Strategic M&A among US corporate healthcare issuers continued at a rapid clip in 1Q21 despite potentially greater antitrust enforcement and competing demand for healthcare assets from financial buyers, Fitch Ratings says.
Factors encouraging strategic M&A include escalating threats to pricing power and secular shifts in consumer preferences, both of which were reinforced by the outcome of the 2020 election and the pandemic. The availability of capital, investor interest in healthcare and low interest rates are additional M&A catalysts.
During the Obama and Trump administrations, strategic tie-ups in healthcare faced a relatively benign anti-trust environment. However, recent comments from the Federal Trade Commission (FTC) regarding plans to overhaul its process for reviewing deals and new nominees to the commission portend more difficulty in winning government approvals for large transactions under the Biden administration.
The FTC filed an administrative complaint and launched a federal lawsuit to stop Illumina’s (BBB/Stable) proposed $7.1 billion acquisition of GRAIL. The complaint states the combination would reduce competition and diminish innovation in the market for multi-cancer early-detection tests.
Antitrust enforcement appears to be moving toward broader application than in the recent past. Considerations historically included whether mergers would result in a material change in market share that leads to less competition, with approval requiring divestments of assets where overlap was highest. However, regulators may now also look to assess whether some combinations would influence other behaviors that eventually harm consumers.
UnitedHealthcare Group’s (A/Stable) Optum division’s pending acquisition of Change Healthcare for $7.8 billion could also come under regulatory scrutiny. The American Hospital Association requested that the Department of Justice investigate the merger as it could result in a concentration in healthcare IT services that leads to higher costs.
M&A has been a catalyst for negative ratings momentum for US healthcare over the past few years due to a heavy reliance on debt funding and execution risk-realizing synergies. If a more stringent anti-trust environment dampens deal volume, it could lessen event risk to ratings. However, credit profiles may be still face risk in the long run despite potentially fewer large acquisitions.
Fitch expects healthcare companies would seek to satisfy the strategic drivers of M&A, which include diversifying revenues and backfilling R&D pipelines, by augmenting R&D and capex. These cash outflows would likely be spread out over time and more predictable and manageable than those for episodic acquisitions. However, the outflows are also early-stage investments and thus have more uncertainty related to commercialization than do the acquisition of existing and late-stage businesses.
Credit-neutral small and midsized transactions to backfill pipelines and position companies for growth should have a greater likelihood of regulatory approval and are therefore likely to continue. We expect an uptick in tuck-in acquisitions in the medical device and diagnostic segment as operating conditions improve, leverage headroom increases and companies look to reduce cash previously reserved to withstand the effects of the coronavirus pandemic.
Rating implications of large-scale acquisitions have generally been negative due to increased leverage and Fitch’s view on the pace of deleveraging; but there have been instances where M&A drove upgrades. For example, Mylan, now named Viatris (BBB/Stable), was upgraded following its merger with the Upjohn division of Pfizer (A/Negative) and Allergan’s ratings were also upgraded prior to being withdrawn after the company was acquired by AbbVie.
