GSK concocts Pfizer consumer health merger and spin-off
Pharma giants GlaxoSmithKline and Pfizer have struck a deal to combine their consumer health businesses into a joint venture generating £10bn of annual sales, which will later be spun off as a separate listed company.
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GSK, which will have controlling stake of 68%, said the all-equity combination of the two businesses is expected to generate annual cost savings of £0.5bn by 2022. The savings will come at a cash cost of £0.9bn and non-cash costs of £0.3bn, but the pair plan to cover integration costs by selling off around a net £1bn of assets.
Combining brands that include GSK's Sensodyne, Voltaren and Panadol and Pfizer's Advil, Centrum and Caltrate, the FTSE 100 group said it expects the proposed deal to increase its adjusted earnings and free cashflow in the first full year after closing and boost total earnings in the second full year following the closing.
Within three years of the creation of the JV, which is expected to close in the second half of 2019, GSK intends to spin off the combined business and float GSK Consumer Healthcare on the London Stock Market. This decision has been based on the view that the new consumer healthcare company will be better able to support a larger degree of leverage than the GSK group currently, allowing for a reduction in the leverage in the remaining group.
The proposed deal comes seven months after GSK took full-ownership of its former consumer health joint venture Novartis and just weeks after Glaxo agreed to sell its Indian nutrition business to Unilever for roughly £3.1bn and then to buy oncology-focused Tesaro for around £4bn.
GSK chief executive Emma Walmsley, who was promoted from the consumer healthcare business to the top job in April last year, said the Pfizer transaction was a "unique opportunity" to accelerate her plan to reshape the group to improve its competitive performance.
"Through the combination of GSK and Pfizer's consumer healthcare businesses we will create substantial further value for shareholders. At the same time, incremental cashflows and visibility of the intended separation will help support GSK's future capital planning and further investment in our pharmaceuticals pipeline," she said.
"With our future intention to separate, the transaction also presents a clear pathway forward for GSK to create a new global Pharmaceuticals/Vaccines company, with an R&D approach focused on science related to the immune system, use of genetics and advanced technologies, and a new world-leading consumer healthcare company."
"Ultimately, our goal is to create two exceptional, UK-based global companies, with appropriate capital structures, that are each well positioned to deliver improving returns to shareholders and significant benefits to patients and consumers."
GSK, which has agreed to pay a break fee of $900m in the event that the board changes its recommendation or shareholders do not approve the transaction, stated that it remains committed to the current dividend policy and confirms it continues to expect to pay 80p per share in dividends for 2018 and for 2019.
Shares in the company rose more than 5% in early trading to 1,527p.
Broker Shore Capital said that following the 3 December transaction to acquire Tesaro, the JV was "further evidence of GSK’s renewed focus on Pharmaceuticals R&D and believe separation of the group provides an opportunity for further value delivery from the individual entities".
"We would estimate that prior to synergies, the partners will earn a circa 4% return on the gross assets contributed to the JV (based on the reported profit before tax), which rises to circa 6% if the annual cost savings of £0.5bn are realised. As such, delivery of the synergies will be important in ensuring an acceptable return on capital in our view."
Analyst Graham Doyle at Liberum noted that the JV expects to reinvest up to 25% of the planned £0.5bn of savings, implying a drop-through of £380m, of which GSK would accrue £260m. This would represent around a 10% uplift to the broker's 2022 stand-alone GSK consumer EBIT forecast by 2022. The JV is targeting a core EBIT margin of mid- to high-20s by 2022.
He said the idea of a JV with Pfizer "makes significant sense" as "a capital-light way of achieving the synergy benefits of an acquisition, the potential for which caused much concern over the past 12 months", though the proposed de-merger in three years "leaves the rest of the group exposed to and increasingly reliant on an R&D turnaround which is now itself more reliant on the recent Tesaro deal – a transaction that we are sceptical of".
Russ Mould at AJ Bell contrasted the market's immediate reaction with the "raspberries" blown at the Tesaro deal due to concerns over the price tag and quality of the acquisition.
“The positive reaction also likely reflects longer term plans for GlaxoSmithKline to spin off its consumer health business into a separate company. Demergers often result in positive stock market returns as they allow the unbundled firms more freedom and greater focus and often lead to value which was not recognised as part of a larger entity being factored in by the market," he said.
“One slight issue is that Reckitt Benckiser (and Glaxo itself) walked away from a bid for Pfizer’s consumer health business nine months ago, raising some question marks over the strength of the portfolio.”