Medtronic to Acquire Covidien for $42.9B - Analyst Blog

In an effort to offset the impact of high U.S. corporate tax rate by shifting its tax base overseas, medical technology giant Medtronic Inc. MDT announced its plans to acquire the company's Irish competitor in surgical technologies and global healthcare major Covidien plc COV.

The deal, valued at $42.9 billion, also marks a solid step toward establishing Medtronic as the world's leading medical technology and services company with 87,000 employees in over 150 countries.

Post-acquisition, the combined entity will be known as Medtronic plc and will boast a comprehensive product portfolio, a diversified growth profile and broad geographic reach. The acquisition is expected to close in the fourth quarter of calendar year 2014 or early 2015.

The successful completion of the acquisition is subject to certain customary conditions. In addition, the proposed transaction requires regulatory clearances in the U.S., the E.U., China and certain other countries.

Per the deal, Medtronic will pay the shareholders of Covidien $93.22 a share, a 50% premium on Medtronic`s closing price of $60.70 per share on June 13, 2014, the last trading day prior to the announcement. Furthermore, the per-share consideration represents a premium of 29% to Covidien's closing stock price on June 13, 2014. Medtronic shareholders will exchange each share of Medtronic for one ordinary share of stock in Medtronic plc. In addition, post-acquisition, Covidien shareholders will enjoy a 30% ownership in the combined entity.

According to Medtronic, this impending acquisition will serve three fundamental strategies of the company viz. therapy innovation, globalization and economic value.

Covidien, with its advanced line of products, will enhance Medtronic's existing portfolio, provide greater clinical reach and access to new therapies. The combined entity will have collective revenues of $13 billion from outside the U.S., of which $3.7 billion will come from emerging markets. Moreover, the joint company will offer a broader line of complementary therapies and solutions that will enhance more value and efficiency in healthcare systems. 

For fiscal 2016, the company expects the acquisition to be accretive to its cash earnings and remain significantly accretive thereafter. The transaction is also estimated to be accretive to Medtronic's GAAP earnings by fiscal 2018.

On successful completion of the transaction, Medtronic plc is also expected to result in at least $850 million of annual pre-tax cost synergies by the end of fiscal 2018. Medtronic hopes to generate significant free cash flow, which it promises to deploy with greater strategic flexibility, particularly in the U.S.

The U.S. corporate tax rate, being the highest worldwide, is taking a heavy toll on the medical technology sector, hurting pricing decisions of companies and subjecting them to tremendous margin pressure. Accordingly, the big players have been trying all possible means to change their business model and cost structure to accommodate the impact of the excise tax. Apart from various restructuring initiatives to counter costs, companies are also trying to focus on strategic mergers and acquisitions (M&A) and emerging market expansion  in order to weather the tax burden. Some companies have even desperately resorted to reducing operations to counter the tax impact.

We expect this shift of tax base to a comparatively lower corporate tax region, Ireland to help Medtronic bolster its operations further on a global level. Post-acquisition, Medtronic has a plan of $10 billion of investment in technology over the next 10 years in areas like early stage venture capital investments, acquisitions and research and development (R&D) in the U.S.

Medtronic currently carries a Zacks Rank #3 (Hold).

Other Stocks to Consider

Better-ranked medical product stocks that are worth a look include Cardica Inc. CRDC and ICU Medical, Inc. ICUI. Both the stocks carry a Zacks Rank #2 (Buy).