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A Nearsighted Deal from Nestl?


Mix eyedrops, intraocular lenses, and gear for laser eye surgery with ice cream, tea, and chocolate bars. What do you get? A mess, of course, but you might also say Nestl? (NSRGY). Way back in 1977, the Swiss food giant diversified by acquiring Alcon, a tiny Fort Worth eye-care company. But even as Alcon has since grown into the world's top maker of ophthalmic drugs and equipment, its value has been buried beneath Nestl?'s considerable pile of consumer brands.

Nestl? now is bringing Alcon public in a $2.3 billion deal to be led by Credit Suisse First Boston and Merrill Lynch. At a time when other initial public stock offerings are dribbling out in the tens of millions of dollars, this IPO figures to draw lots of interest. Nestl? aims to sell a one-quarter stake in Alcon at an estimated $33 a share, keeping the balance for itself. It hopes the market's valuation of Alcon will help investors put a fresh value on Nestl?, whose U.S.-traded American depositary receipts, lately near $54 each, remain stuck below the high of 58 that they hit back in 1998.

Should stock in Alcon interest you? Still based in Texas and led by a 31-year Alcon veteran, Timothy Sear, the company boasts a steady record of sales growth, to $2.7 billion last year from $2 billion in 1997. It enjoys leading positions in an array of product lines, from drugs to treat glaucoma and dry eye to replacement lenses used in cataract surgery. And Alcon is counting heavily on sales of radar-guided lasers used in the popular "LASIK" procedures for correcting near- and farsightedness. It expects that as the U.S. population ages, its eyesight will only suffer, lifting demand for Alcon products.

This hope seems likely enough. Yet some less appealing aspects of the IPO also deserve attention. While Sear declined to comment, Alcon's securities filing offers the details. Amid a flurry of paperwork due right before and after the deal, Alcon is set to pay a $1.2 billion dividend to Nestl?. Nestl? also has arranged to take nearly all of the cash raised from buyers of the IPO--an estimated $2.2 billion, after fees--for itself. In other words, besides converting an operation few investors know it owns into a visible, controlling stake worth an estimated $7.6 billion, Nestl? will clear $3.4 billion in cash. That should prove welcome. Last year, as it spent $10.3 billion to buy Ralston Purina, Nestl?'s total debt ballooned to $21 billion, from $7.8 billion.

Yet what's good for Nestl? won't be great for Alcon. Its balance sheet will take a serious drubbing. Alcon finished 2001 with a net worth of $1.4 billion and working capital--that's current assets minus current liabilities--of $659 million. Had the IPO been done before yearend, with Nestl? taking its dividend and keeping the cash raised in the deal, Alcon would have seen its net worth shrink to $158 million. Working capital? It would have vanished, turning into a $573 million deficit.

This need not mean Alcon is headed for trouble. But public investors will own part of a business that's set up differently from the one that netted $316 million last year, on $2.7 billion in sales. Had Alcon operated through all of 2001 with the weaker balance sheet that it's set to have after the IPO--and the higher implied interest tab--it would have made $50 million less.

After adjusting for this, I was curious to see how Alcon stock compares with its rivals' (table). At a lower multiple to cash flow, Alcon looks like a modest bargain next to its closest analog, Allergan. But beware. Allergan is much stronger financially, with less debt and enough cash to pay it off. Know, too, that dreams are built into Allergan's stock price. Allergan makes Botox, the ocular drug that such aging celebs as Cher swear by as a wrinkle remover. Allergan this year plans to push Botox for its cosmetic use, aiming to accelerate growth. By contrast, Alcon's prospects seem pedestrian.

What does all of this tell me? For Nestl? to sell stock in Alcon now is opportunistic--and reason enough to look away from this deal. By Robert Barker


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