintains the financial services segment Capital which provides industrial and energy financial services, commercial aircraft leasing, financing and consulting services.
For FY2018, GE’s consolidated revenues were $121.6bn, up $3.4bn, or 3% YoY. Growth was primarily driven by increased industrial segment revenues of $2.5bn and increased Financial Services revenues of $0.5bn. FY2018 losses amounted to $21.1bn, representing a $12.5bn decrease in earnings compared to 2017. Losses were driven primarily by non-cash after-tax impairment charges of $22.4 billion recorded in the second half of 2018 related to goodwill write-downs from the Power segment.
BioPharma is part of GE Life Sciences, which itself is a unit of GE Healthcare. FY2018 results were positive for the Healthcare segment with revenues growing 4% YoY to $19.8bn and profits growing 6% YoY to $3.7bn. In FY2018, BioPharma generated revenues of approximately $3 billion. BioPharma is a leading provider of instruments, consumables and software that support the research, discovery, process development and manufacturing of biopharmaceutical drugs.
About Danaher Corporation
Danaher Corporation is an American diversified conglomerate and is based in Washington D.C. with a market capitalization of $91.18bn as of March 3, 2019. Danaher operates in the four business segments of environmental & applied solutions, life sciences, diagnostics, and dental.
Danaher was first founded in 1969 as a REIT and from 1984 began following a strategy of entering the manufacturing business through a string of acquisitions. In July 2005 Danaher announced the acquisition of Leica Microsystems from Permira, the private equity firm, for an EV of $450m, and has since then expanded its capabilities within Life Sciences, and more specifically in Biotechnologies. Most recently, Danaher acquired Integrated DNA Technologies Inc., a provider of custom nucleic acids, for an undisclosed price in March 2018.
In FY2018 Danaher’s revenue grew 8.5% YoY to $19.89bn, of which 2% came from acquisitions. FY2018 operating margin grew by 80 bps to 17.1%. For FY2018 net earnings were $2.7 billion, or $3.74 per diluted share, representing a 7.0% YoY increase.
Industry Overview
Last year GE announced that the company was going to focus merely on two areas, the Aviation and the Power Industries segments. The decision to focus on these two division marks a decided change of course from what was the world’s largest conglomerate and follows years of generalized underperformance especially in the company’s Power unit (its largest), paired with a heavy indebtment aggravated by mismanagements of the GE Capital unit.
The company’s need for cash has brought GE to consider several asset sales over the past few years, in order to deleverage and settle its balance sheet problems. Amongst these, GE has been looking towards spinning off its entire Healthcare division, which includes the Life Sciences Area. Among the business belonging to GE Healthcare’s Life Sciences division is the recently sold Biopharma business which makes instruments and software that support the research and development of drugs. GE’s decision to sell one of its better cash-generating units testifies the magnitude of the financial challenges it is currently facing.
The global Biopharma market was valued at $237bn in 2018 and, according to industry analysts’ estimates, it may grow to $388bn within five years’ time. The Biopharma industry’s market growth is widely credited to the increasing recognition of biopharmaceuticals’ ability to treat diseases more effectively, resulting in a vast and increasing market demand. Nowadays, the U.S. and Canada dominate the market for biopharmaceuticals. Nevertheless, the Asia-Pacific region is expected to significantly increase its market share in the future due to the prevalence of some diseases, such as diabetes and cancer, as well as a loosening of the regulatory framework concerning biopharmaceuticals in the region.
Over the last years M&A in the biopharma industry has been booming. Biopharma companies have been bolstering their research and development through deal making to avoid the decreasing returns on innovation efforts. Out of the numerous deals of this past decade, biopharma companies have overwhelmingly preferred Licensing (more than 90%) rather than M&A or Joint Ventures. Indeed, licensing’s lower up-front payments along with a higher success rate over M&A, would appear to suggest that it is a more logical choice across all phases. Nevertheless, in some cases, licensing deals can contain considerable costs associated with milestone payments and royalties and thus the licensing costs could overtake the M&A costs.
Deal Structure
The deal is set to be an all cash acquisition of $21.4bn that, given anticipated tax benefits inherent to the transaction structure, will be reduced to a net purchase price of around $20bn. The deal will create an independent operating firm within Danaher’s existing Life Sciences division. As a result, GE will receive some $20bn in net proceeds which it will use to trim its debt pile, which stood at $121 bn at the end of December. GE Healthcare will therefore only keep the Pharmaceutical Diagnostics business of the Life Sciences division, a specialized unit that develops contrast agents used by radiologists.
The $20bn price deal, equivalent to seven times annual revenues and 17 times expected 2019 EBITDA, shows the high level of interest in medical technology businesses. Analysts had suggested that the entire life sciences operation could be worth $20bn to $25bn.
