Johnson & Johnson (JNJ) just announced that it has completed the acquisition of Synthes. The company is the world’s largest maker of implants to mend bone fractures and also producer of surgical power tools and advanced biomaterials. It will be integrated with the DePuy franchise to form the Depuy Synthes Companies of Johnson & Johnson.

Depuy, a unit of Johnson & Johnson, which also has the same product lines as Synthes, has not kept with Synthes and other rivals Stryker (SYK) and Smith & Nephew (SNN). Although this move is not seen as defensive, this will definitely improve the profitability of its medical devices division.

Johnson & Johnson bought the company for $19.7 billion in total consideration in cash and stock. Each shareholder of Synthes will receive CHF55.65 in cash and 1.7170 shares of Johnson & Johnson. Based on the latest annual report, Synthes reported sales of $3.9 billion. This translates to a net profit of $966 million. The acquisition puts the valuation of Synthes at 20 times earnings. This is higher than other medical device stocks trading in the market. For example, Medtronics (MDT) trades at 12 times earnings and Boston Scientific (BSX) is valued at 17 times earnings.

Based on this year’s earnings forecasts, this puts the purchase at 11.2 times of operating income. Based on the latest data, acquisitions of medical devices companies are paid a median of 11.5 times operating profit. This seems reasonable as acquisitions require a premium purchase. Also Johnson & Johnson only paid 37% premium over the current market valuations.To continue reading, click here.