Rating agency Moody’s has cut the long-term credit rating of Reckitt Benckiser (RB) by two notches following the approval of its US$17.9bn acquisition of US baby milk group Mead Johnson.

Moody’s has cut Reckitt’s credit rating to A3 (equivalent of A-) from A1 (A+) due to the “significant debt” involved in the transaction.

Reckitt has struck a deal to buy 100% of Mead Johnson – which itself is rated at Baa1 – for approximately $16.7bn, plus net debt of $1.2bn.

“RB’s two-notch downgrade to A3 from A1 reflects the significant debt and resulting high leverage that it will incur to fund the Mead deal,” said Ernesto Bisagno, a Moody’s Vice President, senior credit officer and lead analyst for RB.

Moody’s expects RB’s leverage pro forma for the acquisition to increase to approximately 4.4x at December 2017 from just 0.9x for RB on a standalone basis based on the full year 2016 results.

However, Moody’s expects RB to deliver towards 3.0x by 2019 through a combination of EBITDA growth and debt repayments.

Today’s rating action was prompted by RB’s announcement that the acquisition of Mead will go ahead following the approval from the regulator.

Moody’s added that while the acquisition will improve the group’s business profile, credit metrics will weaken as a result of new debt raised to fund the acquisition.

In mitigation it said: “The combined entity will have a stronger geographical footprint and improved segment diversification thanks to the contribution of Mead’s core nutrition business… Moody’s expects RB to remain focused on deleveraging and that it should be able to generate significant free cash flow, to be mostly used to repay debt.”

However, the acquisition of Mead will entail “a fair degree of execution risk” because of Mead’s exposure to product areas in which RB has limited expertise.

“In addition, RB will need to address Mead low organic growth with underlying sales down 3% in 2016. This is due to a combination of the price competition in the US and China, where over half of the Mead’s sales are generated; and the impact from the increased online penetration in Asia which reduced the number of customers buying from the traditional retail channels,” Moody’s added.

Reckitt’s share price has risen by about 16% since the announcement of the deal in February.

Last week Reckitt hit an all-time share price high of 8,110.4p and is currently up 19.6% year-on-year.

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