Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

Bayer shares have recoiled at the prospect of the German life-sciences group buying U.S. seeds giant Monsanto. This looks more serious than the thumbs-down that usually accompanies ambitious takeover plans. And it threatens to undermine the deal by making it harder for Bayer to use its own stock to pay for it.

The stock is off nearly 10 percent since Bayer's interest in Monsanto was revealed by Bloomberg last week, and almost 20 percent over the last month. There may be concerns about overpaying, strategic shift and a possible need for share issuance.

Shares Cropped
Bayer shares haven't reacted well to news of a bid
Source: Bloomberg

Assume Monsanto demands a 30 percent premium to its undisturbed share price. That implies a take-out price of $117 per share, valuing the equity at $51.3 billion and the group at $59 billion including net debt. Monsanto shareholders would get a $12 billion premium, roughly the net present value of the financial upside of the transaction based on Bernstein's estimate of $1.5 billion of annual benefits.

But Monsanto investors will balk at taking Bayer stock, even in part payment. Partly, that's because they may not be able to hold euro-denominated shares. But it's also because Bayer has a very different investment story, based as much around pharmaceuticals as agriculture, whereas Monsanto is focused on seeds.

Bayer's weak share price suggests even its own investors aren't sold on the strategic logic of buying Monsanto and re-weighting the business to have vastly more exposure to agriculture. In particular, the shift would come at the cost of limiting Bayer's ability to participate in consolidation of the pharmaceuticals industry.

Without a convincing equity story, it will be hard for Bayer to raise cash to pay for the deal by tapping its own shareholders. That puts pressure on it to make disposals or raise debt. Funding the entire acquisition in debt just doesn't add up. It could push the enlarged group's net debt to 67 billion euros ($75 billion), an unsupportable 4.7 times this year's combined forecast Ebitda of 14.2 billion euros. Even raising a large amount of debt would see the credit rating suffer, forcing Bayer to use its cash flows to pay down borrowings rapidly and constraining its ability to invest elsewhere.

Bayer may feel it's in a commanding position and won't be sucked into an auction. Domestic rival BASF would struggle to outbid Bayer. Its market value is 61 billion euros ($68 billion) -- compared to Bayer's 74 billion euros -- so it would face even bigger challenges buying Monsanto.

But it would be unwise for Bayer to dismiss the share price fall as a standard reaction to M&A. The group will have its work cut out demonstrating why a combined Bayer-Monsanto would be worth holding.

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

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