United Healthcare (UNH) has offered, by letter, to acquire Aetna. This is not a surprise as the healthcare industry has been one of the most active in terms of mergers, acquisitions, spinoffs, and consolidations. Acquisitions are occurring on a global basis as demonstrated in the recent Walgreens/Boots (WBA) merger bringing an American and British pharmacy together.
The mergers are not without complications in terms of players and timing. Just a week ago Aetna (AET) was talking about acquiring Humana (HUM). The current discussions with United Healthcare Group could become interesting if Humana is also in play at the same time.
This is one of the many reasons breakup fees are placed into a pre-merger contract. Just because two enterprises have agreed to merge does not mean the deal will be consummated. Regulators might object, foreign governments may reject the transaction and other enterprises, both private and public can become an uninvited guest.
The United Healthcare Group/Aetna discussion involves two entirely different size enterprises. United Healthcare has a market capitalization of over $113 billion while Aetna is half that size at $42 billion. United Healthcare will clearly be the surviving entity. The offer is only in the form of a letter at this point but I am sure telephone calls are being made right now.
In terms of valuation, United Healthcare is trading at 156% of fair value. In the closing months of 2014 the stock continued to climb well above the fair valued range top of $100.75. Much of the climb has been fueled by constant discussions of mergers and acquisitions. At the current level of 156% of fair value, management is dealing with a valuable commodity, the stock price.
Ideally the target for United Healthcare would be an undervalued enterprise. This would be effectively using a higher valued currency, an overvalued stock, to buy another currency at a deep discount, an undervalued stock. That would be ideal. We always do not get an ideal arrangement but what would be considered good? Any acquisition where the target is at fair value or below, would be considered good. An “OK” deal might be one where the target acquisition would be below the valuation of the acquiring enterprise.
In this case, United Healthcare is at 156% valuation and Aetna is at 160% valuation.
This is the opposite of what would be considered ideal, good, or even interesting. United Healthcare is using an inflated value to acquire an enterprise that is even more inflated. It is doubtful the combined company will reach the promised savings levels, expanded market share or expanded revenue activity that will result in added value. Now may be an excellent time to capitalize on the overvaluation in both stocks and look for an undervalued security.