Healthcare conglomerate Johnson & Johnson (JNJ 0.87%) recently made headlines by announcing it will acquire medical device company Abiomed for $16.6 billion in an all-cash transaction. The buyout offer was roughly a 50% premium to where shares of Abiomed traded at the time of the announcement, signaling Johnson & Johnson's desire to make the deal happen.
So what is Johnson & Johnson getting for its money? Or, more importantly, what are investors getting? Few companies have the financial firepower Johnson & Johnson has, so I'll break down the acquisition's financial impact and whether Abiomed will make its new parent company a better investment for long-term investors.
A large but manageable deal
Significant acquisitions can be a huge gamble. Sometimes they can blow up in a company's face, mainly when debt funds the transaction. Just look at tobacco company Altria, which doubled the debt on its books by buying Juul, a move that was a complete failure. Fortunately, Johnson & Johnson is a much stronger company financially.
You can see that Johnson & Johnson has $2 billion in net cash, and enough on hand to fully fund the acquisition. Management isn't rolling the dice and hoping for the best. This deal is affordable. Investors will have to see if Johnson & Johnson does use some debt to maintain a healthy cash balance in the face of a potential recession.
But even if it does, so what? The company has an AAA credit rating from the major rating agencies; not even the United States government commands that level of confidence in its financials. The company has generated $17 billion in free cash flow over the past four quarters alone, so this shouldn't be a long-term issue either way.
Obtaining a profitable, growing asset
Abiomed designs and sells its Impella heart pumps, which will fit into Johnson & Johnson's medical device business segment. Heart disease is one of the most common health conditions worldwide. More specifically, heart failure is diagnosed in more than 870,000 people yearly. Research firm Exactitude Consultancy estimates that the market for heart pump devices will grow from $1.6 billion in 2020 to more than $7 billion by 2028.
Johnson & Johnson praised the business in its official press release announcing the acquisition, pointing out growth opportunities in treating new conditions and geographies and product development opportunities over the long term.
But Abiomed's value shows up in the company's financials too. Right now, the business does just over $1 billion in annual sales and about $217 million in free cash flow. Johnson & Johnson already converts about $0.21 of each revenue dollar into cash, so Abiomed should fit nicely into Johnson & Johnson as another cash-producing asset.
The short- and long-term impact
Abiomed isn't going to move the needle in year one; the company's $1 billion in revenue is a drop in the bucket considering Johnson & Johnson's $96 billion in trailing 12-month revenue. Management estimates that the company will begin contributing to earnings in 2024. The acquisition feels geared toward the long-term, and the premium which management paid to get the deal done underlines that sense.
But Johnson & Johnson could make out well over the long-term. Analyst estimates call for 25% annual earnings-per-share (EPS) growth over the next three to five years for Abiomed, and the long-term growth outlook for heart pumps could extend well past the end of this decade. Johnson & Johnson is a Dividend King and has proven itself highly competent at putting its cash to work over the years.
Long-term investors might have to wait years to realize the total return on Johnson & Johnson's investment. Still, if there's a company that's easy to buy and hold indefinitely, Johnson & Johnson might be the textbook example.