NUVA - Globus And NuVasive Take Spinal Fusion To A New Level

Summary

• Globus and NuVasive agreed to merge in a deal that will see Globus acquire its spinal surgery rival for 0.75 shares of GMED per NUVA share (or $3.1B).
• Globus shares sold off sharply, as the Street clearly isn't sold on the advantages of the deal and/or Globus management's ability to fix NUVA's longstanding margin issues.
• NuVasive brings scale, as well as strong positions in lateral fusion, cervical discs, biologics, and imaging/navigation, and significant margin improvement opportunities.
• Globus is taking a big swing with this deal, but the long-term rewards could be meaningful.

For med-tech companies with meaningful products/technology and a market capitalization below $10 billion, it often seems like their acquisition is a "when, not if" type of question, and that's particularly true in segments like orthopedics where scale is a significant factor. Both Globus Medical ( GMED ) and NuVasive ( NUVA ) have been acquisitive in the past and rumored to be acquisition targets, but the two companies have decided that they would be stronger together.

The market clearly did not like this move for Globus, and it's true that NuVasive has had its challenges over the years. It's also at least debatable as to whether NuVasive will bring Globus things that they couldn't have gotten on their own over time. I guess I'm a contrarian here, though, because I think it'll be a solid deal for Globus over the long term. While NuVasive isn't getting full potential value, there were still meaningful execution issues standing in the way. A rival bidder could emerge, Smith & Nephew ( SNN ) has had an interest in NuVasive in the past, but I think NuVasive investors will do okay hanging on to the shares of the merged companies.

The Deal

Globus and NuVasive announced on February 9 that they had reached a merger agreement where Globus will acquire NuVasive for $57.72 per share/$3.1 billion (at the time of the deal announcement) in an all-stock deal that will see NuVasive shareholders get 0.75 shares of GMED for each NUVA share they hold. Upon completion, NuVasive shareholders will own 28% of the combined company and Globus management will run the company.

The deal values NuVasive at 2.4x forward revenue, a pretty modest multiple by the standard of ortho and spine deals, but there truthfully aren't a lot of comparable deals. Most recent deals in the spine space have involved established companies acquiring small tech-driven players that were either pre-revenue or very early in commercialization (like NuVasive's acquisition of Simplify in 2020), leading to very high apparent multiples.

For what good it does, I can point to a few deals. Globus acquired Alphatec 's ( ATEC ) small international business years ago for 2x revenue, and NuVasive acquired Biotronic years ago for around 2x revenue, while Stryker ( SYK ) paid 4x revenue for K2M back in 2018 and over 5x revenue for Wright Medical (a player in extremities) in 2019.

Why Do This Deal?

This deal wasn't a complete surprise. There were rumors back in the fall of 2021 of a tie-up between these two companies, and back in March of 2022, I said that there was definite logic behind a potential combination, but that it would be a high-risk transaction given the different cultures of the two companies.

NuVasive brings a lot to Globus. NuVasive has long been a leader in lateral interbody fusion, a minimally invasive approach to spinal fusion that reduces blood loss and length of hospital stays. NuVasive also has the best cervical disc on the market, and the artificial cervical disc market is really only getting started (and is likely worth $300M to $400M, if not more).

Beyond this, NuVasive also has a strong presence in biologics, strong navigation technology, and the Pulse surgical intelligence system that includes planning, imaging, monitoring, and navigation, and should be a powerful tool when integrated with Globus' Excelsius robotic system. NuVasive also has a strong international presence (nearly one-quarter of sales versus 15% for Globus) and underutilized manufacturing and distribution capabilities that will allow Globus to increase its in-house capabilities.

Globus is also buying a "fix er up" situation. Globus has long had exceptional margins and enjoyed an exceptional reputation for operating efficiency. NuVasive? Not so much. Margins have long been a challenge here, with multiple initiatives over the years to improve the efficiency of its manufacturing and sales efforts. To frame this, while both companies have yet to report full fourth quarter results, NuVasive likely achieved around 23% EBITDA margin on $1.2B billion in revenue, while Globus likely achieved around 33% EBITDA margin on $1B in revenue.

It's fair to ask if Globus needed to do this deal. Globus has a presence in lateral fusion, and while its cervical disc isn't nearly as good (in my opinion), it's also not a must-have market. Globus was also building its international business over time and has its own capabilities in imaging and navigation.

I think that even with the risks, this is a worthwhile deal. NuVasive brings some best-of-breed technology to the table, and in areas like spine care the distance between having the #1 or #2 product and the #3 or #4 product can be huge in terms of market share and profitability. Likewise, combining the best of NuVasive's Pulse with the best of Globus' Excelsius will create a hard-to-beat all-in-one technology platform for spinal surgery.

Combining the two companies will give them an increased scale to compete with the likes of Medtronic ( MDT ) and Johnson & Johnson ( JNJ ) in a business where scale really matters. Plus, I wouldn't sleep on the significant cost synergy opportunities in bringing NuVasive's operations up to Globus' standards - not to mean about it, but I think there's a reason that Globus management will be running the combined entity.

The Outlook

Clearly, the market didn't like the deal, with Globus shares selling off sharply (though the company also issued preliminary 2023 sales guidance that was a few percentage points below Street expectations). I do believe there is elevated risk to successfully integrating these two companies, and there is likely to be attrition from the sales force. I'd also expect some customer losses, as rivals will look to target any disruptions in the sales efforts and there's likely already some overlap in customers (using Globus as a primary supplier and NuVasive as a secondary supplier or vice versa).

There's no question that bringing NuVasive's margins up to Globus standards will be a significant challenge - more than one NuVasive CEO has taken on the task of margin improvement and achieved less than full success. To paraphrase Warren Buffett, when a good management team and a bad business get together, it's usually the business' reputation that is preserved.

Maybe I'm a wide-eyed optimist here, but I think this deal will work. There will likely be some disappointments and worry about the 6-12 month mark, but I think Globus is up to the task, and I think the potential rewards are significant.

Using my current models and assuming around 5% revenue attrition, I see the two companies generating around $2.6 billion in 2025 revenue. If they can achieve a 32.5% EBITDA margin (below management's target of "mid-30%'s" EBITDA margin), the market should give them a multiple around 4.75x, and discounting back two years at 10%, I get a fair value of $73.

That is less than where Globus was trading before, but I do think I'm being pretty conservative with my numbers here - a 34% margin should bump the multiple to around 5x and a discounted fair value of $77, and there could be actual revenue synergies as opposed to revenue attrition (particularly with the combined Pulse/Excelsius platform).

The Bottom Line

Globus is taking on some real risk here, and clearly, the market doesn't like it. I remember, though, that the Street didn't think much of the Excelsius deal either back in the day, and Globus management has never been afraid to think big or to take big swings. I understand if the integration risk makes this untouchable for some readers, but I think more patient investors may want to consider this pullback.

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