Conglomerates Crumble

Splitting companies up into smaller, more manageable businesses is now in vogue.

Three old giants General Electric, Johnson & Johnson and Toshiba have announced this fall that they would break up their conglomerate structure to create several nimble and focused public companies. GE, which was the most valuable group in the US back in 2000, will separate into healthcare, energy, and aviation. Its Japanese competitor Toshiba will morph into three businesses as well. Finally, Johnson & Johnson will dissect itself.

“We are convinced that the separation will unlock immense value by removing complexity,” declared Satoshi Tsunakawa, Toshiba’s interim CEO. “Each company can benefit from greater focus, tailored capital allocation and strategic flexibility,” added Larry Culp, the chairman of GE.

The breakups signal a win for some activist investors. The Trian Fund Management lobbied for a breakup at GE; Effissimo Capital Management pushed Toshiba. These investors are persuaded that smaller units are easier to manage. The American groups may benefit from a tax-free divorce while cleaning up old messes: GE is still carrying a massive $66 billion debt that would then be split in three lots.

Adding fuel: Toshiba is recovering from its 2015 accounting scandal while Johnson & Johnson is threatened by multiple lawsuits, including a claim that its baby powder caused ovarian cancer.

Looking at J&J, Jarrad Harford, professor of finance at the University of Washington, sees a sensible breakup. “The old argument that steady cash flow from the consumer division would fund the promising other division is wrong,” he says. “The conglomerate loses focus. The benefits of separate companies outweigh the need for investment funding that you will find on capital markets anyway.”

Erik Gordon from the University of Michigan is more nuanced: “For decades conglomerates with their supposed synergies and economies of scale have been in vogue,” he explains. “Over other decades, conglomerates with their supposed lack of focus were out…These are fashion cycles.”