Johnson Controls Becomes Its Own Activist As It Contemplates Automotive Split – Forbes
Building ventilation, auto parts and lead-acid automotive battery giant Johnson Controls Johnson Controls probably lights up the stock screens of activist hedge fund investors seeking their next share-boosting corporate breakup idea. But, instead of taking cues from the likes of Bill Ackman, Nelson Peltz or Daniel Loeb, the Milwaukee-based company has hired Goldman Sachs and law firm Wachtell Lipton, oftentimes weighty foes of activist funds, to study a separation of some of its disparate business lines.
Not all companies need an activist investor to prod them into simplifying their businesses when complexity proves burdensome or traps value. General Electric General Electric CEO Jeff Immelt decided earlier this year to sell or spin most of the industrial giant’s financial services business without any shareholder spat, chipmaker KLA-Tencor KLA-Tencor conducted a leveraged recapitalization in late November that doled out $16.50 in cash to shareholders, helping to tide them over amid a 2015 drop in the nano-electronics marketplace, and it evoked Wall Street financial engineering more any current mantra in Silicon Valley.
On Wednesday morning, Johnson Controls said it was exploring the separation of its automotive business, a move it characterized as part of a “strategy of proactive portfolio management to drive focus on strategic product-oriented businesses where we can be a global market leader.” As it undergoes the review, Johnson Controls also continues to press ahead with a plan to find $2 billion in annual cost savings by 2020 through operational improvements and increased speed in getting products to market, CEO Alex Molinaroli said in a statement.
The decision to unveil a potential automotive separation seems logical.
Although Johnson Controls’ automotive business products like seats, power-roofs, floor consoles, door panels, and driver instrumentation account for over 50% of the company’s revenue – some $22 billion in annual sales out of a total of nearly $43 billion – they are a laggard in profits and overall margins. Johnson Controls earned just $886 million in operating income from its automotive businesses, making the division rank behind its far smaller power solutions and building efficiency operations, which generated $1.1 billion and $930 million in operating income in 2014, according to data compiled by Bloomberg.
A strategic review also makes sense because Johnson Controls, a strong stock market performer over the years, is at risk of beginning to lag broader indices. Prior to Wednesday, Johnson Controls’ share price gain of just over 3% was well behind the S&P 500′s near 10% gain over the past 12-months. Over a three-year period, it was slightly ahead of the S&P 500, however, over a five-year period the company’s share price return, excluding dividends, was in line with the broad market index.
An attentive management team would take that performance as a cue to search for new ways of driving shareholder value, and Johnson Controls is well underway.
In May of 2014, Johnson Controls entered a joint venture with Yangfeng Automotive to contributed auto interior assets for a 30% stake it what it said would be a $7.5 billion global JV. That deal is expected to close on July 1, and is mostly separate from Wednesday’s decision to put the company’s auto seating business up for sale. The company also sold what it called a ‘Global WorkPlace Solutions’ business to real estate brokerage CBRE for $1.475 billion in March and, earlier in the year, sold a auto electronics business to Visteon Visteon.
As it’s pared exposure to automotive operations where margins lag, Johnson Controls is also beefing up on areas where it appears to see a more profitable future. In 2014, the company acquired a $1.6 billion air distribution technology business from Canadian pension fund CPPIB, bolstering its presence in the buildings industry. Through the course of 2014, that business earned nearly $1 billion in operating profits on revenues of $14 billion.
What Johnson Controls, in addition to scores of other mid-to-large capitalization companies show, is that the changes activist hedge fund investors advocate can often be handled inside corporate boardrooms far from Wall Street in places like Milwaukee, Connecticut and California. As those firms execute a clear strategic vision, they also deserve some leeway to execute their plans.
Wednesday’s strategic review evokes similarities to what was the most highly followed activist campaign of 2015, hedge fund Trian Partners’ fight against Dow Industrial giant DuPont DuPont. In that case, Trian contested CEO Ellen Kullman’s multi-year strategy to exit commodity sensitive and performance chemicals and automotive coatings businesses, in favor of investing in businesses tied to agriculture and nutrition, advanced materials, and bio-based industrials, claiming profits were down and shares were going nowhere.
Ultimately, shareholders voted to give Kullman and DuPont’s board more time to see its strategy through. Kullman and DuPont’s work will truly begin to show starting in July when it completes a spin of its volatile Performance Chemicals division.
But activists also aren’t on the losing end when companies like Johnson Controls, GE, DuPont or KLA-Tencor announce their own d0-it-yourself changes.
Most prominent activists believe that even when they aren’t involved, their influence has brought increased scrutiny on performance and a renewed focus of management across Corporate America. And for every apparently well-run company like Johnson Controls that’s staying ahead of the marketplace, there remain plenty of under-performers that may need prodding.