Unilever: Unilever is committed to strict financial discipline to ensure that acquisitions create value for shareholders. The company benefits from a strong balance sheet and cash generation, and remains committed to maintaining an A-band credit rating.
Fitch Ratings-Milan/London-18 January 2022: Unilever PLC's (A/Stable) offer to buy GlaxoSmithKline PLC's (GSK, A-/Stable) consumer health division, or possibly any other large target, is likely to raise Unilever's debt to an extent that it would not be able to reduce to levels consistent with an 'A' rating category over 2024-2025, opening the possibility of a multi-notch downgrade into the 'BBB' category, Fitch Ratings says.
GSK on 15 January 2022 said Unilever offered GBP50 billion, comprising GBP41.7 billion in cash and GBP8.3 billion in equity. The offer price, we estimate, represents approximately 22x the target unit's EBITDA of around GBP2.3 billion. This bid, rejected by GSK, would have led to Unilever's net debt/ EBITDA reaching between 4.5x and 5.0x (or an FFO net leverage of above 6.0x) in 2022 after the deal closing. Fitch believes the offer would need to be raised to be successful, given GSK's refusal to consider it, resulting in further deterioration of these metrics.
If the deal proceeds, we estimate that, unless Unilever were to engage in material divestments, its FFO net leverage would not fall below 4.5x (or net debt/EBITDA of 3.5x) in 2025. This is above the 3.3x threshold above which Fitch would consider negative rating action for Unilever's 'A' Long-Term Issuer Default Rating.
The extent of a rating downgrade would consider the mitigation offered by a temporary shift of financial policies by capping dividend growth, the final proportion of equity included in the offer, the stance towards further M&A, and proceeds from any divestments. Unilever has stated it intends to focus on the Beauty, Health and Hygiene segments, and divest lower-growth businesses. We believe this means management is open to divesting a large part of the food, beverage and ice-cream businesses (grouped under Foods & Refreshment), which had slow organic revenue growth over 2017-2020.
Net of the already agreed-to-be-divested tea business, the Foods & Refreshment business had EUR18 billion of sales and underlying profit of around EUR3.3 billion, about a third of 2020 operating profit. Unilever's diversification and stability would be reduced if it continues to dispose of Foods & Refreshment assets over the next few years to 2025, but we calculate that the proceeds could enable the company to reduce FFO net leverage below the 3.3x threshold by 2025, close to management's goal of returning leverage to its current conservative net debt / EBITDA of around 2.0x (corresponding to FFO net leverage of 3.0x that we expect at end-2021) following an acquisition.
Fitch will assess the risks of executing these divestments by 2025, and at multiples that generate sufficient proceeds to repay a good part of the acquisition debt swiftly, when looking at the impact of any transaction of this magnitude on the rating.
We view GSK's operations as complimentary to Unilever's, which will allow the latter to tap its own brand management and marketing capabilities as a consumer products conglomerate. If it were to proceed, this transaction would allow Unilever to strengthen its high-growth vitamins and supplements portfolio and enter the over-the-counter (OTC) medication market through GSK's wide range of products for pain relief and treatment of digestive and respiratory issues.
The transaction carries high integration risk, including learning to manage the distribution channels of OTC medicines. Moreover, Unilever will need to show that it can continue to innovate in the OTC business without access to GSK's pharma know-how. Nevertheless, there would be benefits in terms of growth prospects, from costs and sales synergies, and an uplift to Unilever's current consolidated operating profit margin of 16.5%, given the 22% margin in GSK consumer health segment. These benefits could result in better cash flow conversion, which would compensate for a potentially more aggressive leverage profile for the enlarged group.