Stock Pitch: Baxter International Inc. (BAX)

BAXTER INTERNATIONAL INC.NYSE: BAX“GROWTH FOR THE PEOPLE WHO REMOVE YOUR GROWTHS”

SECTOR: HEALTHCARE

RAVI PRAKRIYA & [STUDENT COLLEAGUE]

FIN XXX – [COURSE NAME] [PROFESSOR]

AGENDA

I. Firm Overview

II. Past Performance

III. Investment Thesis

IV. Qualitative Analysis

V. Valuation

VI. Investment Summary

VII. Portfolio Management

VIII. Questions

IX. Appendix

FIRM OVERVIEW• Baxter International is a producer of medical equipment and

pharmaceuticals, based in Deerfield, Illinois

• Medical equipment market leader: IV fluids and systems, Dialysis, infusion pumps, prefilled syringes, and inhaled anesthetics

• BioScience (Pharma/Biotech): protein and plasma therapies (hemophilia and immune disorders), vaccines, and biological sealants used to close surgical wounds

• Target market: hospitals, nursing homes, dialysis centers, and laboratories, primarily through direct sales representatives and wholesalers

FIRM OVERVIEW• Market leading product portfolio

“More than two thirds of Baxter's revenue stems from market-leading products, a tribute to its global competitive advantages with products like Advate and Gammagard”

FIRM OVERVIEW

FIRM OVERVIEW

FIRM OVERVIEW• Geographically diversified revenue stream

• “Emerging markets are a prime source of growth for many drug firms, and hemophilia demographics point to a large unmet need in countries such as Brazil, Russia, and China”

• “HyQvia, a long-acting version of Baxter's immunoglobulin product Gammagard, recently received regulatory approval in Europe and should launch in the U.S. in 2014. HyQvia's improved convenience should translate into market share gains and better pricing power”

PAST PERFORMANCE• Baxter has significantly underperformed the S&P 500 over the

past 5 years, 1 year, & YTD

• Earnings have continued growing, implying multiple contraction

INVESTMENT THESIS• Market is not rewarding organic

and merger driven growth

• 2013 -- Hemophilia Compound Acquisition ($700.0mm)

• 2012 – Gambro AB ($4.0 bn)• Institutional Owners

• Strong Balance Sheet

INVESTMENT THESIS

“The medical device excise tax, and lower reimbursements are likely to put financial pressure on smaller companies,

which, in turn, will adversely affect their valuations. This will allow bigger companies, pressured by government demands

to lower prices, to consider acquisitions of innovative products” -- Standard & Poor’s [August 2013]

INVESTMENT THESIS• BAX has met or exceeded Wall Street EPS estimates every

quarter since Q4 2003 (80% beat rate)

• “Simply put, we have a tough time arguing for outperformance or a premium multiple at Baxter in the face of downward revisions” – J.P. Morgan [9/30/13]

• Street doubts ability of management to integrate another acquisition into core business

QUALITATIVE ANALYSISStrengths• Barriers to Entry in

Core Businesses• Diversified

Offerings• Intellectual

Property• Superior Pipeline

and R&D Capability

Weaknesses• Capacity

constraints limiting growth (Plasma)

• Capital Intensive• Chronic treatment

therapy reduction

Opportunities• Emerging

Market Demand• Affordable Care

Act• Growth of high-

margin product (RF-VIII)

Threats• Biogen’s release of

Alocate• Competition with

Bayer in European market

• Challenge to integrate recent acquisitions

• Pricing Pressure

QUALITATIVE ANALYSIS• ACA represents critical

opportunity

• United States remains a critical and growing global supplier of healthcare equipment

QUALITATIVE ANALYSIS• North American Demographic shifts favor Baxter product

lines and chronic treatment

VALUATIONEnterprise Value to Equity Value

NPV of Free Cash Flow 49,436 Enterprise Value 49,436

+ Cash and Near Cash 3,270 - Total Debt 5,930 - Minority Interest - Total Equity Value 46,776

Shares Outstanding 556 Current Price 66.70 Value per Share 84.13

Premium / (Discount Price) 26.13%

WACC Terminal Growth Rate84.13 1.5% 2.0% 2.5% 3.0% 3.5%

7.00% 87.26 94.83 104.07 115.63 130.48 7.50% 79.49 85.68 93.10 102.18 113.52 8.00% 72.92 78.06 84.13 91.42 100.32 8.50% 67.29 71.61 76.65 82.61 89.77 9.00% 62.41 66.08 70.33 75.28 81.13

DISCOUNTED CASH FLOW VALUATIONPROJECTED Enterprise Value to Equity Value

USD (mm) 2013 2014 2015 2016 2017Revenue 16,177 18,118 19,930 21,524 22,815

YoY Growth 14.00% 12.00% 10.00% 8.00% 6.00% EBIT 3,235 3,624 3,986 4,305 4,563

Margin 20.0% 20.0% 20.0% 20.0% 20.0% Tax Rate (%) 20.3% 20.3% 20.3% 20.3% 20.3% Tax 657 736 809 874 926 NOPAT 2,578 2,888 3,177 3,431 3,637 Capex (1,618) (1,449) (1,196) (861) (456)

Margin 10.0% 8.0% 6.0% 4.0% 2.0% D&A 1,091 977 806 580 308

Margin 67.4% 67.4% 67.4% 67.4% 67.4% ∆NWC (291) (362) (399) 646 456

Margin (1.8%) (2.0%) (2.0%) 3.0% 2.0% FCF 2,343 2,778 3,186 2,505 3,032 Terminal Growth 38,452 PV of CF 2,169 2,382 2,529 1,841 40,515

VALUATION• BAX trades at a slight discount to its peer group

• Market appears unimpressed by reinvestment in business

INVESTMENT SUMMARY• Market recognition of well-diversified growth business

• Favorable firm positioning and expansion strategy

• Tail wind from Affordable Care Act• Demographic shifts• Globalizing market for products• Poised to continue string of acquisitions

• Valuation indicates asymmetric upside

• Catalysts:

• Accretion from recent acquisitions• Resolution of uncertainty regarding Biogen’s Alocate• BRICS Distribution & Expansion

PORTFOLIO MANAGEMENT• Funding the addition to the portfolio

• Sell UHS – Excellent 5Y, 1Y, and YTD Performance• Sector has appreciated with equal speed• Challenges associated with ACA• Continued pricing pressure and lack of growth

• Reduce Cash Holdings?• Sector Allocation

• Healthcare represents 17% of US GDP• Greatest number of holdings in portfolio• Recommend maintaining sector weighting

QUESTIONS?

THANK YOU FOR YOUR TIME AND ATTENTION

APPENDIX – WALL ST ESTIMATES

APPENDIX – MORNINGSTAR

APPENDIX – RELATIVE PRICING