Deals

Brooke Sutherland is a Bloomberg Gadfly columnist covering deals and industrial companies. She previously wrote an M&A column for Bloomberg News.

If Nelson Peltz is looking for a new industrial company to target, there are better options than Honeywell International Inc.

Speculation bubbled up this week that the activist investor's Trian Fund Management, which holds a stake in General Electric Co., was also building a position in Honeywell, the $88 billion maker of everything from HVAC controls to safety goggles and airplane parts. It's just a rumor, but shareholders still saw fit to pop the stock up by the most since March on Wednesday. They may want to cool their Honeywell jet engines.

Peltz's typical playbook is to push companies to increase their stock price by cutting costs or breaking up.  Honeywell doesn't fit that mold. Despite some recent missteps on the guidance front, CEO Dave Cote has worked hard to build the company's reputation as a top-notch operator and has the margins to back it up. Honeywell has also already been doing its own activist-like pruning, spinning off its resins business in October and selling a technology-solutions unit in September.

You could argue that Honeywell could stand to add leverage and pursue a large acquisition -- maybe not quite as big as the failed $100 billion pursuit of United Technologies Corp. that spooked shareholders earlier this year, but there are a number of other appealing targets. I've also argued in the past that merging Honeywell's home-and-building technologies division ($9 Billion-plus in revenue) with United Technologies' HVAC unit and running the combined company as a stand-alone would make sense. Even so, Honeywell isn't a situation that's screaming for an activist investor.

There are plenty of other industrial companies, though, that could use an activist's touch. Here are some suggestions:

Eaton Corp.: The $31 billion company's valuation has been held back by its truck-parts unit, a business whose volatility and capital intensity has stood out all the more following the company's shift toward a more industrial bent with the 2012 acquisition of Cooper Industries. After initially telling investors the Cooper deal (an inversion) shouldn't prevent Eaton from doing spinoffs, then-CEO Sandy Cutler backtracked in 2014, saying the company had to hold off until the deal's five-year anniversary or pay a big tax bill. Time's up on that waiting period in late 2017, and the truck-parts business should go. Or Eaton could do the breakup in reverse by separating out its lighting business. Rival Acuity Brands Inc. trades at a higher multiple than Google parent Alphabet Inc.

Trailing Behind
The valuations of United Technologies, Eaton and Emerson lag behind their multi-industrial North American peers
Source: Bloomberg

Johnson Controls International Plc: The $41 billion company split with its car-seating division and acquired Tyco International this year in an effort to remake itself into an industrial operator with a valuation to match. But it's holding on to an automotive battery business that can be buffeted by changes in weather and fluctuations in the car market. The unit is fast-growing and profitable, but it likely fits better within another company. Partly because of investments in the battery unit, Johnson Controls is targeting free-cash-flow conversion of 90 percent by fiscal 2020, compared with an average of more than 100 percent for multi-industrials. Pro-forma margins are also subpar.

Emerson Electric Co.: There was a brief hope among investors that the $37 billion maker of automation technology would use acquisitions to expand into less-volatile industries such as packaged food after (finally) parting ways with a troubled data-center equipment unit. Instead, Emerson decided to become even more dependent on the energy industry with the $3.15 billion purchase of Pentair Plc's valves and controls division. That raises the question of whether the company's more stable climate-technologies division and business that makes food waste disposals and do-it-yourself tools could earn higher multiples on their own. SG&A expenses accounted for more than 20 percent of Emerson's sales in fiscal 2016, suggesting an opportunity for further cost cuts.

Fat Left to Cut
Emerson's general and administrative expenses are on the high end relative to its revenue
Source: Bloomberg
Data reflects the members of the Industrial Select Sector SPDR Fund for which the information was available.

United Technologies: Despite a Donald Trump-fueled rally, United Technologies is trading below Honeywell's stock-and-cash offer for the company, which today would be valued at about $114 a share. CEO Greg Hayes has walked back his M&A ambitions, but a large deal may be what the company needs to get revenue and its stock moving. Another option is a breakup that would see the company's climate-controls, Otis elevator and aerospace divisions become separate businesses.

Who knows,  Honeywell may in fact be Trian's target. But if so, Peltz is missing out on some red meat.   

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. At GE, Peltz has largely endorsed the company's existing strategy but there was still a breakup catalyst for the stock through the ongoing divestiture of its finance assets and a bigger underperformance gap to close than there is at Honeywell.

To contact the author of this story:
Brooke Sutherland in New York at bsutherland7@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net