As stated in its shareholder’s statement, Danaher envisage to finance the all-cash transaction with approximately $3 billion of proceeds from an equity offering and the remainder from available cash on hand and proceeds from the issuance of debt. Furthermore, Danaher estimates that the acquisition will increase the diluted net earnings per share by approximately $0.05 from $0.45 to $0.50 in the first full year post acquisition. The transaction is expected to be completed in the fourth quarter of 2019 and is subject to regulatory approval.
Deal Rationale
To understand the rationale behind Danaher’s acquisition of GE’s life sciences unit, one must first acknowledge that the seller plays an unusually important role in this deal.
The main driver motivating GE to sell its life sciences unit is the company’s current, precarious situation. Despite once being the most valuable publicly listed company in the world, General Electric has found itself stripped from the Dow Jones Industrial average, heavily debt ridden, and struggling to produce the growth rates that once defined its success. Some analysts argue that GE’s current scenario is the classic folly of the conglomerate—expand too far and you’ll find yourself bloated, unwieldy, and with a sprawling structure that not even the best six sigma management system can fix. To remedy this situation the company has undergone a period of “restructuring”, in which CEO’s John Flannery, and his recent successor Larry Culp, have vowed to refocus the conglomerate on power, renewable energy, and aviation. To achieve this leaner portfolio of offerings GE planned on spinning off up to half of its healthcare and transportation portfolio, reducing its 62.5% stake in oil servicer Baker Hughes, and cutting its exposure to its insurance branch. While this would eliminate nearly 33% of GE’s revenues, it should financially strengthen the company through reducing its Debt to EBITDA ratio from 3.5X in 2018 to 2.5X by 2020, and by improving its balance sheet through fresh cash injections. The healthcare unit was initially rumored to be undergoing an IPO, rather than a large acquisition, but the many benefits of the latter must have proven too difficult to resist. The deal provides GE with a $21bn fresh cash injection, getting them nearly 2/3rds of the way to fulfilling their pledge to raise $30bn in cash from asset sales to pay down debt. Additionally, this financial boost gives GE greater flexibility in assessing their need for a future IPO and improving their flailing power division.
However, this deal and the situation that produced it were not manufactured overnight. Rather, they are representative of the many developments that GE has undergone in the last 50 years, as well as the CEO’s that pushed them through. In the second half of the 20th century the company developed its conglomerate image through expansions into everything from financial services to aircraft engines and primetime news outlets. Jack Welch, a classic command and control leader, pushed GE to its greatest heights during the 80’s and 90’s through innovative management systems, training programs, and portfolio diversification. Jeffrey Immelt followed Welch’s tenure as CEO, presiding over GE during the financial crisis and rolling back Welch’s legacy through the sale of major divisions like the NBC news outlet. However, Immelt also pushed for expansions into areas like oil and energy, possibly to compete with the shadow of an executive that brought expansion and prosperity in tandem for nearly 2 decades. But during Immelt’s 16-year term, a series of poor acquisitions and continued overexpansion dragged out GE’s slow decline. In 2017, John Flannery inherited a company that was overburdened with the ambitions of previous executives and ripe for restructuring. In this context, the stage for sales, spin offs, and our fateful biotech acquisition was set far before Flannery’s reign by the competing legacies of Immelt and Welch. By late 2018, little over a year after he took office, Flannery was ousted in favor of outsider Larry Culp, who has already brought some of the largest developments in GE’s desperate resuscitation. But the fact that his biggest success yet comes with the help of Danaher, the company where he previously was CEO at for 14 years, is no small coincidence. In this sense, the deal is a result of past leaders’ ambitions, while also representing an attempt by a new leader to craft his own legacy.
From Danaher’s perspective, the deal allows it to compete better in the face of intense consolidation throughout the pharmaceutical industry. In the first half of 2018 alone over $220bn in biopharma acquisitions were initiated, exceeding levels recorded for all 12 months of 2016 and 2017. The influences spurring this level of consolidation include things such as upcoming patent cliffs, increased competition from generic manufacturers and rising drug development costs—all of which Danaher is likely facing alongside its industry peers.
Market Reaction
Rarely does the market reward both the seller and buyer after an acquisition announcement. However, both Danaher and General Electric shares climbed after the deal was announced, with Danaher increasing 8.5% to $123.15 and GE rising 6% to $10.82. General Electric’s share price is up nearly 60% since its most recent low in December, likely reflecting recent strides made by new CEO Larry Culp. However, despite this recent uptick, GE’s shares still remain 25% lower than their year on year comparison and 67% lower than mid-2016 prices. Clouds still lie ahead for GE, but with a silver lining.
Advisors
GE’s financial advisors include PJT partners, JP Morgan Securities LLC, Citigroup Global Markets Inc, and Goldman Sachs. Their legal advisors include Paul, Weiss, Rifkind, Wharton & Garrison LLP. Danaher’s financial and legal advisors have not yet been named in any official press releases.
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