Conglomerates are not built equally

WHEN Singapore's Keppel Corporation made a bid of as much as S$3.2 billion in January to buy the shares of subsidiary Keppel Land (KepLand) that it did not own, Keppel Corp CEO Loh Chin Hua expressed an ambition for his company to be like the world's top 20 conglomerates, which trade at a sizeable premium to their net asset values.

In making that remark, Mr Loh was perhaps aiming, like what every good CEO should, to create shareholder value. That is, if Keppel Corp - then trading at nine to 11 times forward earnings and 1.4 times book value - could rearrange the bits and pieces of its diverse businesses in a better way, then the stock market would decide the company is worth more.

The KepLand privatisation was interesting as it came after a series of corporate actions by Singapore conglomerates that aimed to sell off assets instead of acquiring them.

Conventional corporate finance wisdom dictates that standalone, specialised assets are worth more than being lumped together.

A buyer in a specific industry might need the relevant asset and would pay a premium for it. But it is less willing to have to pay as much to get the entire group, which contains assets it might not want. Hence conglomerates usually trade at a "conglomerate discount".

Singapore conglomerates have thus been busy selling off so-called "non-core assets" to buyers that need them.

One such mega-deal was in 2012, when OCBC Bank and parties also sold stakes in Fraser & Neave (F&N) and Asia Pacific Breweries (APB) to parties linked to Thai tycoon Charoen Sirivadhanabhakdi.

That triggered a bidding war for both companies. Dutch brewer Heineken eventually got APB, the maker of Tiger and Anchor beers. Mr Charoen, meanwhile, got F&N and its key drinks and property assets.

Then, OCBC-owned United Engineers in 2013 fought a very expensive takeover battle with a rival to purchase auto, electronics and property conglomerate WBL Corp - only to sell off WBL's businesses piece by piece to various suitors.

From these corporate reshufflings, OCBC got a bit more cash to fund its own giant acquisition of Hong Kong's Wing Hang Bank.

Mr Charoen followed his F&N purchase with some value-unlocking of his own. He spun off F&N's property arm, Frasers Centrepoint, last January. Frasers Centrepoint, for that matter, lost no time selling hotel assets to investors through the listing of Frasers Hospitality Trust in July that year.

With all these corporate actions going on, should you buy a conglomerate?

First, we have to be precise in defining what a conglomerate is. Is Nestle, a food giant valued at hundreds of billions of dollars, which owns over 2,000 brands in categories such as ice cream, baby foods, cereals and coffee, really a conglomerate?

A conglomerate has to be involved in completely unrelated businesses. These businesses have to be of a certain size, and operations will probably be global.

Other than Berkshire, General Electric is another famous American conglomerate, involved in disparate goods from wind turbines to drugs to nuclear weapons.

Conglomerates might have more stable earnings due to their diversified businesses. If their businesses are related, efficiencies from cost-cutting might result, or "synergies" in corporate jargon. Their sheer size will allow them cheaper funding costs. And if they are smart about it, they can spin off their assets for a profit when the time is right.

Unfortunately, being in charge of a giant company can spur managers to go into value-destructive deals.

Mr Buffett pointed out some. The complexity of a conglomerate might make it difficult to run. More importantly, it will be near-impossible for investors, even professional ones, to put a precise value on it. People resort to inaccurate rules of thumb such as earnings multiples or book value.

While Berkshire was an incredibly successful conglomerate, it will be rare for others to be able to enjoy the same advantages it has had. Its insurance business, notably, allowed it to get a sizeable amount of cash - paid in advance - with which to invest into more companies.

In the region, conglomerates trade at a discount to book. A Morgan Stanley report after the KepLand deal noted that Hong Kong conglomerates were trading at a discount of 30 per cent. This is in part due to a focus on property.

"Contrary to what Keppel is doing, Hong Kong conglomerates have spun off their property businesses to unlock shareholder value in recent years," the report said.

Mr Buffett mentioned fees for bankers and lawyers. Luckily for them, conglomerates get reshuffled around all the time. We have not seen the last of major corporate actions around the Keppel conglomerate. Don't be surprised if some property assets are spun off again at some point.

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