Tenet Healthcare Corp
) announcement to acquire a small competitor firm -
Vanguard Health Systems
) -- in an all-cash deal of $4.3 billion has come across as one
of the major news in the healthcare industry. The transaction is
scheduled to culminate by the end of this year.
The valuation is more than 70% higher than the closing price
of $12.37 on Friday. This further surged approximately 60% on
Monday and closed at $20.94.
Deal Amid Debt Concerns
Valued at $1.8 billion, the $4.3 billion deal includes debt
worth $2.5 billion, which will be acquired from Vanguard.
However, this debt could dent Tenet's highly leveraged balance
sheet. While the financial status of Tenet will not allow
it to pay beyond 6%, a major part of the debt is in the form of
notes carrying interest between 7% and 8%. Even at this rate,
Tenet's combined leverage ratio, post acquisition, is expected to
be over 5x and could raise the concerns of the ratings
Meanwhile, the attorneys of Vanguard shareholders believe that
the company has sold itself for too less, particularly, at a time
when Vanguard's financials were witnessing noticeable improvement
that showcased future growth potential too. Vanguard posted
increased operating cash flow and earnings in the 9 months ended
Mar 31, 2013, delivering positive earnings surprises in 6 out of
last 8 quarters.
On the other hand, with a total debt of about $5.4 billion at
the end of Mar 2013, Tenet would again raise debt from Bank of
America Merrill Lynch, thereby further deteriorating its
debt-to-EBITDA ratio. The company intends to attain a senior
secured term facility worth $1.8 billion from the bank and
finance Vanguard's debt through a senior unsecured bridge credit
facility worth $2.8 billion. Post acquisition, Tenet will issue
high-yielding long-term notes for the amount drawn from this
bridge credit facility.
The Upsides Galore
While some cost of risk has to be borne, no deal is ever made
on a base of complete drawbacks. The acquisition not only
diversifies Tenet's business portfolio but is aligned with the
benefits of the healthcare reforms in the US that requires
citizens to have medical insurance coverage, offering ample
growth opportunities for healthcare providers as well.
The non-overlapping business of Vanguard also brings in 28 new
acute care and specialty hospitals across Texas, increasing
Tenet's exposure toareas of child and heart care. The acquisition
further complements the company's strategy of expanding its
operating and competitive leverage in the metropolitan markets
via inorganic growth.
Meanwhile, the deal is expected to be accretive within the
first year of culmination. Tenet also projects annual synergies
worth $100-200 million owing to reduction in supply costs and
efficient labor management.
Moreover, the improving outlook for cash flow in 2014 and
beyond injects confidence and eases the debt concerns. Management
expects the debt-to-EBITDA ratio to improve by the end of the
first year of the acquisition. This ratio should be within
4.75x-5.0x by 2014-end and further improve to 4.25x-4.75x in the
long run. Thus far, the ratings agencies appear to be comfortable
with an above 4x debt leverage for Tenet, providing it with ample
room for improving its business profile and financials.
Tenet reiterated its target of buying back about $200 million
shares in the second half of 2013, retaining shareholder
confidence. Despite higher bad debt expenses and debt leverage,
we believe that the company has the potential to boost its
outpatient revenue and earnings in the future.
Other Stocks to Consider
Apart from Tenet,
Health Net Inc.
) carry a Zacks Rank #2 (Buy). Vanguard has a Zacks Rank #3
CENTENE CORP (CNC): Free Stock Analysis
HEALTH NET INC (HNT): Free Stock Analysis
TENET HEALTH (THC): Free Stock Analysis
VANGUARD HEALTH (VHS): Free Stock Analysis
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