United Tech’s $16.5 bln buy relies on debt markets

September 22, 2011

By Agnes T. Crane
The author is a Reuters Breakingviews columnist. The opinions expressed are her own.

United Technologies is catching a break from lenders. The 47 percent premium built into the $16.5 billion the U.S. industrial group is paying for the shares of aerospace specialist Goodrich makes the price look over-generous, especially amid gloomy stock markets. But cheap debt should make the deal easier to swallow.

The company indicated hoped-for annual synergies of up to $400 million. Taxed, put on a multiple of 10 and offset by the expected $500 million of one-off costs, these are worth less than $2 billion after adjusting for the five-year delay before they materialize in full. That’s little more than a third of the premium United Tech is paying to the undisturbed price of Goodrich. No wonder some investors initially got sticker shock.

Goodrich’s allure, however, goes beyond cost savings. Among other aerospace interests, United Tech owns Pratt & Whitney engines. As with the classic example of computer printers, the big profit in this kind of business comes from the aftermarket and 43 percent of Goodrich’s revenue comes from service calls, giving United Tech a new source of potential growth.

And on another financial measure, the deal doesn’t look so dear. Goodrich is expected to make operating profit of $1.6 billion in 2013, according to Thomson Reuters. Suppose $300 million of cost cuts are in place by then, and within a couple of years United Tech will be collecting a pre-tax 10 percent return on its total investment, including assumed debt.

The deal might have been more attractive but for someone talking to the press as the company scouted for financing. Then again, the timing is still good for the Connecticut-based conglomerate to borrow three-quarters of the needed cash. Investors are hungry for relatively safe blue-chip industrial credits. Throw in ultra-low Treasury yields, and borrowing is cheap. United Tech’s existing 30-year debt yields only around 4.4 percent.

The $15 billion of new borrowing shouldn’t damage the company’s credit ratings, either, thanks to a conservative capital structure — though it will be issuing new stock and curtailing buybacks. Even offering debt investors a bit extra, it’s hard to see the company paying more than 5 percent for new debt. For United Tech’s shareholders, that should take the sting out of the jet-fueled deal price.

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