Moody's Investors Service – the credit rating agency of Moody’s Corp MCO – has put Baxter International Inc.’s BAX ratings on review for downgrade as the company nears the spin-off of its bioscience business into a newly publicly traded company – Baxalta Inc. The ratings on review are Baxter’s long-term A3 senior unsecured notes and short-term Prime-2 ratings.
The rationale behind this action is the agency’s belief that post-separation, Baxter's smaller, less diverse, and lower margin business could result in a credit profile that is no longer sufficient to maintain its A3 rating.
In Mar 2014, when Baxter had announced its intention to spin-off its bioscience business into an independent public company, Moody’s had downgraded its rating outlook on the company to negative from stable. However, at that time, the agency had affirmed Baxter's A3 and Prime-2 ratings.
Now, as the company is nearing the spin-off date, Jul 1, 2015, the agency seems to be apprehensive about the impact of the transaction.
Notably, Baxter’s bioscience division currently contributes a significant portion to the company’s sales and profits (40.2% of revenues in 2014). Also, many of Baxter's key pipeline products are in its bioscience area. Thus, Moody’s believes that the separation would be a material event for the company.
Moreover, Moody's had expected Baxter to deleverage following the Gambro acquisition in Sep 2013. However, several factors impeded deleveraging, including the sale of Baxter's vaccines business in Dec 2014, the impact of the strong US dollar on the company’s foreign earnings, higher manufacturing costs associated with the peritoneal dialysis and IV product lines, initial underperformance at Gambro, as well as one-time costs associated with the separation.
We note that in 2014, the company recorded separation-related costs of $167 million while its total long-term debt and lease obligations (including current maturities) stood at $8.4 billion as of Dec 31, 2014.
In Dec 2014, Baxter had filed a Form 10 registration Statement with the U.S. Securities and Exchange Commission (SEC) and an amendment related to the separation. However, details regarding capital structure and financial policies are still not known.
We believe that if Baxter’s credit ratings are downgraded, the company’s financing costs related to its credit arrangements and any future debt issuances could be unfavorably impacted.
Stocks to Consider
Currently, Baxter carries a Zacks Rank #4 (Sell). Better-ranked stocks in the medical products industry include SurModics SRDX and Abaxis ABAX. While SurModics sports a Zacks Rank #1 (Strong Buy), Abaxis carries a Zacks Rank #2 (Buy).
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