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Tale of Danaher: From Crippled Real Estate Investment Trust to Mass Spec Top Banana

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This story originally ran on Sept. 16.

By Tony Fong

By the end of the year, barring unexpected snags, Danaher will become the largest mass spectrometry vendor in the world and a major player in the life sciences.

But in the proteomics market, few had probably ever heard of the company until two weeks ago when it announced its plan to buy the Applied Biosystems/MDS mass spectrometry joint venture as well as MDS' Analytical Technologies division for $1.1 billion. In fact, even outside of proteomics, it would be a stretch to call Danaher a household name.

But the company, based in Washington, DC, has quietly amassed a solid reputation for the way it conducts business. In a 2007 article in Business Week, Danaher was called "probably the best-run conglomerate in America [and] clearly the best performing," with a 25 percent return to shareholders annually over a 20-year period.

So what do Danaher and the hundreds of companies that operate as its subsidiaries do? The answers may provide insight into why a company without a history in mass specs would decide to jump into the space without a life preserver, and its chances of succeeding.

A Tale of Two Brothers

Danaher was originally organized as a Massachusetts real estate investment trust in 1969, going by the name DMG. In 1978 it was reorganized as a Florida corporation called Diversified Mortgage Investors, followed by a second reorganization two years later, becoming in the process a subsidiary of a newly created holding company called DMG.

In 1983 two brothers, Steven and Mitchell Rales, bought DMG and renamed it Danaher a year later, reportedly after the Danaher River in Montana where they had taken a fishing trip.

That is when the Danaher story really begins. When the Rales purchased DMG, it was just a struggling REIT. Steven Rales was in his early 30s and Mitchell Rales was in his late 20s. Turning their former REIT into a vehicle for leveraged buyouts, they grew Danaher through hostile bids, junk-bond financing, and greenmail, a strategy in which a raider forces a company to buy its own stock at an inflated price to ward off a hostile takeover.

Together, they have transformed Danaher from a business on the brink of going under to a worldwide conglomerate with about 50,300 employees, including 22,100 in the US as of Dec. 31, 2008, according to the company's 2008 annual report. The company, however, is in the midst of a restructuring and expects to shed about 3,300 jobs.

The Rales are intensely averse to any kind of publicity and haven't spoken to the media since a Forbes article in 1985 called them "callow youths" and "cocky to the point of foolishness."

Both rank among the richest individuals in the US. Forbes recently had Mitchell Rales as the 296th-richest American with a net worth of $2.3 billion while Steven Rales clocked in at number 318, worth $2.1 billion. Steven Rales is now chairman of Danaher's board, while his brother is chairman of the executive committee.

Danaher operates as four operating segments: the largest, Professional Instrumentation, generated about $4.9 billion in revenues in 2008, or 38 percent of the firm's total revenues of $12.7 billion; Medical Technologies contributed 26 percent to the revenue pie, or $3.3 billion; Industrial Technologies also pulled in 26 percent of total revenues; and Tool and Components accounted for 10 percent, or $1.3 billion.

The mass-spec business would be folded into Medical Technologies, which was created in 2004 when Danaher acquired Kaltenbach & Voight, Gendex, and Radiometer. Businesses in the segment operate in dental products, acute-care diagnostics, and pathology diagnostics.

In 2005, Danaher added life-sciences instrumentation to its portfolio by buying Leica Microsystems, a German manufacturer of microscopes, such as confocal and light microscopes, as well as histology systems, instruments for materials testing, and reagents.

Products in the life-sciences business are generally marketed under the Leica brand, but the mass-spec business is expected to retain the AB/Sciex name. The mass-spec operation would also remain headquartered in Concord, Ontario, where MDS Sciex, now part of MDS Analytical Technologies, is based.

'Secret Sauce'

One of the keys to Danaher's success is a process called the Danaher Business System, adapted from a process originally used by one of its divisions, Jacobs Vehicle Systems, and based on the famed Toyota Production System. When Steven and Mitchell Rales saw the results achieved by JVS, they implemented the process companywide.

DBS draws on the Japanese concept of kaizen, or continual improvement, and in short, calls for every employee from managers to janitors to find ways virtually on a daily basis to cut waste and improve productivity. While many companies have similar processes, the thoroughness of DBS has made it a template for other such systems.

