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Bayer’s $23 Billion Discount Is Ripe For Closing

Getting attention. (Photographer: Sean Gallup/Getty Images Europe)

Attracting big-name activist shareholders comes easy to Bayer AG, the drugmaker known for its disastrous $66 billion acquisition of Monsanto in 2018. Following in the footsteps of Elliott Management Corp. nearly four years ago, Inclusive Capital Partners LP this week disclosed a sub-1% holding, while Bloomberg News revealed that Bluebell Capital Partners has also amassed a stake.

The challenge, as ever, will be to get other shareholders to care half as much about Bayer’s potential. Many gave up long ago.

The Monsanto deal landed the company a protracted legal battle over claims that herbicide products that contained glyphosate cause cancer. The chief executive officer who spearheaded the transaction, Werner Baumann, remains in place. But his contract expires next year and the board has started seeking a successor, Bloomberg New reported in September. You’d expect shareholders to try influencing the process, or to use the transition period to set the agenda.

Inclusive Capital is not your regular activist. Its focus is on ESG. That explains its interest in a company whose strategy is in part built on delivering food security. The environmental and social aspects of the ESG moniker should be central to Bayer’s purpose. Sustainable farming is a critical priority. And good governance — the G — is the key to delivery.

Bluebell’s interest looks more conventional for an activist. It’s seeking the oft-mooted fix — a breakup that undoes an unusual model that combines crop science and pharmaceuticals.

For the market, the focus is on the Monsanto litigation legacy. An initial $11 billion settlement left some uncertainty over the final bill for ending claims. (Bayer says it stands “fully behind the safety of our glyphosate products.”)

Bayer is Europe’s cheapest major pharmaceutical stock, trading at less than 7 times estimated earnings before interest, tax, depreciation and amortization (Ebitda) in 2023 within a sector commanding around 12 times. The market capitalization would be around 21 billion euros ($23 billion) higher than its 53 billion euros at Tuesday’s close if the shares traded at brokers’ average price target.

The rosy analyst targets reflect a high theoretical valuation for the company’s constituent parts. The crop and pharma businesses are expected each to generate more than 6 billion euros of Ebitda in 2023, with the smaller consumer healthcare business set to make around 1.4 billion euros, according to forecasts complied by Bloomberg. The back-of-the-envelope valuation involves applying peer valuation multiples to these profit streams — say around 13 times for crop science, a conservative 8 for the pharma business, and 11 for consumer health.

That would suggest an enterprise value of roughly 145 billion euros. Deduct net debt, the pension deficit, remaining glyphosate litigation provisions, and shared costs, and you could have an equity value of around 90 billion euros before applying a conglomerate discount.

A weak stock price is a problem: It hampers management’s ability to get things done. But breaking up the business, with all its disruption, does not seem the immediate way forward. Jeff Ubben, the former ValueAct activist behind Inclusive Capital, told the Financial Times this should be an option rather than a necessity. That makes sense.

A full-blown dismantling would be costly in terms of both fees and management distraction. One of the separated businesses would have to rebuild central functions that are currently shared. Ring-fencing glyphosate liabilities in one part of the business wouldn’t rid shareholders of the exposure.

Bayer’s domestic peer Merck KGaA has more than doubled in value in the last five years even though its business combines pharmaceuticals with chemicals. True, some less radical corporate finance surgery would help Bayer, notably a sale or listing of the consumer healthcare business (one of Bluebell’s proposals.) The proceeds could cut debt.

Investors are already aware of Bayer’s sum-of-the parts valuation. A breakup would not in itself address its core problems — the ongoing uncertainty about the Monsanto liability and the shortage of management credibility. The former will become clear in time. As for the latter, it’s hard to see how leadership with links to the past can regain investor confidence. Small wonder Ubben wants an external appointment to replace Baumann. For its part, Bluebell wants a new chairman, Bloomberg News reported. 

Under German corporate law, CEOs have tremendous power to act without consulting shareholders. Baumann was able to do the Monsanto deal without having a shareholder vote. He was also able to survive protest votes against his leadership. Hence the premium now on management credibility. Bayer needs a break with the past — not a breakup.

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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Chris Hughes is a Bloomberg Opinion columnist covering deals. Previously, he worked for Reuters Breakingviews, the Financial Times and the Independent newspaper.

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