Bayer buy

Tax steroids justify Bayer's $14-billion Merck deal

Bayer's $14.2-billion acquisition of Merck's consumer care business is less pricey than it looks. Non-prescription pharmaceuticals are among the most sought-after assets in global healthcare. Demand for "over the counter" drugs, driven by emerging markets, is growing at four per cent to five per cent a year. Revenue is unthreatened by patent cliffs and less vulnerable to regulatory interference. Strong OTC brands earn Ebitda margins of 30 per cent and more.

That partly explains why Bayer has paid a heady multiple of 21 times the acquired Ebitda. Quoted health care companies on both sides of the Atlantic trade on Ebitda multiples of around 13 times, though data from bankers working on the deal suggest Bayer paid a little less than the average of recent comparable transactions.

Synergies help square the circle. Bayer expects to squeeze annual costs by $200 million or 2.6 per cent of combined revenue by 2017. Taxed and capitalised, those might be worth about $1.5 billion. The Leverkusen-based group also reckons on annual revenue synergies of $400 million. Merck has a relatively small footprint outside the United States and Bayer can utilise its own distribution channels to pump up ex-US sales. The $14.2 billion purchase price starts to look more reasonable if, and it is an "if", one assumes these benefits have a net present value of $3 billion.

Bayer will also spend around $500 million, in one-off costs, in the hope of winning the cost and revenue synergies. But the picture improves further if tax breaks are taken into account. Tax benefits are now commonly used to justify pharma M&A. Here, Bayer reckons it can take advantage of the gap between the tangible value of assets acquired and the actual price it paid. Discounted at an annual rate of five per cent, the net present value of the total tax rebate could be worth as much as $3.3 billion.

If Bayer bags all these gains the Merck purchase price could prove a bargain. It is more likely that, at best, Bayer has paid a full price, rather than a ridiculous one.