Reckitt slump offers a cue to slim down

Clean house. Jeremy Darroch has a job on his hands. The former Sky CEO, soon to take over as chair of 33 billion pound ($41 billion) Reckitt Benckiser, is inheriting a company whose shares have fallen nearly 25% in under a month – including a 15% slump on Friday after it lost a U.S. court case related to Enfamil baby formula. The Durex condom maker’s bombed-out valuation may offer cover to finally part company with the focus of the legal headache, its troubled nutrition business.

It’s tempting for jittery Reckitt shareholders to fret about the dark similarities between their company and $28 billion German seeds and drug maker Bayer. Bayer overpaid for $63 billion Monsanto in 2018 and then found itself saddled with debt and facing multiple legal cases alleging its acquisition’s Roundup weedkiller caused cancer. Reckitt overpaid for $17 billion U.S. baby formula maker Mead Johnson in 2017, and last week an Illinois jury ordered it to pay $60 million to the mother of a premature baby who died of an intestinal disease after being fed Enfamil.

Reckitt investors have reason to fear further legal ramifications. The Illinois jury awarded the plaintiff substantially more money than she requested. That makes calculating a lump sum for the scandal more difficult, and amps up parallels with Bayer, which has faced a steady stream of cases. Bernstein analysts point out that if all 1,000 of the baby formula cases paid out the same $60 million and were split with Abbott Laboratories, Reckitt would face a 23 billion pound ($30 billion) hit.

Yet Bayer and Reckitt’s legal issues are also different. Reckitt isn’t accused of selling a toxic substance needing to be removed from shelves. Instead, the charge is that parents were not properly informed of the health risks associated with baby formula and premature babies. Reckitt may also have greater scope to group claimants together in a lump sum. Barclays analysts assume a worst-case hit for the company of only 2 billion pounds.

The call for Darroch is whether to press Reckitt CEO Kris Licht to hang onto Mead Johnson, which the company has already written down to below 5 billion pounds. The first legal cases are not expected to be heard for months and others are scheduled for later this year and into 2025. And Licht already has other problems: consumers may become less keen to pay a premium for the branded detergents in his hygiene business, which made up nearly 40% of 2023 group EBITDA.

Imagine the Reckitt health business, which makes Dettol disinfectant, and which made 1.8 billion pounds of EBITDA last year, is valued on 13 times in line with rival Haleon. It would be worth 24 billion pounds. Reckitt’s hygiene unit, which makes Finish dishwasher tablets, could be worth 22 billion pounds if valued on 15 times, a slight discount to U.S. rival Procter & Gamble. The 46 billion pound value for hygiene and health compares to Reckitt’s current worth of only 40 billion pounds including debt, implying the nutrition business is being valued at less than nothing.

If Darroch and Licht offered Reckitt shareholders a new share in a spun-off nutrition business, they might have to throw in a cash buffer against legal losses. But if Reckitt’s legal hit proves manageable, the nutrition unit’s 547 million pounds of 2023 EBITDA imply it should still be worth something. And a slimmed-down Reckitt focused on health and hygiene might have a brighter future.