By Ben Levisohn
Breaking up may be hard to do, but for investors it's been a winning strategy.
We're talking, of course, about breaking up companies -- and the spinoffs that are supposed to create value for shareholders. Wall Street loves a good spinoff for the fees it creates and the new companies it will get to serve, and recent returns show that investors are actually doing well, too. The Bloomberg Spinoff index has risen 63% in 2024, more than double the S&P 500 index's 24% gain.
The Spinoff index contains all the companies that were broken off from larger ones over the past three years, and it includes such winners as Victoria's Secret, which was spun out of Bath & Body Works and has gained 62% this year; protein drink and energy bar maker BellRing Brands, which was once part of Post Holdings and has risen 37% in 2024; and Constellation Energy, which was broken off from Exelon in 2022 and has climbed 95% this year.
Some breakups work better than others. Spinoffs into different industries than the parent company tend to outperform, explains Trivariate Research's Adam Parker, while high-quality companies should never do a spin. "Something about breaking up a high-quality company creates dis-synergies," he writes. Nor can spinoffs solve every problem. For every GE Vernova, there is a Kenvue, which has dropped more than 20% since its 2023 spin out of Johnson & Johnson, or a Solventum, which was broken off from 3M this year and has fallen 17%.
Still, the striking success of spinoffs this year has gotten the attention of Wall Street, none more so than General Electric. When Larry Culp took over the company in October 2018, there were serious questions about whether it would survive. Culp set about restoring the balance sheet and then announcing plans to create three new companies: GE Healthcare Technologies; GE Vernova, which would focus on power; and GE Aerospace. Of the three, GE Healthcare has been the least successful, returning just 29% since spinning off in January 2023, lagging behind the S&P 500's 53% rise. GE Vernova, which was supposed to be the problem child, has gained 154%. GE Aerospace, the remaining piece, has gained 62% this year and is up 194% since GE Healthcare spun off.
Those returns will make it a lot easier for companies to sell spinoffs to their stakeholders. "Some high-profile recent successes, like GE Vernova, spun from GE earlier this year, can certainly help convince boards and management teams," Parker wrote. "Conglomerates, businesses in multiple end-markets and sectors, and those valued on a sum-of-the-parts basis are all obvious candidates."
And many have already announced spinoffs. In just the past month, companies including industrial conglomerate Honeywell International, express shipper FedEx, and cable company Comcast have announced spins to unlock value and spur growth. Some have gotten particularly creative, including Lennar, which announced after Wednesday's close that it would spin off Millrose Properties as a real estate investment trust that will own the land for the home builder's developments. Though Lennar stock fell 5.2% after the news -- it also reported a larger-than-expected loss and lowered its guidance -- it continues the trend of home builders going asset-light.
Some of the splits make a lot of sense. Honeywell runs an aerospace unit similar to GE Aerospace, but its stock has risen just 8.2% this year. The stock, a Barron's pick in June , has come to life after activist investor Elliott Investment Management called for the company to break itself up, and Honeywell said on Monday that it was exploring "strategic alternatives for unlocking shareholder value," including the possibility of spinning off its aerospace business.
Wall Street is a fan of the idea. "We do believe there is upside simply on a sum of the parts basis...but more importantly, a simpler model should allow for better focus, prospective growth, and even higher valuation," writes UBS analyst Amit Mehrotra, who has a Buy rating and a $298 price target on the stock, up 31% from Thursday's close of $226.88.
Others are a little more headscratching. On Thursday, FedEx said it would spin off its freight business, hoping that it will unlock the value of the division, and the stock gained more than 10% in after-hours trading on the news. That optimism seems reasonable: FedEx trades for 12.9 times 12-month forward earnings, while freight pure plays Old Dominion Freight Line and Saia trade for more than 30 times.
Citigroup's Ariel Rosa, however, has concerns. In a note released before the announcement, he wrote that FedEx's freight business hasn't been growing as quickly as its peers, which might mean it doesn't earn the same valuation. And in the past, the company has said that freight and express support each other by cross-selling services. That could make it difficult to separate the two cleanly and could cause customers to leave for FedEx's competitors.
While Rosa still has a Buy rating on the stock, given its low valuation, among other factors, he worries that the risks could be to the downside in early 2025. "While there is logic in spinning the business to unlock value, we see significant execution risk and remain unconvinced that a spin is in the best interest of long-term shareholders," he wrote.
Sometimes, the best course of action is staying together and making it work.
Write to Ben Levisohn at ben.levisohn@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
December 20, 2024 02:00 ET (07:00 GMT)
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