The Garrulous Jay – Breaking Up

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On Friday 22nd July 2000, Tomkins PLC announced the sale of bakery unit RHM. The sale marked the beginning of then end for the “guns to buns” conglomerate that also counted Smith & Wesson among its stable of businesses. In the last fortnight such august corporations as GE, Johnson & Johnson and Toshiba have all announced plans to break themselves up, reigniting the corporate focus-versus-diversification debate.

On the 9th November the once mighty GE announced it was engineering a split into three companies focused on aviation, healthcare and energy. The company argued that once separated “the businesses will be better positioned to deliver long-term growth and create value for customers, investors, and employees.” The shares closed up 3%.

Hot on GE’s heels, on the 12th November Johnson & Johnson announced it was self-administering a break-up of its own. A new consumer healthcare business will be spun off to leave ‘core’ J&J focused on pharmaceuticals and medical devices in a “separation designed to enhance operational performance and strategic flexibility, benefiting patients and consumers and unlocking value for all stakeholders.” The shares closed up 3%.

On the same day, on the other side of the Pacific, Toshiba announced it was carrying out a three-way rewiring into companies focused on infrastructure servicing, devices and technology components. Toshiba stated the spinoff “companies will be much better positioned to capitalize on their distinct market positions, priorities and growth drivers to deliver sustainable profitable growth and enhanced shareholder value”. The shares closed up 1.5%.

What unites all three companies is that they have become too big and diversified for their own good. Whilst the numbers can take any company so far, investors crave a “story” too. They seek to understand what will drive future growth and deliver attractive long-term returns.

In the golden age of the conglomerate, when the likes of Tomkins, Hanson and indeed GE thrived, what companies actually did mattered less: the story was all about the returns management could derive from financial engineering and organisational discipline applied across different industries.

But a tipping point is reached, often in conjunction with changing market sentiment or technological innovation, when the pluses of diversification become the minuses of lack-of-focus.

For many companies a break-up makes good sense. It can reinvigorate management and give investors the chance to back the bits of the business they prefer. This can create value as the sum of the parts starts to exceed the whole of the old company.

But there is nothing inevitable about this. The constituent divisions of the old business may lack scale, lose synergy benefits and be left with less experienced management.

It will be interesting to see whether the disintegration of GE, J&J and Toshiba ultimately create value. The somewhat muted market reaction suggests the jury’s out.

These three examples provide a reminder that every company, however big or small, should be clear about what it’s in the business of doing: better to be a master of one trade than a jack of all.