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Given the recent rise in Alcon’s (NYSE:ACL) shares it is little surprise that Novartis (NYSE:NVS) has taken the opportunity to make good on its 2008 agreement to purchase the remaining 52% stake of the company from fellow Swiss giant Nestle (OTCPK:NSRGY) for $28.1 billion. What was slightly less expected was Novartis’s decision today to snap up the 23% of the company held by minority shareholders.

Like Ophelia, Novartis may have been protesting too much when late last year it said that it had no interest in going above the 77% holding it would get with the completion of its deal with Alcon, a transaction that will see it spend $38.5bn for more than three quarters of the company (Novartis eyes future growth in Alcon, April 7, 2008)

Providing clarity

Speaking in a conference call today Daniel Vasella, chief executive, said that the shift in position was a strategic move that would clear up the uncertainty about the remaining 23% of the company it did not own, as well as giving some clarity to the employees and investors. What the deal will almost certainly do is put paid to speculation that Novartis was planning on selling Alcon its eye care division, Ciba Vision, to free up cash and content itself while retaining a majority holding of the combined group.

What getting rid of the minority shareholders should also do is speed up integration and also increase the cost savings that Novartis should be able to get out of the acquisition. Also the group will have a free hand in R&D decisions.

Gaining full control of the business also provides justification for the reasons why Novartis first struck the deal with Alcon, including the fact that Alcon has an attractively high net income margin, currently running at around 32% for Alcon compared to 20% for Novartis, according to data from EvaluatePharma.

Business rationale

Alcon is also set for strong future growth due to the aging population who are expected to suffer from a range of ocular problems including age related macular degeneration. Mr. Vasella also pointed to the opportunities in developing countries where more and more money is being spent on eye care. As such, Alcon is forecast to see compound annual growth rate of 7% in revenues over the next four years.

In contrast Novartis is preparing itself for the loss of patent protection of its biggest product, Diovan, in 2012, which last year had sales of $5.74bn. This means that the company is expected to grow revenues at a smaller CAGR of 4%.

To tie up the acquisition and merger of Alcon, Novartis is now set to issue 2.8 of its own shares for every remaining Alcon share. This represents a price of $153 per share, a 12% premium to Alcon’s current share price and values the minority stake at $11.2 billion.

As to the timing of the deal, over the last 12 months shares in Alcon have risen sharply, increasing by 77%. While this has created the conditions for Novartis to make its move, many believe that the stock has performed well because investors speculated that Novartis would ultimately decide to buy out the minority shareholders, despite its earlier protests.

Synergies

Clearing the decks does make more sense for Novartis, even if it does bump up the cost of the acquisition. By having full control the group can extract more cost savings from the deal than it would have been able to with the 23% overhang. Novartis estimates that savings of $300 million over the space of three years are now possible, but only $200 million would have occurred without closing out the minority shareholders.

The group’s decision to use its own equity to fund the acquisition will not please some, as the 205 million shares, of which 98 million are new shares and the rest treasury, will represent a 9% dilution to existing shareholders. But by using shares and not debt it does mean Novartis retains its credit rating and flexibility in making future acquisitions or in-licensing deals. Novartis is known for its financial conservatism and the preservation of its credit rating, currently at AA-, is important to the company.

The first part of the deal for the remainder of Nestle’s stake is expected to be closed in the second half of the year, but the deal to acquire the outstanding part of Alcon is subject to the approval of both Novartis and Alcon's shareholders and board. Some in the market believe that the Alcon board might yet try to secure a better deal despite Mr Vassella’s claims that this is not an acquisition and therefore the premium should be lower than that of a traditional bid. The fact that Alcon shares were today above Novartis’s $153 offer suggests that there might yet be room for some negotiation, but as Novartis will effectively have a 77% stake in the company approving the transaction will ultimately be all but a formality.

Source: Novartis Boosts Alcon Stake