General Electric's (GE 1.28%) announcement last week that it would buy advanced surgical visualization company BK Medical for $1.45 billion in cash would almost have been an afterthought for GE a decade ago. However, these days it's a lot more critical. The deal marks the largest acquisition by CEO Larry Culp, a leader noted for his ability to acquire businesses, and it should give investors confidence in the company's future. Here's why.
GE is growing where it matters
First, the deal will boost growth. BK Medical produces imaging and surgical navigation technology used in surgeries and ultrasound urology. As such, it's highly complementary to GE's ultrasound business. That's important because ultrasound is one of the higher-growth businesses at GE Healthcare. For example, management has outlined mid-single-digit growth aspirations for its ultrasound business, compared to low- to mid-single-digit growth for the overall healthcare business.
In addition, GE Healthcare is probably the industrial business that would be the most highly rated if it traded as an independent company. For example, GE's closest competitor Germany's Siemens Healthineers, trades on higher estimated (Wall Street analyst consensus) enterprise value (market cap plus net debt) to earnings before interest, taxation, depreciation, and amortization, or EBITDA.
| EV/EBITDA | 2020 | 2021Est | 2022Est | 2023Est |
|---|---|---|---|---|
| General Electric | 23.3x | 16.4x | 12.1x | 9.9x |
| Siemens Healthineers | 16.4x | 20.6x | 18.5x | 16.3x |
In a nutshell, GE is boosting growth in one of the fastest-growing businesses, and its most highly rated business.
A secure financial position
For Culp, taking over the company in October 2018 must have seemed like playing a game of closed positional chess with former world champion Anatoly Karpov. Heavily in debt and with little room for maneuver, the open option was to embark on a series of asset sales to reduce debt while improving the position incrementally by repositioning the businesses.
Consequently, GE sold its biopharma business to Danaher (Culp's former company) for a net price of around $20 billion; and its aircraft leasing business, GECAS, for $24 billion; among others.
It's been a while since GE was in any position to make meaningful acquisitions. That's a concern for an industrial conglomerate because investors rely on management to invest in the parts of their diversified businesses set to grow -- one of the benefits of diversification. It's also a concern because GE tends to make large-ticket items that require a substantive upfront investment, such as aircraft engines, gas turbines, wind turbines, and imaging equipment.
Image source: Getty Images.
As such, the BK Medical deal gives investors confidence that GE's financial position is now secure and management can invest for growth. It's a particularly relevant consideration given that Culp built his reputation at Danaher, making a series of successful acquisitions and applying a set of continuous improvement and lean management techniques to improve the performance of those businesses. Investors will be hoping he has the opportunity to do the same for GE.
The healthcare business is unlikely to be sold
The investment also signals that GE is unlikely to sell its healthcare business anytime soon. The former CEO, John Flannery (who used to run GE Healthcare), had planned to spin off the company to raise cash to pay off debt, but those plans were abandoned in favor of selling the biopharma business.
The deal will reduce expectations for a sale of the remaining GE Healthcare (imaging, ultrasound, healthcare systems, pharmaceutical diagnostics, software, and solutions).
This makes perfect sense given that GE will need earnings and cash flow from GE Healthcare to support GE Aviation as it recovers from the impact of the COVID-19 pandemic on commercial flights and GE Renewable Energy as it builds its offshore wind business from almost a standing start in 2021.
Image source: Getty Images.
Looking ahead
In the near term, GE Healthcare faces some headwinds from ongoing supply chain challenges likely to extend through the first half of 2022. However, as Culp outlined recently at the Morgan Stanley Laguna Conference, there isn't an issue with end-market demand.
As such, once GE gets through the reopening challenges, it's reasonable to expect BK Medical to start helping GE accelerate its healthcare segment growth rate to mid-single digits rather than low-single digits. Given how highly valued healthcare companies are, that could make a material difference to the share price over the years.
