Activists should want reconstructive surgery at Smith & Nephew
Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
Smith & Nephew’s mission is “to restore people’s bodies and their self-belief”. The underperforming medtech is in need of remedial work itself. Now that activist investor Cevian has taken a 5 per cent stake in the FTSE 100 business, it may get some.
It is no surprise the business caught Cevian’s eye. The stock has lost about two-fifths of its value over five years. Over that time, three chief executives, three finance directors and numerous different business heads have been in charge. It has endlessly reorganised, booking $1.6bn of net exceptional items over a decade. Over five years, operating profit margins fell by almost 8 percentage points to 12.3 per cent in 2023, according to S&P Capital IQ.
Sure, Smith & Nephew is trying to cut costs and improve productivity. Operating profit margins are expected to recover to more than 18 per cent this year. But Cevian reckons it can do better. Improving the businesses’ operating performance could create significant long-term value, it says.
The main problem is the orthopaedics business. Smith & Nephew has a 10 per cent share of the market for hip and knee implants. With three much larger competitors, it struggles to resist pricing pressure and to spread the costs of innovation.
The company probably needs more radical surgery. The orthopaedic unit is a drag on the healthier sports medicine and wound management businesses — the second largest in their sectors. Selling off orthopaedics might be tricky, not least because of antitrust concerns. But a spinout could be an option, along the lines of the GSK’s Haleon divestment.
A sum-of-the-parts calculation suggests that would unlock value. An ebitda multiple of eight times — a discount to that of Zimmer Biomet — implies a £2.9bn market capitalisation for orthopaedics, says Seb Jantet of Panmure Liberum. With the remainder valued at £8.5bn, using an ebitda multiple of 14 in line with UK peer ConvaTec, the business would be worth at least a fifth more than the current market value.
Smith & Nephew’s future as a UK-listed company could also be in doubt. Cevian is attuned to the potential gains from shifting listing venues; Smith & Nephew earns most of its revenues in the US. Chair Rupert Soames coined the phrase “Brilo”, meaning “British in listing only” when making the case for a pay rise for its US-based boss.
Relocation is not a quick fix. But, absent other progress, it could be another stage in the medtech company’s rehabilitation.
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