(SEEKINGALPHA.COM)– (MDT) has announced a rather interesting bolt-on deal, although the timing of the deal can be questioned. The company is acquiring robotic guidance system provider Mazor Robotics (MZOR) in a $1.64 billion deal, as the cash component comes in $300 million less thanks to net cash holdings of Mazor, and the fact that Medtronic already holds a minority stake in the business.
The transaction is truly a bolt-on deal at roughly a percent of the current valuation of Medtronic and brings little financial contribution in the short term. The acquired technology and potential does, however, add to the long-term organic growth potential of Medtronic, very important as well, as the valuation of Medtronic is largely fair just above the market multiple. A recovery of organic growth has made investors enthusiastic as of late, which means that the valuation is largely fair, with or without the Mazor deal.
The Deal
Medtronic has reached an agreement to acquire Mazor at $29.25 per share, that is at least the purchase price for the local shares in Israel, with the ADR fetching a bid double that amount. With the purchase of Mazor, Medtronic acquires the core technology used for spine surgery to move away from freehand procedures to state-of-the-art procedures.
The vision of Medtronic is that robotic-assisted procedures will become the normal for spine surgery in the future, given that these are complex procedures which require great precision, consistency and control. Furthermore, Medtronic is well familiar with Mazor as it made a strategic and equity investment in the company in May of 2016, after which it became the exclusive global distributor of the Mazor X system from 2017 onward.
The timing of the deal could have been a bit better in that respect as shares were trading around the $10 mark when the company made its first investment in the spring of 2016 after which shares have now risen by a factor of roughly 5 times. The deal is anticipated to be dilutive in the near term, although Medtronic expects that this will be offset by a resilient performance of its entire business, while it should be accretive to growth in the future.
With an enterprise value of roughly $1.5 billion, it is very obvious that Medtronic is paying up for the technology as the current revenue base of Mazor is not just relatively modest, growth is not that inspiring at all. The company reported sales of $65 million last year, and while growth was spectacular in 2017, it has slowed down dramatically so far in 2018. Growth has come to a near standstill, resulting from the move of direct sales to distribution by Medtronic of its Mazor X systems.
Investors in Medtronic hardly reacted to the deal despite the steep price tag as this is really a bolt-on deal given the size of Medtronic. The $1.6 billion deal, or incremental $1.3 billion investment, is equivalent to just a percent of the market capitalisation, a rounding error in the valuation of Medtronic.
Adding To The Rebound
Medtronic has seen a few years of integration challenges which slowed down organic growth following the 2015 purchase of Covidien in what was a very sizeable deal.
The company grew sales by 0.8% in its fiscal year of 2018, with revenues just missing out on the $30 billion mark. Growth appears lacklustre, but that is mostly the result from some divestments and currency effects as organic sales growth of 4.6% has been getting relatively solid. The good news is that growth has been accelerating, with fourth-quarter sales increasing by 2.9%, supported by 6.5% organic sales growth. The good news is that growth has been supported by all of its four divisions that is: cardiac & vascular, minimally invasive therapies, restorative therapies and the smaller diabetes segment.
The earnings picture requires some attention as GAAP earnings came in at $2.27 per share, while non-GAAP earnings came in at $4.77 per share. No less than nine separate adjustments were made between both earnings metrics, with many of them being both very small and being adjusted for good reasons.
The major discrepancies resulted from amortisation charges on intangibles ($1.10 per share) and the impact of tax reform ($1.39 per share). Those two already explain the vast majority of the discrepancy and I am happy to adjust for them. Trading at $98, that means shares go for 20-21 times earnings.
The company has furthermore been deleveraging following the Covidien purchase. Cash and equivalents amount to $11.2 billion, with debt standing at $25.8 billion, for a $14.6 billion net debt load, which increases by a few billion if we include pension and related liabilities. With adjusted EBITDA running at little over $9 billion, leverage remains very modest at little over 1.5 times.
The Outlook
Alongside the release of the 2018 results, Medtronic issued a solid guidance for the current year, with organic growth seen at 4.0-4.5%. This anticipated growth in the fiscal year of 2019 should be sufficient to allow adjusted earnings to rise further to $5.10-$5.15 per share.
First-quarter sales were flat as reported due to some divestitures, yet organic sales growth was very solid at 6.8%. A strong quarter made that the company hiked the organic sales growth rate by half a percent, although currency headwinds are intensifying due to the stronger dollar. That means that the company is sticking to the full-year earnings guidance, as net debt was cut a little further during the quarter.
Despite the currency headwinds, Medtronic trades at a very acceptable 19 times earnings multiple. While this is more or less in line with the market, or marks a small premium to the market multiple, reality is that mid-single-digit organic sales growth marks a solid performance. This comes as the financial firepower of the company is strengthening by the day, with the Mazor deal remaining a rounding error in terms of the impact on leverage ratios.
SOURCE:https://seekingalpha.com/article/4207855-medtronic-adding-robotics-mix