May 8, 2017

Industrial battle

by Breakingviews.

Daniel Loeb may be spinning his Honeywell International story a bit too far. The activist investor wants the $100 billion conglomerate to hive off its aerospace unit. That could be an option, but Loeb’s pitch that it would boost shareholder value by $20 billion is a stretch.

Aerospace is Honeywell’s largest business, accounting for around 37 percent of the company’s $39 billion of revenue last year. But the unit’s sales have on average grown at just 0.6 percent annually over the past five years, according to Credit Suisse. Loeb says this is why Honeywell trades at 18.5 times estimated earnings for 2017 compared with an average 23 times at Emerson Electric, 3M and three other airplane-less rivals.

That group includes two companies – Emerson and Rockwell Automation – with similar operating margins and faster growth than Honeywell’s other businesses and three with similar core-business growth but stronger profitability, namely Fortive, Illinois Tool Works and 3M. To fit in either one, Honeywell would need to improve the 17 percent margin it would have made without aerospace last year, boost growth, or improbably do both.

Offloading aerospace could cost Honeywell, too. The unit’s margin exceeded 20 percent in 2016. And it provides most of the $4 billion or so in U.S. cash the company needs each year for dividends, buybacks, interest payments and the like. Much of its other cash is trapped overseas, Jefferies reckons – at least for now.

New Chief Executive Darius Adamczyk is already targeting a 23 percent operating margin, though not immediately. He also intends to spend up to $18 billion on dividends, buybacks and M&A over three years. He’ll sell businesses, too. One could be the low-margin engines-focused automotive group, which provides a fifth of the aerospace division’s top line – akin to car-parts maker Delphi’s decision this week to spin off its powertrain unit. All this is more focused than predecessor David Cote’s tilt last year at United Technologies, then worth over $70 billion.

Honeywell may eventually set its aerospace unit free. But spinoffs can be costly and distracting and, for best results, Adamczyk anyway needs to refresh the company’s core businesses. Maybe the 10 percent jump in Delphi’s stock is as much of a gain as Loeb can reasonably expect – and he might get it more sustainably from the CEO’s efforts to clean house than a flashy spinoff.


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