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"It's their own secret sauce," Jon Groberg, an analyst at Macquarie Securities said. "It's their way of improving productivity at the business … cutting out wasteful expenditures, making the manufacturing process more efficient, getting better sourcing globally with leveraging the things they do at the Danaher business, improving [their] process from R&D to getting the product on their market. It's everything."

Under DBS, no idea is considered too small or insignificant if it can lead to even the tiniest improvement in efficiencies. That includes where tools are located on a factory floor so that workers can travel the shortest distance to get to them. Similarly, trash cans are mapped out so that workers don't have to spend any unnecessary time disposing their garbage.

Also important to Danaher's philosophy is an aggressive M&A strategy, not surprising given the Rales' background as corporate raiders. Last year, the company purchased 17 businesses at an aggregate price of $423 million. The year before, it acquired 12 businesses, paying $3.6 billion, and in 2006, it made 11 acquisitions, paying $2.7 billion.

In its 2008 annual report, it suggested that the pace of its purchases would not slow down, either: "We believe that many acquisition opportunities remain available within our target markets," Danaher said.

And during the first half of this year, it bought three businesses for $140 million. Danaher has not disclosed the names of the companies acquired but said in its second-quarter 10-Q document that they manufacture instrumentation and/or supply products in the test and measurement, environmental, and sensors and controls markets. The companies complement existing businesses in Danaher's Professional Instrumentation and Industrial Technologies segments, it added.

According to Harry Glorikian, managing partner at life-science consulting firm, Scientia Advisors, the purchases of Leica four years ago and now of the ABI/MDS mass-spec JV and MDS Analytical Technologies has positioned Danaher to make a big splash in the life-science market.

"They're not making small moves," he said. "They're making very bold moves that give them a solid position within a growth market. … They've positioned themselves very nicely for growth.

"How far they're going to continue on this level and how much they want to turn the company into a life science/healthcare player, that I'm not sure, but if their past acquisitions are any indication of what they want to do going forward, I think that within the next 18 months to two years, we'll see probably another large acquisition by them," Glorkian said, adding it most likely will be an acquisition to fill out its life-science portfolio, rather than to specifically complement the mass-spec business.

Last week, Isaac Ro, an analyst at Leerink Swann, also said that the ABI/MDS joint venture could just be the beginning of a longer-term strategy, and that during the next few years, Danaher could build up its life-science business with acquisitions in the capital equipment and consumables space.

During a conference call to discuss the latest acquisitions two weeks ago, Danaher CEO Lawrence Culp, in response to a question about Danaher's life-science goals, called its latest proposed acquisition a "wonderful opportunity," but was vague about other deals Danaher might explore, especially with technologies that complement mass specs, such as liquid chromatography and gas chromatography.

Culp said only that Danaher will grow the mass-spec business organically and will do what it can to support it inorganically.

A spokesman declined a request for an interview with Danaher executives, saying the company is not commenting on the deal until after it closes.

Restructuring Under Way

On the same day it announced its plans to buy the ABI/MDS JV and MDS Analytical Technologies, Danaher said that it was ramping up its restructuring efforts, which began in Q4 2008. In addition to reducing its workforce by 3,300 employees, the company said it plans to shut down 30 facilities. The restructuring is expected to cost between $225 million and $250 million in 2009 and achieve annual savings of $220 million.

In its most recent financial results, for the second quarter ended July 3, Danaher reported sales of $2.67 billion, down 18.5 percent from sales of $3.28 billion in Q2 2008. Profits for the quarter were down 18.6 percent to $296 million from $363 million in the year-ago period.

Its Medical Technologies segment posted receipts of $737 million in the quarter, down 12.2 percent from $839 million in Q2 2008. For the first six months of 2009, Medical Technologies sales slid 9 percent to $1.5 billion from $1.6 billion during the first half of 2008.

The life-sciences instrumentation business fell in the mid-single digits during Q2 2009 and the low single-digits for the first half of the year, compared to year-ago figures, the company said.

Within Medical Technologies, spending on R&D rose to $190 million in 2008, up from $168 million in 2007, and $123 million in 2006.

Danaher reported cash and cash equivalents of $1.3 billion as of July 3 and spent $159 million in R&D in the second quarter.

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