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Piramal-Abbott deal: Our view - Views on News from Equitymaster

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Piramal-Abbott deal: Our view
May 25, 2010

In one of the biggest deals of its kind, Piramal Healthcare recently announced the sale of its domestic formulations business to Abbott Laboratories. The deal would be worth US$ 3.7 bn. Here is our take on the deal.

About Piramal's domestic business
Piramal Healthcare's domestic formulations business has evolved very well over the years. This business accounted for 71% of sales in FY04. This was when the company was not much into exports. But the company's custom manufacturing business then ramped up. Contribution of domestic formulations to overall sales fell to 54% in FY10. Piramal had a strong presence in the domestic market. It was ranked fourth behind Cipla, Ranbaxy, and GSK Pharma. In the past 22 years, the domestic business had grown at an average annual rate of 22%. Although the years before FY09 were a tad volatile largely due to issues with respect to its key drug ‘Phensedyl', the business did very well in FY09 and FY10 to grow above 20%.

Terms of the deal
The management expects Abbott to grow this business better. It also expects Abbott to leverage it to establish a presence in the emerging markets. According to it, Piramal was not in a position to do this. Another reason for this deal is the compelling valuation at which it has happened. The US$ 3.72 bn of payment translates into 9 times sales of the domestic formulations business. The deal is expected to be completed by the end of FY11. The company will get an upfront payment of US$ 2.12 bn by this time. Out of the balance US$ 1.6 bn, the company will get four equal installments of US$ 400 m each beginning 2011. This is not a case of the promoters cashing out like Ranbaxy. Thus, the proceeds would accrue to the company and not the promoters. The proceeds would attract a long term capital gains tax of 21.5%.

Further, as part of the deal, Piramal Healthcare will transfer 350 brands and trademarks to Abbott. What will also go over to Abbott are 5,250 employees and the manufacturing plant at Baddi.

All the other businesses with remain with Piramal. This includes:

  • The custom manufacturing business (including Avecia and Morpeth);
  • The global Inhalation Anaesthetics business (including Minrad);
  • Pathlabs;
  • Vitamins and Fine Chemicals;
  • The OTC business (including ‘i-pill' acquired from Cipla); and
  • The Opthalmology business (for which it has a JV with Allergan).
The proceeds of the sale will be used for retiring all the debt the company has. This effectively means that Piramal Healthcare will become a zero debt company. A special dividend will also be doled out to shareholders. Details of the same will be clear once the transaction is completed. The proceeds will also be used to strengthen the existing businesses. The management has also stated that it is looking at areas beyond healthcare. Our view
We have yet to factor this sale in our estimates as we await more clarity from the management. The positives are that the valuations received for the business are very good. The cash will be used to grow the existing businesses. Further, the existing businesses have margins of 20% plus which means that there is scope for margin improvement going forward.

Having said that, Piramal's domestic business was lucrative which had been doing well in the past. More importantly, in a market which is highly competitive, the business had done very well to be ranked fourth. So other than the attractive valuation the company has received for this business, there is no compelling reason for it to have sold it.

What also concerns us is the statement that the management has made on looking at areas beyond healthcare. Further details on the same have not been divulged though. Finally, it all boils down to how effectively the company chooses to deploy this cash for its businesses which will result in long term value for shareholders.

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