Zlo gus KEY 299
AND THE CITY
Dangers in Diversification
Nicholas Davenport
The bull market has lately been feeding on take-over bids — and the accompanying swarm of take-over rumours — which it has found very palatable. The most remarkable was the P & 0 bid for Bovis the building and property development group, when every one was expecting a company like Bovis to bid for P & 0 seeing that Trafalgar House had shown the Way by its clever take-over of Cunard. (But is P and 0 as clear-cut for taxation savings as Cunard was?) This was followed in the same exciting account by the Imperial Tobacco bid for Courage as incongruous a bid as that of Consolidated Goldfields for Ameys, the road contractors, Which, I am sorry to hear, has gone through. And the dust had hardly settled on the Grand Metropolitan take-over of Watneys.
Diversification is no doubt the cause and justification put forward for all these takeover bids but I have said before — and I Will say it again — that radical diversification should not be allowed without the express consent of the shareholders. The directors have no right to change the whole character and trading of their company unless their shareholders have given them permission to do so. Imperial Tobacco may say that tobacco is a declining business in this country and that a take-over of Courage is 'small beer' in relation to their total assets, but their equity-owners hold their shares presumably because they believe in smoking as a business and if smoking is going clown in Britain — actually it has gone up in the past twelve months! — it is not declining in other countries.
Imperial Tobacco has a large holding (28.8 per cent) in British American Tobacco which has also diversified into Fosmetics and paper (Wiggins Teape). All in all Imperial has spent about £125 million 9t1 acquisitions outside tobacco — mainly m food — but have the shareholders really benefited as a result? It is now proposing to acquire a brewery company's shares on a Price-earnings ratio of 31. Its own shares have a price-earnings ratio of 14i, so that In effect it is diluting its equity. An investment analyst is reported to have said, "I think Imps is nuts." As a non-smoker I am not interested in either Imps or Bats but as an investor I would not know what I was buying. And if I were shareholder of Courage I would be furious at having a cast-iron investment in beer ending up in smoke.
Here I must pass a word of sympathy to the shareholders of Amey who must be enraged at being taken over by a gold-finance group. It is an Oxford company and living near Oxford myself I have always regarded Amey as the local boy who made good. Its family ran the business with the greatest energy and efficiency and its shares had risen in investment status to a price-earnings ratio of over 20. Now the proud local investors are being deprived of their best growth equity.
The shareholders of Bovis must feel much the same disgust and anger. The business was well run and had come to the top in the house-building and contracting industry. To be taken over by P and 0 has an element of absurdity. It is as absurd as Burmah Oil taking over Quinton Hazell who manufacture components for motor cars. Burmah Oil is something of a hermaphrodite, being a mixed-up holding and trading company and in recent years it hits made itself a joke in the investment world by its frenetic and often futile attempts at diversification. It once tried to merge with Continental Oil and take over a large chemical company. It was more successful with oil and gas exploration in Australia— but not yet with its drilling in the North Sea — and presumably has now got something out of Castrol, Rawlplug, Solignum and Halfords which it took over in the last four years. But all this at the expense of watering its equity capital and adding about £60 million to its prior charges. Has it all been worth it for its shareholders?
All this abuse of diversification could be stopped tomorrow if the big institutional investors got together and insisted on being consulted before a major company decided to change its nature of trading. If money talks the .huge amount of money these institutions have invested in British industry surely entitles them to have a say in management policy. The figures of their annual investment as recorded by the DTI have lately been in the press but I prefer to use the figures of the British Insurance Association which were published at the end of June. These show that the longterm investment of the life and pension funds at the end of 1971 amounted to £14,803 million, having increased in the twelve months by £1,733 million or 13+ per cent. Of this increase £717 million went into equity shares—nearly £14 million a week — bringing their total investment in equities to £4,314 million or 29 per cent of the total. Although they put an extra £490 million into British government stocks, bringing that sum up to £2,549 million, their investment in equities is by far the most important part of their portfolio. Indeed, if we add "real property and ground rents" (£2,043 million — up £288 million) their total equity commitment, £6,357 million, is close on 43 per cent of total assets. That colossal amount of money is surely entitled to a hearing when directors — in pursuit of power and profit — make take-over bids which virtually change the sex of their companies. As I am no longer a life assurance director myself I can call my ex-colleagues a lot of spineless, lazy libertarians conniving at managerial revolutions.
Of course, there are exceptions. The Prudential has been known to intervene more than once to help change an inefficient management but on the whole interventions of the great institutional investors in company affairs have been conspicuous by their absence. This has helped the ignorant socialist to propound the lie • that shareholders are a useless anachronism in an age of managerial control. The truth is that the equity share is the allimportant legal device which enables the capital spenders — the wealth-creators — to obtain their risk capital in the open capital market. Without it the capitalist system could not function. But as legal owners of the business the equity shareholders have been supine far too long. It is time that the big institutional investors — the life and pension funds and the unit trusts — set up a joint Ombudsman to attend company meetings and make their voices heard.
I am not, of course, against take-overs as such. Too many boards of directors sit complacently on their assets and fail to exploit their resources to the limit. It is riglIt and proper for a more intelligent and wideawake outsider to swoop down on the market and offer the shareholders 50 per cent more than the market price because he can see his way to make the assets earn double by more efficient and energetic exploitation. I am only objecting to takeovers which change the whole nature and character of a company's business and create a new form of giantism which is against the shareholders' best interests. Giantism invites government and worker opposition, leading, as it usually does, to monopoly practices and redundancy sackings. Such take-overs should not be allowed without shareholder and worker consent. Diversification is therefore a potential evil. It derives, I suspect, from directorial megalomania — the all too prevalent obsession with growth.
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