MONEY Diversification and Burmah Oil
NICHOLAS DAVENPORT
News of the proposed merger between two giant companies—Burmah Oil and Con- tinental Oil—has not only been exciting the market in oil shares but those students of politics and economics who are seriously concerned about corporate giantism and diversification. Should the nation state allow intervention in its economy by international giant corporations without attempting to subject them to some supervision or control? Should shareholders allow their directors to change the character and business of their corporation without getting their special con- sent? I will discuss diversification first because of the Burmah Oil bombshell and the current fashion among directors to preserve and push their own power and influence by new acquisitions and mergers.
Take, for example, the classic case of British American Tobacco. As most people know, this great company makes and sells cigarettes outside Great Britain virtually in every country of the civilised world. Some years ago its directors got into their heads the idea that as tobacco was a declining business—although their net profits went up 20 per cent last year—it would be desirable to diversify and buy into other businesses. In other words, they decided to change the character of their business without con- sulting their shareholder-proprietors, which, in my view, they had no right to do.
First, they bought into the cosmetic business in this country, in America and elsewhere. Although there was an improvement in sales last year the directors report that there has been no real increase in the UK consumption of perfumery and cosmetics (subject to 55 per cent purchase tax) for the past three years and that there is a long way to go before they achieve a satisfactory return on their investment. Where was the benefit for their shareholders in this• diversification? Next, they went into the paper business, first by taking an interest in Wiggins Teape and then by taking over the whole company, lock, stock and barrel. Although they were aware of a decline in profits when they made their bid, the chairman now reports that 'neither the Wiggins Teape management nor we ourselves appreciated. the magnitude of the recession which was to hit the paper in- dustry in the later months of the year'2(It was due to the competition from EFTA mills overseas.) No doubt Wiggins Teape will pull round but what was the point of diversifying into a business which tobacco directors know nothing about? Last year BAT had a turnover of £1,668 million and made a profit before taxation of £159.8 million, a little over 91 per cent. If the directors feel that tobacco is a declining business they might sell out and invest the money in War Loan to yield nearly 91 per cent in perpetuity. Of course
there would be no growth but it would be a lovely return for security and peace.
A more phrenetic case of diversification is Burmah Oil. This mixed-up company has long been trying to find its soul and settle its future. It is in part a holding company and a trading company. It holds 83 million shares in British Petroleum and 191 million shares in Shell (one third of which are committed for the conversion of the Burmah 54 per cent dollar bonds). These holdings are valued at present market prices at over £410 million. Its basic trading interests were in India and Pakistan (gas and oil marketing), Peru and Ecuador (production and refining), with various marketing outlets in Canada, the us and Britain. In the old days one used to buy Burmah when the market price of its shares was covered by its holding of BP and Shell, leaving nothing for its trading interests. At the present price of 370 its market valuation is £510 million. A dramatic market change came in 1963 when BP and Shell made an outright bid for Burmah. This was refused on the grounds that it undervalued the earn- ing capacity of the,company.
From 1966 the directors embarked on a new policy—to develop the trading assets until the income therefrom would at least equal the income from their BP and Shell dividends. First Castrol was bought, then Rawlplug (1968), then Major Solignum (1969), then Halfords (1970), then an interest in two Australian oil and gas exploration companies, finally various marketing com- panies to expand its petrol and domestic fuel trade. I should add some speculative drilling in the North Sea—so far unsuccessful. The heart of the expansion was to be the quin- tupling of the capacity of its Ellesmere Port refinery, which alas! ha been held up by strikes and will not now be ready before the last half of 1971. For all this diversification and expansion the company had to water its equity capital by 14 per cent and add nearly £60 million to its prior charges and preference capital. Yet over this diver- sification period 1966-69 its shareholders failed to get any material improvement in their net income from trading and trade investments. What little increase they had came mainly from their old Asian interests. They cannot then be greatly impressed by their directors' diversification: Now comes the explosion of a merger with Continental Oil. This company is the eighth largest oil producer in the United States and by net income ranks twelfth in the world lea- gue of corporate giants. In addition to oil and gas it has interests in chemicals, plastics, food processing and coal. The combined equity capital of the two companies is currently valued in the market at over $2,850 million and their prior charges at $1,000 million. One wondered what Continental could see in Burmah until it emerged that Burmah was asking BP to hand over part of its operating assets—oil and gas reserves and undrilled acreage—in exchange for cancellation of part of Burmah's 23 per cent holding in BP. It seemed to me a lot of cheek. I could not see what advantages would accrue to BP beyond relieving it of some development ex- penditures at a time of financial strain. I was not therefore surprised by the rumour that m, might counter the move by making a bid for Burmah in order to relieve the in- ternational oil scene of a mixed-up company which is neither one thing or another but for BP an infernal nuisance. But the story points to the dangers of corporate giantism and the need to curb directors' appetite for diversification. What can be done?
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