WHEB Commentary

Ted Franks

Monthly Commentary: November 2017

The past five years have seen a healthy global market for mergers and acquisitions. More than $15trn-worth[1] of assets has changed hands, according to specialist data company Mergermarket.

Our portfolio companies have probably done a bit more of this acquiring than we would have liked. We prefer companies with strong growth prospects of their own without the need for major acquisitions. On the occasions when we’ve backed management teams to pull off interesting strategic deals, we’ve often ended up regretting it. The value created by big strategic deals always seems to come through more slowly than expected. Or sometimes it doesn’t come at all.

On the other side of the coin, we’ve had comparatively few companies agree to be acquired from our portfolio in this period. Just three in fact. Part of the reason for that is that a lot of our companies are exceptional assets. They often have strong cultures and unique market positions. To justify buying them, acquiring companies need to be sure that they can add additional value to already valuable companies. This is rarely easy to do.

November provided a good example of this. Emerson Electric is an American maker of industrial equipment with an enterprise value of $43bn. It abandoned its latest bid for portfolio company Rockwell Automation on 22 November. Rockwell’s rejection of the final $218[2] per share bid finally terminated a process which began on 2 August with a bid at $200 per share. But Emerson has been fairly openly pursuing Rockwell for about a decade.

We agree with Emerson that Rockwell, which is roughly half the size of its suitor, is a pretty special asset. Both companies provide industrial automation technology. Both make some impressive products which help reduce energy and resource use in industrial processes.

But Rockwell is more focused and has a solid leadership position in discrete automation. Its Connected Enterprise offerings are the state of the art of the Industrial Internet of Things (IoT). Emerson on the other hand is a sprawling conglomerate, and a relative laggard in the IoT in our view.

Perhaps the biggest difference between the two firms is culture. We think Rockwell is a relatively rare thing: a mission-driven, focused, large-capitalisation US company. It has strong customer loyalty and attracts top engineering talent. Emerson’s strategy relies more on scale. It is the result of over a decade of largely value-destructive acquisition activity.

Many investors are happy to sell in a merger situation. Bidders typically pay an acquisition premium which shorter-term investors are happy to lock in.

With a longer investment horizon, we sometimes have a different view. We’re very happy with our position in Rockwell. We agree with the management team that $218 per share doesn’t do justice to what we expect this company to achieve. And it would be a shame to lose a holding in such a special company.

An additional twist to this story is that we opened our position in Rockwell in early 2014 by selling out of Emerson. Culture was an important part of this decision, as we explained at the time in our blog here: http://www.whebgroup.com/why-we-have-sold-our-emerson-shares/

Rockwell’s subsequent 70%[3] outperformance is in part testament to the power of strong culture. We’re happy to keep investing in great businesses, even if it means we largely stay on the sidelines of M&A activity.

[1] Source: Mergermarket Global M&A Report Q3 2017

[2] Per Rockwell release: https://ir.rockwellautomation.com/press-releases/press-releases-details/2017/Rockwell-Automation-Board-of-Directors-Unanimously-Rejects-Unsolicited-Proposal-from-Emerson/default.aspx

[3] Source: Factset