Medtronic pays up for greater China access

But the acquisition of China Kanghui is a good fit for the world's largest maker of medical devices.

By Trefis Oct 4, 2012 12:50PM
Medtronic (MDT) is acquiring Chinese medical devices maker China Kanghui Holdings in a move that could strengthen its foothold in the rapidly growing Chinese device market. Medtronic will shell out approximately $800 million for the deal. We are not surprised by this announcement as medical devices giants have been rushing for acquisitions to fend off market shares.

A few days ago, Boston Scientific announced the acquisition of BridgePoint Medical. Johnson & Johnson also completed its acquisition of orthopedic company Synthes.

Below, we try to assess if the acquisition of China Kanghui makes sense for Medtronic.

Medtronic Stock Break-Up

Why this acquisition could be a good fit

The overall contribution of emerging markets, including China and India, to Medtronic's overall revenue currently stands at 10%, but the company has been targeting to take it to 20% by 2016. This makes sense as these markets have witnessed double digit growth in the recent past and are expected to maintain growth momentum through 2015. China, Asia's second-largest market for medical devices after Japan, is expected to grow by close to 40% to reach $228 billion by 2015. The acquisition will help Medtronic achieve its goal of expanding into emerging markets.

The innovation and launch of new products are key for a medical devices company to survive. China Kanghui has a diversified portfolio of orthopedic, spinal, and surgical instrumentation products along with strong local R&D and cheap manufacturing operations. The acquisition could help Medtronic arrest an expected decline in its spinal division due to weaker demand for its main product Infuse, a bone graft paste used in spinal surgery. While the company's surgical technologies division continues to perform well, the addition of new products could increase its market share beyond our expectations.

Further, medical devices have been grappling with a decline in margins due to pricing pressure following the European austerity and healthcare reforms. Medtronic, with its wide sales network coupled with cheap manufacturing capabilities of China Kanghui, can achieve cost savings as well as increased sales.

China Kanghui had an estimated annual sales revenue of $327 million last year, while profit clocked $19 in million. Based on the $755 million deal value (net of target's cash), the deal seems a bit pricey. Medtronic is paying about 32 times China Kanghui's 2011 EBITDA, almost double of average 14 times of nine similar deals announced in the past one year.

However, should China Kanghui be able to maintain its historical growth of more than 20% (which seems feasible looking at the Chinese market growth), Medtronic will be able to recover most of it in a short span of time.

We have a $45 price estimate for Medtronic, about 5% ahead of the market price, and more acquisitions like this could trigger upside to our price estimate.

Tags: MDT
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