April 7 (Bloomberg) -- Novartis AG, the Swiss drugmaker facing product delays and generic competition, agreed to buy 77 percent of eye-care company Alcon Inc. in a two-step transaction totaling $39 billion.

Novartis will buy an initial 25 percent stake for $11 billion from Nestle SA, the world's largest food company, which said it will use the money to reduce debt and expand its health- foods unit. Nestle, also in Switzerland, has an option to sell a further 52 percent of Alcon to the drug company for $28 billion.

Acquiring all of Nestle's shares in Alcon would make Novartis the world's biggest maker of eye-care products, including contact lenses and treatments for glaucoma. Novartis would also lessen its reliance on pharmaceuticals as new drugs face delays and sales of hypertension drug Lotrel and the Lamisil anti-fungal medication are hurt by cheaper versions.

``This is an attractive deal at attractive conditions,'' said Karl Heinz Koch, an analyst at Bank Vontobel AG in Zurich. The agreement ``fits into the strategy of further diversification.''

Basel-based Novartis, Switzerland's second-largest drug company, offered $143.18 for each share of Alcon and also has an option to increase the holding to 77 percent, the companies said. The price is 3.5 percent less than Hunenberg, Switzerland- based Alcon's April 4 close.

Ratings Cut

Credit Suisse Group advised Nestle on the sale. Goldman Sachs Group advised Novartis. The drugmaker will use cash reserves and $5.5 billion in loans to finance the purchase. Standard & Poor's cut Novartis's long-term corporate credit rating to AA- from AAA on the ``unexpected change in financial policy.'' Moody's Investors Service cut Novartis to Aa2 from Aaa.

``Novartis always told us they would focus on the pharma business and generics, so it's a bit surprising,'' said Christian Gattiker, head of equity markets at Bank Julius Baer & Co., in an interview.

Novartis, which has lost 17 percent this year, fell 75 centimes, or 1.4 percent, to 51.65 Swiss francs at the close of Zurich trading. Nestle rose 5 francs, or 1 percent, to 516.5 francs. Alcon rose $2.19, or 1.5 percent, to $150.63 as of 4:15 p.m. in New York Stock Exchange composite trading.

The acquisition ``furthers our strategy to strengthen in areas of the market which grow dynamically and which allow us to diversify risk,'' Novartis Chief Executive Daniel Vasella said in a Bloomberg Television interview.

Job Cuts

The purchase, the biggest in health care this year, comes on top of the $13 billion Novartis spent on generic-drug makers Hexal AG and Eon Labs Inc. in 2005 and the $5.7 billion acquisition of vaccine maker Chiron Corp. in 2006.

Novartis, which sells the Lucentis drug to treat blindness in the elderly, is cutting 2,500 jobs in the next two years after the diabetes treatment Galvus was delayed, the irritable bowel treatment Zelnorm was withdrawn, and the Prexige painkiller failed to win approval. Fourth-quarter profit fell 45 percent while revenue rose at the slowest pace in five quarters.

``Novartis will be able to count on cashflow long term, and that makes it attractive,'' said Vontobel's Koch.

Alcon, the biggest company in the $25 billion eye-care market, gets most of its revenue from devices and products used in eye surgery. It sells a range of over-the-counter contact lens products, eye drops and vitamins.

Rival's Setbacks

Alcon benefited from setbacks at rival Bausch & Lomb Inc., which was rocked by financial restatements and the recall of a contact-lens solution in 2006. Bausch & Lomb was later purchased by Warburg Pincus LLC after Advanced Medical Optics Inc. withdrew a takeover bid.

Novartis is paying about 23 times estimated earnings compared with the 27 times estimated profit Warburg paid for Bausch.

Alcon has a 22 percent share of the market for eye drugs, ahead of Allergan Inc. and Pfizer Inc., Novartis said. It controls almost half of the market for surgical products, and has operating income of $1.9 billion and net income of $1.6 billion.

The sale should boost 2008 earnings per share, Nestle said in a statement on its Web site. The bottler of Perrier water will use the proceeds to reduce debt and the cash will also ``support opportunities for profitable growth,'' Nestle said.

L'Oreal Gains

Nestle agreed to buy Alcon in 1977 for $275 million as it sought to expand in the U.S. to offset investments in other markets it considered to be riskier, according to the Swiss company's Web site. Alcon was Nestle's second acquisition outside the food industry. The first was the purchase of a stake in L'Oreal SA, the world's largest cosmetics maker, in 1974.

L'Oreal rose 2.1 percent in Paris trading on speculation Nestle may plan to eventually bid for the rest of the company. Francois-Xavier Perroud, a spokesman for Nestle, declined to comment.

``Alcon is strong enough to stand on its own,'' Nestle Chairman Peter Brabeck-Letmathe said Feb. 21. ``Alcon doesn't need Nestle any more, and Nestle doesn't need any more Alcon.''

The food company sold a minority stake in Alcon in an initial public offering in 2002 at $33 a share. The stock has almost quintupled since that stock sale, and Alcon's profits have tripled since then.

Higher Margin

Nestle has expanded in higher-margin nutrition and health- related food areas, buying a medical nutrition business and the Gerber baby food brand from Novartis last year. Brabeck-Letmathe is giving up the CEO post this week to focus on issues such as the stake in L'Oreal.

Nestle can't raise its stake in L'Oreal before the death of the Paris-based company's largest shareholder, Liliane Bettencourt, according to a shareholder agreement with her. Bettencourt is 85 years old. Nestle also can't change its stake in L'Oreal until 2009, according to the agreement.

To contact the reporters on this story: Eva von Schaper in Munich at evonschaper@bloomberg.net; Thomas Mulier in Geneva at tmulier@bloomberg.net.

Last Updated: April 7, 2008 16:30 EDT