GE’s Spinoff Deserves Healthy Skepticism
Healthcare spinoffs are everywhere you look these days.
In the first week of January alone, Johnson & Johnson JNJ 0.81% consumer unit Kenvue formally filed for an initial public offering, GE’s newly spun-off healthcare unit GE 0.91% began trading, and Baxter announced plans to spin off its kidney care unit. Swiss giant Novartis, meanwhile, is working to divest its Sandoz generics business.
Even in a world where spinoffs are all the rage, health care stands out. An analysis of recent divisions by Houlihan Lokey found that from 2019 to 2022, the sector was tied for first place with information technology.
In general, spinoffs are usually an attractive way to drive shareholder returns. First of all, they are tax efficient. But more importantly, they allow the parent company to reduce complexity where size alone provides no strategic advantage. Meanwhile, the newly created company gains autonomy to make better decisions. That’s the idea with newly listed GE HealthCare GEHC -0.08% Technologies , whose management is arguing that a more nimble company will make faster and better decisions.
At first glance, this makes sense. Unsatisfied with the parent company’s focus on a higher-growth division, the lower-growth company focuses on what it does best, allowing it to drive top- and bottom-line growth. An analysis by Morgan Stanley (which acted as lead adviser on the GE spinoff) of medical technology spinoffs since 2000 showed that they outperformed the S&P 500 by about 20% in their first year as companies. independent, listed.
But new spin-off companies often come with some baggage and should be scrutinized closely. In recent years, they have often become a way for large companies to say goodbye to underperforming units while giving the new company some unwanted debt. A closer look at Morgan Stanley’s list reveals that more recent spinoffs have underperformed the S&P 500, with older, more successful ones such as AbbVie (spun off from Abbott) and Covidien (spun off from Tyco and later acquired by Medtronic) that skew the numbers. Of the five most recent spinoffs on Morgan Stanley’s list—SeaSpine Holdings, Varex Imaging, Alcon, Siemens Healthineers and Envista Holdings—only Siemens Healthineers outperformed the S&P 500 two years after the transaction.
Looking at GE HealthCare, the growth case as a stand-alone is good. Growing healthcare demand should allow the company to expand its ultrasound business, while its imaging and patient care solutions divisions have relatively low margins that can be expanded by focused management.
SHARE YOUR THOUGHTS
What is your outlook for GE HealthCare? Join the conversation below.
But it’s hard to get excited about the company’s valuation. The newly listed shares closed at $58.95 on Friday, at the high end of Morgan Stanley’s analyst estimate range of $52 to $59. Edge Group, a research firm focused on special situations, has a $54.52 price target on the stock, reflecting an enterprise value of 12.7 times forecast 2024 earnings before interest and taxes – a discount to Siemens Healthineers.
GE HealthCare is heavily leveraged with about $15 billion in debt and pension obligations, a large number for a company with a market cap of $27 billion. With such a high debt load, it may choose not to pay dividends for now, according to Jim Osman, chief executive of Edge Group.
In Edge’s 20-year study of large-cap spinoffs, stocks fell an average of 7% in the first 30 trading days, but returned 22% two years after the spin. For patient investors, investing now could pay off in a few years as GE HealthCare’s experienced management team should drive revenue and margin growth. For those looking for near-term performance, it may be worth waiting for a better entry point.
Email David Wainer at [email protected]
Copyright ©2022 Dow Jones & Company, Inc. All rights reserved. 87990cbe856818d5eddac44c7b1cdeb8
