Conglomerate (company)

A conglomerate is a combination of two or more corporations engaged in entirely different businesses together into one corporate structure, usually involving a parent company and several (or many) subsidiaries. Often, a conglomerate is a multi-industry company. Conglomerates are often large and multinational.

Contents


Modernization

Conglomerates were popular in the 1960s due to a combination of low interest rate(s) and a repeating bear/bull market, which allowed the conglomerates to buy companies in leveraged buyouts, sometimes at temporarily deflated values. Famous examples from the 1960s include Ling-Temco-Vought, ITT Corporation, Litton Industries, Textron, Teledyne, Gulf and Western Industries, and Transamerica. As long as the target company had profits greater than the interest on the loans, the overall return on investment (ROI) of the conglomerate appeared to grow. Also, the conglomerate had a better ability to borrow in the money market, or Capital market, than the smaller firm at their community bank.

For many years this was enough to make the company's stock price rise, as companies were often valued largely on their ROI. The aggressive nature of the conglomerators themselves was enough to make many investors, who saw a "powerful" and seemingly unstoppable force in business, buy their stock. High stock prices allowed them to raise more loans, based on the value of their stock, and thereby buy even more companies. This led to a chain reaction, which allowed them to grow very rapidly.

However, all of this growth was somewhat illusory. When interest rates rose to offset inflation, the profits of the conglomerates fell. Investors noticed that the companies inside the conglomerate were growing no faster than before they were purchased, whereas the rationale for buying a company was that "synergies" would provide efficiency. By the late 1960s they were shunned by the market, and a major sell-off of their shares ensued. To keep the companies going, many conglomerates were forced to shed the industries they had purchased recently, and by the mid-1970s most had been reduced to shells.[1] The conglomerate fad was subsequently replaced by newer ideas like focusing on a company's core competency.

In other cases, conglomerates are formed for genuine interests of diversification rather than manipulation of paper ROI. Companies with this orientation would only make acquisitions or start new branches in other sectors when they believe this will increase profitability or stability. Flush with cash during the 1980s, General Electric also moved into financing and financial services, which in 2005 accounted for about 45% of the company's net earnings. GE also owns a majority of NBC Universal, which owns the NBC television network and several cable networks. In some ways GE is the opposite of the "typical" 1960s conglomerate in that the company was not highly leveraged, and when interest rates went up they were able to turn this to their advantage, as it was often less expensive to lease from GE than buy new equipment using loans. United Technologies has also proven to be a successful conglomerate.

With the spread of mutual funds (especially index funds since 1976), investors could more easily obtain diversification by owning a small slice of many companies in a fund rather than owning shares in a conglomerate.

Another example of a successful conglomerate is Warren Buffett's Berkshire Hathaway, a holding company which used surplus capital from its insurance subsidiaries to invest in a variety of manufacturing and service businesses.

International

The end of the First World War caused a brief economic crisis in Weimar Germany, permitting entrepreneurs to buy businesses at rock-bottom prices. The most successful, Hugo Stinnes, established the most powerful private economic conglomerate in 1920s Europe – Stinnes Enterprises – which embraced sectors as diverse as manufacturing, mining, shipbuilding, hotels, newspapers, and other enterprises.

The best known British conglomerate was Hanson plc. It followed a rather different timescale than the US examples mentioned above, as it was founded in 1964 and ceased to be a conglomerate when it split itself into four separate listed companies between 1995 and 1997.

In Hong Kong, two most well-known conglomerates are the Swire Group and Jardine Matheson, both are British-owned companies that have a history of over 100 years and have business interests that span across four continents with a focus in Asia. Swire Group (or Swire Pacific) controls a wide range of businesses, including property (Swire Properties), aviation (i.e. Cathay Pacific and Dragonair), beverages (bottler of Coca Cola), shipping and trading. Jardine Matheson operates businesses in the fields of property, finance, trading, retail and hotel (i.e. Mandarin Oriental).

In Japan, a different model of conglomerate, the keiretsu, evolved. Whereas the Western model of conglomerate consists of a single corporation with multiple subsidiaries controlled by that corporation, the companies in a keiretsu are linked by interlocking shareholdings and a central role of a bank. Mitsubishi is one of Japan's best known keiretsu, reaching from automobile manufacturing to the production of electronics such as televisions.

In South Korea, Chaebol is a type of conglomerate owned and operated by a family. A chaebol is also inheritable, as most of current presidents of chaebols succeeded their fathers or grandfathers. Some of the well-known Korean chaebols are Samsung, LG and Hyundai Kia Automotive Group.

