Johnson & Johnson’s Kenvue is a good deal for stock swap investors

Johnson & Johnson is offering a sweet deal to incentivize its investors after it swapped shares in J&J PSU’s consumer business Kenvue in May.

Johnson & Johnson (ticker: JNJ ) investors can swap their shares in the $35 billion transaction, details of which were announced Monday morning. J&J is offering its holders the opportunity to receive $107 in Kenvue shares for every $100, subject to a cap.

The net result on Monday was arbitrageurs buying J&J shares and selling short Kenvue (KVUE) to try to lock in a roughly 7% spread.

J&J shares rose 1% to $171.82 on Monday, while Kenvue shares fell 2% to $23.52. A sell in Kenvue created a buy option on its stock, sending shares soaring to nearly $28.

J&J’s announcement today comes as no surprise, as the company said in its earnings conference call last week that an exchange offer or split-off could come within days. Kenvue has provided the details A long S-4 The report was filed this morning.

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Under the terms of the deal, J&J holders may exchange all, some or none of their shares for Kenvue. The exchange offer is valid from August 14 to 16 and expires on August 18.

J&J holders must choose to participate—if they do nothing, they will keep their J&J shares. The deal will be a tax-free transfer – a condition precedent to the deal is that J&J receives a favorable tax opinion.

Many J&J investors may choose not to participate, deciding that J&J’s focus on pharmaceuticals and medical devices is more important than Kenvue’s consumer orientation.

J&J opted for a more complex exchange offer, the details of which may confuse some retail investors, who make up a large portion of its shareholder base.

J&J is offering to retain 1.5 billion Kenvue shares, or about 80% of Kenvue’s outstanding shares, with 200 million shares.

“Subject to the requirement that JNJ establish that its retention of the Kenvue shares was not part of a tax avoidance scheme, there is little doubt that the distribution will be tax-free,” says New York tax expert Bob Willans.

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A tricky aspect of the split is that the offer has a good chance of being oversubscribed—the 2021 Dupont offer to swap its stake in International Flavors and Fragrances was roughly twice oversubscribed. The result will be a ratio, meaning that participating J&J holders will exchange only a portion of their shares for Kenvue.

An exception is that investors submitting an odd number of less than 100 J&J shares will receive full participation, which will benefit small J&J holders.

J&J could have opted for a simple spinup and distributed more than half a Kenview share for each J&J share, but decided an exchange offer was a better idea.

The advantages are that Kenview can get a shareholder base that loves its stock and the exchange offer is a giant buyback of J&J stock paid for with Kenview shares. The downsides are value leakage from the discount offered to J&J holders and arbitrageurs can reap substantial value in the transaction.

AT&T opted for a simple spinoff of its stock

In 2022, Warner Bros. Discovery felt, in part, that Orbs would receive a proportionate share of the value if it opted for a spin-off.

Owns well-known brands like Kenvue, Tylenol, Listerine and Band-Aid. It announced its first results last weeksa is a stand-alone public company and issued 2023 earnings guidance of $1.26 to $1.31 a share, sales growth of about 5% and it initiated a quarterly dividend of 20 cents a share.

Kenvue trades at 18 times 2023 earnings and yields 3.4%. J&J yields 2.8%. Kenvue isn’t a high-growth company — revenue growth could run in the mid-single digits from a 2023 base in the coming years — but it has a stable and well-known consumer health brands. Kenvue trades at a discount to its closest peer, Haleon (HLN).

J&J accepted Kenvue’s liability domestically for talc lawsuits related to Kenvue’s sales of Johnson’s Baby Powder. Kenway has international talk responsibility.

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Moody’s Investors Service wrote earlier this year that it did not expect the foreign liability to be significant.

Barron’s wrote favorably on Kenvue ahead of its IPO and split as an opportunity to pick up its shares cheaply due to arbitrage pressure on Kenvue stock.

Angela Palumbo contributed to this article.

Write to Andrew Barry at [email protected]

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