Medtronic Inc. (MDT:US), the second-largest maker of medical devices, agreed to buy Covidien Plc (COV:US) for $42.9 billion in cash and stock as it transforms into a broader-based company bolstered by new tax advantages.
Medtronic will pay the equivalent of $93.22 for each share of Dublin-based Covidien, or about 29 percent more than Covidien’s New York closing price of $72.02 on June 13, the companies said yesterday in a statement. The combined company, called Medtronic Plc, will be based for tax purposes in Ireland.
The deal is Medtronic’s largest. It gives the Minneapolis-based company Covidien’s portfolio of hospital supplies, from surgical staplers to ventilators, adding size and scope to help it compete with Johnson & Johnson (JNJ:US), the No. 1 medical device company. At the same time, use of Covidien’s Irish address may free almost $14 billion in cash Medtronic now holds overseas to avoid being taxed on it under U.S. law.
Moving Profits to Cut U.S. Taxes
The primary motivation is “strategic and operational alignment,” Medtronic Chief Executive Officer Omar Ishrak said in a telephone interview yesterday. “It will drive better value for patients and customers around the world.”
Medtronic would have the opportunity to walk away from the deal if U.S. tax law changes, the company said today in a filing with the Securities and Exchange Commission. The tax clause would also come into play if both houses of the U.S. Congress pass legislation, even if it’s not immediately signed by the president, that would treat the combined company as an American corporation for federal tax purposes, Medtronic said.
Covidien rose 20 percent to $86.75 at the close in New York and has gaining 44 percent in the past 12 months. Medtronic fell 1.1 percent to $60.03. It has increased 13 percent in the past year.
Medtronic’s tax rate will remain about the same, even after the company redomiciles in Dublin, Ishrak said. The advantage gained in the deal is that Medtronic will be able to better use profits it made outside of the U.S., which it plans to invest back into the industry, according to Ishrak.
“This is important to stimulate the medical-technology industry in the U.S.,” Ishrak said. “We have made a commitment we will deploy at least $10 billion over the next decade.”
Minnesota Governor Mark Dayton said he spoke with Ishrak, and was told Medtronic intends to create more than 1,000 new medical technology-related jobs in the state in the next five years.
“We were assured that the company intends to keep its operational headquarters here in Minnesota and that no jobs will be lost here due to this transaction,” Dayton said in a statement. “That is tremendous news for Minnesota and evidences the company’s continued commitment to our state.”
The transaction, unanimously approved by the boards of both companies, still needs shareholder approval. It’s unlikely it will run afoul of the U.S. competition laws because the companies’ products have few overlaps, said Jason McGorman, an analyst at Bloomberg Industries in Skillman, New Jersey.
When the deal is complete, each outstanding ordinary share of Covidien will convert into a right to receive $35.19 in cash and 0.956 of an ordinary share of Medtronic Plc. Medtronic closed at $60.70 on June 13.
The combined companies will be able to shave at least $850 million from its annual costs by the end of fiscal year 2018 by integrating their back-office operations, manufacturing and supply chains, according to the companies’ statement. The transaction will add to Medtronic’s cash earnings during the first full year of operations for the united company.
Covidien’s Chief Executive Officer Jose Almeida, meanwhile, will remain with the company until the deal closes. He hasn’t decided what he will do afterward, he said by telephone yesterday.
The acquisition points to the confluence of two trends sweeping health care.
Device companies are banding together to gain leverage and prominence on hospitals’ supplier lists, as medical centers cut costs by concentrating their purchases.
At the same time, U.S. companies are increasingly looking to move outside the country to areas such as Dublin to allow more use of cash held in overseas operations. Medtronic joins some 44 American companies that have reincorporated abroad or struck plans to do so, including 14 in a recent wave of moves that began in 2012.
Earlier this year, Pfizer Inc. (PFE:US), the largest U.S. drugmaker, proposed acquiring London-based AstraZeneca Plc in part to get a U.K. address, a move that might have cut its tax bills by as much as $1 billion a year. Medtronic ranks 14th on a list of U.S. companies with cash held in overseas operations, according to a report by Goldman Sachs. (GS:US) The report said Medtronic had $13.5 billion in cash abroad, representing most of its cash reserves.
Neither Medtronic’s Ishrak nor the company’s executive team would have to move to Ireland to consummate the deal. While Covidien is based in Dublin for tax purposes, the company is run from its offices in Mansfield, Massachusetts.
The acquisition bid comes as both companies are dealing with stalled sales growth.
Covidien, with a market capitalization of $32 billion based on its June 13 closing stock price, generated $10.2 billion in fiscal year 2013, roughly the same as five years earlier. Medtronic, with a market value of $61 billion and revenue of $17 billion, has been growing in the low single digits.
Consolidation in the medical device market was sparked by Johnson & Johnson’s $21.3 billion purchase of Synthes Inc. in 2012, its largest in history. Zimmer Holdings Inc. (ZMH:US) agreed in April to acquire Biomet, its cross-town rival in Warsaw, Indiana, for $13.4 billion.
The Medtronic-Covidien deal will make the combined company a “cash machine,” with an estimated $7 billion in free cash flow annually, said Bill George, Medtronic’s former chief executive officer and now a professor at Harvard Business School in Boston.
The companies are a “near-perfect strategic fit” that will accelerate Medtronic’s growth in vascular therapy and make the company the industry leader in areas like gastrointestinal reflux, respiratory and advanced surgery for several types of cancer, he said.
Medtronic received financial advice from Perella Weinberg Partners LP and legal advice from Cleary Gottlieb Steen & Hamilton LLP and A&L Goodbody. Covidien’s financial adviser was Goldman, Sachs & Co. and its legal advisers were Wachtell, Lipton, Rosen & Katz and Arthur Cox. Bank of America Merrill Lynch provided financing.
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