The era of Licence Raj (1947–1990) in India created some of Asia's largest conglomerates, such as the Tata Group, Kirloskar Group, Larsen & Toubro, Mahindra Group, ITC Limited, Essar Group, Reliance ADA Group, Reliance Industries, Aditya Birla Group and the Bharti Enterprises.

Advantages

  • Diversification results in a reduction of investment risk. A downturn suffered by one subsidiary, for instance, can be counterbalanced by stability, or even expansion, in another division. In other words, if Berkshire Hathaway's construction materials business has a bad year, the loss might be offset by a good year in its insurance business. This advantage is enhanced by the fact that the business cycle affects industries in different ways.[2] Financial Conglomerates have very different compliance requirements from insurance or reinsurance solo entities or groups. There are very important opportunities that can be exploited, to increase shareholder value.
  • A conglomerate creates an internal capital market if the external one is not developed enough. Through the internal market, different parts of conglomerate allocate capital more effectively.
  • A conglomerate can show earnings growth, by acquiring companies whose shares are more discounted than its own. In fact, Teledyne, GE, and Berkshire Hathaway have delivered high earnings growth for a time.[3]

Disadvantages

  • Synergies are illusory.
  • The extra layers of management increase costs.[4]
  • Accounting disclosure is less useful information, many numbers are disclosed grouped, rather than separately for each business. The complexity of a conglomerate's accounts make them harder for managers, investors and regulators to analyse, and makes it easier for management to hide things.
  • Conglomerates can trade at a discount to the overall individual value of their businesses because investors can achieve diversification on their own simply by purchasing multiple stocks. The whole is often worth less than the sum of its parts.
  • Culture clashes can destroy value.[5][6]
  • Inertia prevents development of innovation.[7]
  • Lack of focus, and inability to manage unrelated businesses equally well.[8]

Some cite the decreased cost of conglomerate stock (a phenomenon known as conglomerate discount) as evidential of these disadvantages, while other traders believe this tendency to be a market inefficiency which undervalues the true strength of these stocks.[9]

Media conglomerates

In her 1999 book No Logo, Naomi Klein provides several examples of mergers and acquisitions between media companies designed to create conglomerates for the purposes of creating synergies between them:

  • Time Warner includes a several tenuously linked businesses, including internet access, content, film, cable systems and television. Their diverse portfolio of assets allow cross-promotion and economies of scale.
  • Clear Channel Communications, a quoted company, at one point owned a variety of TV and radio stations and billboard operations, together with a large number of concert venues, across the U.S. and a diverse portfolio of assets in the UK and other countries around the world. The concentration of bargaining power in this one entity allowed it to gain better deals for all of its business units. For example, the promise of playlisting (allegedly, sometimes, coupled with the threat of blacklisting) on its radio stations was used to secure better deals from artists performing in events organized by the entertainment division. These policies have been attacked as unfair and even monopolistic, but are a clear advantage of the conglomerate strategy. On December 21, 2005, Clear Channel completed the divestiture of Live Nation, and in 2007 the company divested their television stations to other firms, some which Clear Channel holds a small interest in. Live Nation owns the events and concert venues previously owned by Clear Channel Communications.

Food conglomerates

Similar to other industries there are many companies that can be termed as conglomerates.

  • Phillip Morris group—the Phillip Morris group which once was the parent company of Altria group, Phillip Morris International and Kraft Foods had annual combined turnover of $80 bn.

See also

Notes

  1. http://www.referenceforbusiness.com/history2/49/Hitachi-Ltd.html Hitachi, Ltd. - Company Profile, Information, Business Description, History, Background Information on Hitachi, Ltd.-Source-Reference for Business » Company History Index » Conglomerates
  2. http://www.solvency-ii-association.com/Solvency_ii_For_European_Financial_Conglomerates.htm Solvency ii for Financial Conglomerates
  3. http://www.investopedia.com/articles/basics/06/conglomerates.asp Conglomerates: Cash Cows or Corporate Chaos?
  4. Dearbail Jordan and Robin Pagnamenta (September 25, 2007). . The London Times. http://business.timesonline.co.uk/tol/business/industry_sectors/natural_resources/article2527470.ece. 
  5. . BBC News. 17 January 2000. http://news.bbc.co.uk/2/hi/business/607338.stm. 
  6. Michelle C. Bligh (2006). . Leadership 2 (4): 395–426. . http://lea.sagepub.com/cgi/content/abstract/2/4/395. 
  7. . . http://ecorner.stanford.edu/authorMaterialInfo.html?mid=1319. 
  8. http://moneyterms.co.uk/conglomerate/ Definition of Conglomerate
  9. http://www.investopedia.com/terms/c/conglomeratediscount.asp Conglomerate discount