Higher debt is the problem
There is no doubt that the synergies will help in increasing cash flows and improving the EPS, but these sort of deals generally weaken the balance sheet due to accumulation of goodwill and debt.
As of Dec. 31, 2012, goodwill accounted for 45% of Thermo Fisher’s total assets and similarly, goodwill accounted for 52% of Life Technologies’ total assets for the same period. Further, Thermo Fisher already has a huge debt balance of $7 billion and plans to add on Life Technologies Corp. (NASDAQ:LIFE)’ $2 billion debt, apart from the additional debt that it will take on to finance the acquisition.
As a result, this acquisition, will just add on to Thermo Fisher’s debt as well as goodwill, further weakening its credit profile. Following the announcement, credit rating agencies Moody’s and Fitch have put Thermo Fisher’s rating on review for downgrade and S&P has lowered its rating to ‘BBB’ from ‘A-‘ because of its significant debt. Similarly, Fitch has placed Life Technologies rating on Negative Watch.
Thermo Fisher Scientific Inc. (NYSE:TMO) has mentioned that its pro-forma Debt/EBITDA is expected to rise to 4.3x to 4.4x, and expects to use majority of its $2.5 billion combined free cash flow to help in reducing the debt rapidly to its target ratio of 2.5x to 3x within two years. Hence, as can be seen, at least in the initial years, the increased cash flow will be mainly utilized for reducing debt levels and consequently have a negative impact on dividend distribution and share repurchase.
Versus competitors
The only strongest contender of Life Technologies is Illumina, Inc. (NASDAQ:ILMN). Illumina has not only been able to retain, but has also expanded its lead in sequencing. It is focused solely on sequencing (and ancillary genetics businesses) as compared to Life Technologies, which focuses on a wider variety of markets. Further, Illumina spends a considerable amount on research and development, spending 20% of its 2012 revenue as compared to Life Technologies’ 9% spending.
Another large player in gene sequencing and analysis is Roche Holding . The company tried to acquire Illumina recently, but the deal fell through. Life Technologies Corp. (NASDAQ:LIFE)’ acquisition may nudge Roche towards making another attempt to acquire Illumina, Inc. (NASDAQ:ILMN) in order to increase its market share.
Conclusion
The combined company will definitely benefit from Life Technologies’ Ion Torrent franchise, exciting technology pipeline, its inherent stability through recurring revenue and its number two position in the market. But, at the same time, investors will also be exposed to the combined company’s weakened balance sheet and a very high debt.
The article This Deal Brings Benefits Along With a Huge Debt originally appeared on Fool.com.
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