A Perspective on Medtronic’s Acquisition of Covidien

I just learned that my former company Medtronic has announced it will acquire Covidien for $43 billion – more than ten times the size of the company’s largest deal to date. At first glance this looks like “a marriage made in Heaven.” This combination enables Medtronic to extend its mission of using biomedical engineering to serve patients suffering from chronic disease, now totaling an estimated 15 million new patients per year.

The combination offers Medtronic a number of significant benefits:

  1. A near-perfect strategic fit that accelerates Medtronic’s growth in vascular therapies with Covidien’s market leading peripheral vascular and neurovascular therapies and puts Medtronic into the #1 position in gastro-intestinal, respiratory, and advanced surgery for a number of chronic diseases, including multiple types of cancer.
  2. Broadens Medtronic’s investment in innovation with expanded research and development capabilities and ability to accelerate its R&D investments to more than $2 billion per year.
  3. Acceleration of Medtronic CEO Omar Ishrak’s commitment to make Medtronic a major player in emerging markets. Covidien adds $5 billion in international revenues to Medtronic, much of them coming from rapidly growing emerging markets.
  4. A highly diverse revenue base that should exceed $30 billion in its first full year. This will expand Medtronic’s ability to offer economic value to deliver health care more efficiently to leading health care providers.
  5. A financially attractive deal structure (60% stock, 40% cash) which is accretive to earnings in its first full fiscal year. Significantly, this deal enables Medtronic to utilize the $13 billion in cash it has trapped overseas. With this combination Medtronic becomes “a cash machine” with an estimated free cash flow of $7 billion per year.
  6. Worldwide Medtronic will have more than 85,000 employees and a market capitalization that should exceed $100 billion, making it one of the world’s largest health care companies. This is up from 4,700 employees and $1.1 billion in market value when I joined the company in 1989. Medtronic will greatly strengthen its position in my home state of Minnesota which will become the combined headquarters for the new company.

I suspect the news media will focus much attention on the tax inversion that is required for Medtronic to change its legal domicile to Ireland in order to free up its overseas cash in order to finance the deal.  It is interesting to note, however, that this change is not driven by tax savings, as Medtronic’s current net income tax rate of 18% will not change. Medtronic has been active in optimizing its international tax position since the 1970s with its Puerto Rico locations. In 1996 Medtronic’s European headquarters was located in Switzerland and its manufacturing position in Ireland was expanded through its 1998 acquisition of California-based AVE.

Kudos to Omar Ishrak in putting together such an attractive strategy to build the company in exciting new ways and extend its mission to “alleviate pain, restore health, and extend life.” Medtronic’s growth story continues.