With so much talk about special purpose acquisition companies (SPACs) offering an alternative means for companies to go public, we forgot about the other, arguably less controversial path: the spinoff. Fortunately, pharmaceutical giant Merck (NYSE:MRK) was kind enough to remind us with its spinoff, Organon (NYSE:OGN). Tied to Merck’s non-core business, OGN stock offers potential but for whom?
It may not be a pleasant question, but it deserves to be asked. After all, we’re talking about your money here.
While OGN stock may have arrived with much fanfare, after an initial volley of bullish sessions, the equity unit has not looked very enticing.
When it closed out last week’s trading action at $29.65, it was down nearly 11% from the closing price of its first day of trading. It will open this morning at around $30.
Nevertheless, the optimists have reason to at least consider OGN stock as a long-term upside opportunity. First, spinoffs appear to have a tendency of performing well, especially if they derive from well-known entities.
Perhaps the best example in the last few years is PayPal (NASDAQ:PYPL), the digital payment processing firm spun out of eBay (NASDAQ:EBAY).
Second, a spinoff allows both entities to concentrate on their core businesses. In this manner, each enterprise can zero in on what originally made them powerful and compelling. This also can result in happy shareholders as both organizations will be theoretically streamlined and efficient.
Again, PayPal and eBay provide clear examples of this efficiency. Over the trailing five years, the former is up big, over 634%. But the latter is no slouch either, posting a 182% gain.
You can easily make the argument that had eBay held onto PayPal under its corporate umbrella, the lumbering organization would not have unlocked shareholder value. That would have possibly stymied both organizations’ potential.
Still, you’ve got to be aware of the risks associated with spinoffs.
Review the Potential of OGN Stock Before Deciding
As GuruFocus.com contributor Margaret Moran stated, a “spinoff is no guarantee of success or failure – it all depends on the quality of the company and why the spinoff was made.”
That’s really the key to whether OGN stock is worth your hard-earned dollars.
According to the Harvard Law School Forum on Corporate Governance, splitting a business into a separate publicly traded entity allows “the management teams of the separate companies to focus on their distinct core business, unhindered by the needs of the other business, leading to superior performance and results.”
That’s the part those bullish on OGN stock want to focus on. However, there’s another side to spinoffs, which allows “the divestment of a non-core business in a tax-efficient manner.” So, is the Organon split from Merck an action that benefits both companies or a cynical ploy by the latter?
I can see both sides of the argument. Obviously, the spinoff benefits Merck because the pharma giant gets to unload its noncore businesses, which include off-patent drugs and women’s health therapeutics. This in turn allows the company to focus on its cash cows without worrying too much about approaching its strategy in a balanced manner.
At the same time, Organon also benefits. For one thing, Merck previously targeted overseas markets for its off-patent drugs. Therefore, demand for this segment exists; it’s just that Merck doesn’t want to focus on it. Here, Organon can pick up the slack and build the business into a streamlined machine.
Secondly, on a longer-term note for OGN stock, the underlying company may enjoy revenue growth from shifting demographics in the U.S. As the American Journal of Public Health noted, here and in industrialized nations, “women have higher levels of multiple indicators of morbidity” than men.
Women of various diverse backgrounds statistically face diagnosis risks for certain conditions or diseases as well. Cynically, this buttresses Organon’s women’s health specialty.
Waiting May Be the Best Choice
To me, I believe the demographic angle makes the case for OGN stock compelling. Love him or hate, author Harry S. Dent often states that demographics is destiny. Barring some unforeseen Act of God, the demographic changes in the U.S. are inevitable, and Organon is positioned to profit from the trend.
That doesn’t necessarily mean that OGN stock is a buy right now. It needs to grow into its valuation. Further, investors are largely focused on the equity unit’s nearer-term dynamics. Therefore, OGN printed red ink and may print some more.
My idea is to let this corrective period ride out and wait for shares to calm down. Once they do, you may want to consider adding OGN to your portfolio.
On the date of publication, Josh Enomoto did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
A former senior business analyst for Sony Electronics, Josh Enomoto has helped broker major contracts with Fortune Global 500 companies. Over the past several years, he has delivered unique, critical insights for the investment markets, as well as various other industries including legal, construction management, and healthcare.
