Credit Suisse Questions Financials of Rumored Danone, Mead Johnson (MJN) Deal

Mead Johnson (NYSE: MJN) gained last week after Reuters reported Danone is preparing to make an offer, but in the view of Credit Suisse analyst Alex Molloy, financials of a potential transaction "hard to fathom."

"It's not that we question the strategic logic. Infant Milk Formula is one of the most attractive consumer staple markets, strongly branded with good growth - even if Danone has had some unfortunate mishaps of late," said Molloy. "But quite how the financial case adds up is hard to fathom."

"If we assume a multiple consistent with recent similar transactions (and a 30% premium to MJN's closing price), we estimate the starting return on investment would be under 3½%. Even assuming savings of 7% of MJN sales (consistent with Nestlé/Wyeth) it would still take a decade for returns to beat an 8% cost of capital. And how might the group finance this? Selling Clinical (for€5bn?) and buying MJN for cash would see net debt to EBITDA at 5x – too high. So we believe another equity issue would be necessary, testing the patience of shareholders. Perhaps a strategic shareholder/partner is waiting in the wings to support such a move? A Sovereign Wealth Fund?" he continued.

"If we assume a target net debt / EBITDA of 3.5x then some €7bn of equity would be needed to fund this, diluting EPS by 7-10% pro forma, or just about neutral if the 7% savings as above can be delivered. On balance, we believe Danone will have a hard job convincing investors that such a move makes sense financially. The group's history of putting strategic ambition above financial logic looks set to be tested again," he added.

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