After years of using the term ‘shareholder value’ to mean everything from stock buy backs to sacking entire board of a company, America has totally forgotten what it means.
Today we have a perfect example of how the concept has gotten out of control.
Fiat-Chrysler CEO Sergio Marchionne is reaching out to all the muscle he knows — the big shareholders, the activist hedge funds — to see if anyone will help him force GM to merge with his company.
So far no one’s biting, according to The Wall Street Journal.
But what if someone does?
You can imagine the legal rigmarole that will ensue. We saw something like it last year, when hedge fund manager Bill Ackman quietly (at first, which the SEC had questions about) teamed up with Valeant Pharmaceuticals to try to buy another pharmaceutical company, Allergan.
To make this happen, Ackman bought a 10% stake in Allergan and pushed shareholders to give the OK for Valeant to purchase their company. Allergan’s board wasn’t having it, and for the most part neither were shareholders. But Ackman had size enough to push for change.
What followed was a costly hostile takeover in which both parties martialed their capital to pay lawyers to do what lawyers do: fight.
Ultimately, Allergan found another buyer — a White Knight — to take Valeant’s spot. Wonder what would happen if we calculated how much shareholder value all that generated.
It makes a mockery of the whole concept, really.
It’s not that auto industry doesn’t have problems — it does
The reasons why Marchionne is proposing a merger are very real. Original Equipment Manufacturers (OEMs) in the auto space have been cutting costs like mad over the last few years, but returns are still anemic.
Marchionne argues that to bring the industry into a new era where emissions regulations are more costly and customers demand more technology and customisation, it is “time to reinvest enterprise value in product development.”
The business cost of capital is simply getting to high for companies to take on as they exist now. Marchionne thinks they need to get bigger.
But what if you — a GM shareholder — don’t buy that argument? If that’s the case, then Marchionne is just a guy bringing in strangers to subvert your rights.
Again, the mockery thing.
Oh, and Marchionne’s solution could be the totally wrong one
The idea that the merger Marchionne is recommending won’t do much for a new Fiat-Chrysler-GM creature is just as plausible as the idea that the auto industry needs to change and fast.
Look no further than Andrew Ross Sorkin’s recent column warning that mergers are a tactic to ring paltry growth out of companies where this is none, especially now that stock buy backs are getting more expensive because of higher price to earnings ratios in the market.
The numbers tell the story: Revenue growth at United States companies has declined every year for the last five years, to about 5 per cent now from 11.2 per cent in 2010, according to a report by Citigroup. The bank put the problem bluntly: “Many companies will therefore require a source of inorganic growth to meet analyst revenue projections.”
If you can’t build it, then maybe you can buy it.
It seems GM is a bigger fan of more plain vanilla, less intrusive financial engineering to keep its shareholders happy.
The company bought back $US5 billion worth of stock at the request of activist shareholders threatening to mess with GM’s board earlier this year. That buy-back kept the investors at bay.
But there will be more. Who knows, maybe even some spearheaded by the more aggressive Marchionne. His argument might sound pretty good if you believe Sorkin’s argument that buy-backs aren’t going to do the trick anymore — that American investors are going to have to pack more of a punch.
The solution, by the way, is right under our noses
What all of this is leaving out is that there is a way for GM to make its shareholders happy — one that would have more staying power than a stock buy-back, and that doesn’t include the expensive legal headache of a proxy fight. It’s actual growth. Actual investment and innovation.
In a Morgan Stanley note cited by The Wall Street Journal, auto analyst Adam Jonas wrote that GM might be able to fend off activist investors by showing that it has a plan to grow organically. Imagine that.
Jonas argued that GM could show that it’s investing in product lines, moving into new geographic regions, investing in technology, streamlining its financing arm. You know, actions that would fall under capital expenditures and research and development. Two things cash rich American companies haven’t been spending that much money on since the financial crisis.
At the end of the day there isn’t one shareholder, old or new, who can argue with that. It’s the ultimate expression of shareholder value.
Nothing beats organic growth.