On December 3, 2024, Firstlight Management LP urged the Board of Directors of Sotera Health Company (NASDAQ: SHC) to sell its Nelson Labs subsidiary. Firstlight, a Utah-based investment firm, believes that divesting Nelson Labs could significantly enhance shareholder value.

Firstlight argues that SHC should focus on its higher-quality and higher-growth businesses. Nelson Labs has underperformed since its acquisition, with an EBITDA growth rate of only 2.7% from 2018 to 2024, compared to 9.8% for Sterigenics and 8.2% for Nordion. The free cash flow growth for Nelson Labs was a mere 1.2% annually during the same period, even with substantial M&A investments. Consequently, SHC shareholders have not only failed to earn their cost of capital but have also lost money in real terms due to inflation.

The firm highlights that the market would respond positively to a streamlined SHC portfolio post-divestiture. Currently, SHC trades at 9.6x 2025E EBITDA, while similar businesses in the private market, like Nelson Labs, have been valued at an average of 15.2x EBITDA. Selling Nelson Labs at a premium would underscore the undervaluation of SHC's remaining assets.

Firstlight estimates that a sale of Nelson Labs could generate approximately $1.1 billion in gross proceeds, potentially netting SHC around $1 billion after taxes. This would significantly reduce SHC's net leverage ratio from 3.7x to 2.2x based on 2024E EBITDA, positioning the company for a more sustainable leverage level of about 1x by 2026. Such a reduction would provide a buffer against future litigation risks, align SHC's leverage with industry peers, and allow for strategic M&A opportunities in the sterilization sector.

Additionally, Firstlight anticipates that selling Nelson Labs would lead to earnings accretion for SHC. With the company currently paying nearly 8% on its term loan, any sale that yields a free cash flow below this rate would still enhance earnings if proceeds are used to reduce debt. A sale at the precedent multiple of 15.2x EBITDA could result in a 4% increase in 2025E EPS. Furthermore, as leverage decreases, SHC's tax rate could drop from the low 30% range to the mid-20% range, potentially boosting EPS by around 13%.

In summary, Firstlight Management believes that divesting Nelson Labs would not only streamline SHC's operations but also unlock significant shareholder value through improved financial metrics and strategic positioning. The firm is advocating for the Board to initiate a sales process to capitalize on these opportunities.