Reckitt Benckiser Group (LON: RB) – market cap as of 17/02/2017: $61.7bn (£49.71bn)

Mead Johnson Nutrition Company (NYSE: MJN) – market cap as of 17/02/2017: $16.05bn

Introduction

On 10 February 2017, UK-based consumer goods multinational Reckitt Benckiser (RB) and US-based infant nutrition leader Mead Johnson reached an agreement by means of which RB is to acquire all of the outstanding shares of Mead Johnson for a total cash consideration of $16.6bn, implying an EV of 17.9bn.

Thanks to this move, RB will double its revenues in consumer health, while consolidating its position in developing markets, estimated to account for about 40% of the combined group’s sales. The newly formed company will enter in direct competition with multinationals such as Nestlé or Danone, leaders in infant nutrition, controlling 22 per cent and 13 per cent of the market share respectively.

About Reckitt Benckiser Group

Reckitt Benckiser Group PLC was born in 1999 from the merger between UK-based Reckitt & Colman PLC and Netherlands-based Benckiser NV, and it is one of the largest companies listed on the London Stock Exchange. The firm is currently headquartered in Slough, England. RB is a manufacturer and marketer of household cleaning, health and personal care products, with operations in more than 60 countries and products sold in nearly 200 countries.

RB’s portfolio of brands include major names such as Vanish, Air Wick and Veet.

In FY2016, the company reported £9’891m of total revenues (11.5% Y-o-Y growth including acquisitions), adjusted operating profit of £2’777m (17% Y-o-Y growth, adjusted to exclude exceptional items), and net income of £1’832m (5.1% Y-o-Y growth).

About Mead Johnson Nutrition Company

Mead Johnson Nutrition Company is a leader in the global infant and children nutrition industry. The company was founded in 1905 by Edward Mead Johnson and is headquartered in Glenview, Illinois.

Mead Johnson has a long, well established scientific and R&D heritage, which has allowed the company to build a strong reputation among healthcare professionals as well as consumers. The company currently has a 10% market share in the $46bn infant and children nutrition industry.

Mead Johnson develops, manufactures, markets and distributes more than 70 products in over 50 markets worldwide. The company has a strong presence in Asia and Latin America, and approximately 70% of its net sales come from these markets. Mead Johnson is known for its “Enfa” family of brands, which includes the Enfamil infant formula, the world’s leading franchise in infant and children nutrition. The company’s product portfolio addresses a wide range of nutritional needs for infants, children, as well as expectant and nursing mothers.

In FY2016, Mead Johnson reported net sales of $3’743m (8% Y-o-Y growth with respect to FY2015 reported earnings), of which 50% were generated in Asia, 17% in Latin America and 33% in North America and Europe. Moreover, in the last fiscal year the company generated $2’399m and $927m respectively in gross and operating profit, achieving a 70bps increase in profit margin (up to 24.8%) with respect to FY2015.

Deal structure

RB has offered $90 in cash for each Mead Johnson share, a 29% premium on Mead Johnson’s undisturbed share price on 1 February 2017 (24% on the 30-day volume-weighted average price). The offer implies an EV of about $17.9bn, approximately $16.6bn in equity and $1.3bn in net debt as of 31 December 2016. Financing for the transaction will come through new, fully underwritten debt facilities. These facilities include $9bn of term loans over 3 to 5 years and $8bn of bridge funding to cover the cash consideration plus $3bn to refinance existing Mead Johnson bond if required. The bridge facility is expected to be refinanced through the issuance of bonds at or shortly after completion. In addition, RB is also taking on a £1bn revolving credit facility to provide financing headroom until the acquisition carried out in full. Despite the large amount of debt that the company will carry after the deal, RB is expecting to retain a strong investment grade rating.

The offer value represents a 17.4x EV on 2016 EBITDA multiple, or 14x 2016 EBITDA including run-rate cost savings.  This valuation implies slightly lower multiple than the 20x EBITDA that Nestle paid for Pfizer’s baby-formula unit in 2012 or the 22x EBITDA paid by Danone for baby-food maker Numico in 2007.

The deal is expected to close by the end of Q3 2017. Completion is subject to approval by both RB and Mead Johnson shareholders, as well as by regulators.

Deal rationale

After losing a bidding war for Merck & Co’s consumer business in 2014, RB had been in search of a target to complete a major M&A operation. The acquisition of Mead Johnson is in line with RB’s well-established strategic focus on consumer health, a sector showing interesting potential and estimated to be growing by 3 to 5 percentage points per annum in the medium to long term. Good strategic fit, the possibility of expansion in developing markets with attractive growth opportunities (65% increase to RB’s developing market presence), and RB’s poor reported organic revenue growth (i.e. like-for-like, excluding acquisitions) of just 3% for 2016, the weakest in over a decade, provide strong logical rationale for the transaction.

In addition to the projected annualized cost synergies, which the companies estimate to be worth £200 million by the end of the third year after completion, Mead Johnson represents “a natural extension to RB’s consumer health portfolio of Powerbrands”, as stated by Mr. Kapoor, CEO of Reckitt Benckiser. Expectations of synergies, which should be coming from shared finance, IT, HR, and procurement functions, are reinforced by RB’s track record of effectively integrating consumer health companies as evidenced by the acquisitions of Boots Healthcare International, Adams Respiratory Therapeutics, and SSL. According to RB’s CFO Mr. Hennah, RB will retain the existing strengths of Mead Johnson, which include (1) safety, quality, and compliance; (2) product development capabilities and strong R&D track-record; (3) healthcare professional relationships; (4) specialist distribution channels. At the same time, the combined entity should be able to extract cost synergies from the combination of back office and procurement functions, as well as through operational efficiency and rigour. Furthermore, the companies expect £450m one-off costs to achieve the abovementioned savings.

Additionally, RB and Mead Johnson have complementary e-commerce expertise, particularly in China, where approximately 30% of RB’s sales are completed online.

The companies expect the deal to be accretive to RB’s adjusted diluted earnings per share from the first full year, with double-digit accretion achieved by year three. Moreover, the acquisition is expected to deliver a post-tax return on invested capital (ROIC) in excess of RB’s cost of capital by year 5. On a side-note, RB intends to maintain its current dividend payout policy of about 50% of its adjusted net income.

Market reaction

After rumours spread on Wednesday, February 1, that the companies began negotiations regarding a potential acquisition, Mead Johnson’s share price increased by 22%, from $69.50 to $84.63 per share. Investors seem to believe that RB is going to be successful in extracting the synergies from the deal, as its shares price increased by roughly 3% and closed on Thursday, February 2, at £71.09.

Advisers

Robey Warshaw and Bank of America Merrill Lynch acted as RB’s lead financial advisers; Deutsche Bank acted as a financial adviser, corporate broker and sponsor and HSBC acted as a financial adviser. Lastly, RB’s legal advisers were Davis Polk & Wardwell LLP and Linklaters LLP. Mead Johnson was advised by Goldman Sachs and Morgan Stanley.


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