Rakesh Kapoor has a weakness for scribbling charts in meetings. A particular favorite of the Reckitt Benckiser CEO shows the impact of consumer spending power on sales of the company’s homecare products.
While revenue keeps pace for a while with a rise in employment and wages, there’s a point where the line flattens. There are only so many Air Wick room fresheners or tubs of Vanish stain-remover that one person can use.
By contrast, his line showing the effect of higher spending power on sales of consumer healthcare products -- such as Reckitt’s Nurofen and Mucinex -- just keeps rising, demonstrating something Kapoor describes as the "infinite potential" of this particular category of goods.
That’s why he’s interested in buying Pfizer’s consumer healthcare business (which makes Advil and Chapstick) if and when it comes up for sale, as reported by Bloomberg News. An aging population with an appetite for over-the-counter pills, vitamins and hemorrhoid cream is a lucrative prospect.
The interest in large-scale M&A is also a tacit recognition that while the performance of Reckitt’s existing healthcare business has been stellar, homecare has been a bit flat: like that line on the chart. While it’s hard to be too critical of a company with an industry-beating 24.5 percent operating margin last year, healthcare looks more likely to sustain that over the long term.
The homecare business did rally somewhat in the third quarter, with like-for-like sales up 5 percent, but it remains to be seen whether that continued for the rest of the year. Healthcare sales have increased at a steady clip of 13 or 14 percent year-on-year for every quarter in 2015.
Kapoor’s problem is that many of the best consumer healthcare brands are locked up in big pharmaceutical companies, part of the reason why the top-10 suppliers account for just 30 percent of the market. GlaxoSmithKline’s consumer joint venture with Novartis is another business that Reckitt eyes covetously.
Yet even if its patience pays off and Pfizer or GSK put the businesses on the block, there’s nothing to suggest they’ll be cheap. To his credit, Kapoor pulled out of the bidding last year for Merck & Co.’s consumer division. That was sold to Bayer at an eye-watering 7.5 times sales. Deborah Aitken of Bloomberg Intelligence says the expected norm for this type of deal would be about 5 times sales. Based on last year's sales of $3.4 billion, that would value Pfizer's consumer business at $17 billion.
There’s no pressure on Kapoor to hurry a deal and there’s an acknowledgement that the Pfizer assets may not become available for a couple of years. Reckitt has been strengthened by the relative weakness of U.S. competitor Procter & Gamble, which has been locked in its own battle to revive growth.
That said, with Reckitt’s free cash flow averaging about 1.9 billion pounds ($2.9 billion) over the past two years, the British-based company could conceivably be debt-free next year. For a company with a 44 billion-pound market value, that’s an enviably clean balance sheet. It will be Kapoor’s task to put that to profitable use. The "infinite potential" of over-the-counter drugs seems to demand it.
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