Honeywell Is Satisfied With the Sum of Its Parts

Honeywell International Inc. is a modernized conglomerate, and it intends to stay that way.

The maker of everything from jet parts and warehouse-automation equipment to safety goggles and fuel-processing technologies is one of the few industrial giants that has remained heavily diversified after a decade of historic breakups. General Electric Co. is in the process of a three-way split that will leave the remaining company focused on aerospace, and Emerson Electric Co. is selling its climate-technologies division to concentrate on automation equipment. Carrier Global Corp., itself the product of United Technologies Corp.'s breakup, just concluded that its fire and security operations didn't have enough in common with its core heating and cooling business. Even 3M Co., a company once thought to be immune from the breakup trend because of the shared material science among its divisions, is spinning off its health-care unit and would probably slim down more if it wasn't facing a truckload of potential legal liabilities.

Honeywell spun off its Garrett Motion Inc. turbochargers arm and Resideo Technologies Inc. home products operations in 2018, but this was more of a trimming around the edges of less desirable assets. Neither has done well as an independent company; the former even went bankrupt. So the obvious question when Honeywell announced that Chief Executive Officer Darius Adamczyk would step down in June was whether his successor, Vimal Kapur, would make his mark by following the path of so many other industrial companies and announce some kind of significant breakup. The answer — at least for now — is no. "As long as we can add value, we have a right to exist," Kapur said in an interview.

Read more: Honeywell's New CEO Needs to Pick a Lane

The incoming CEO laid out his vision for Honeywell at an investor day presentation in New York on Thursday. The company framed his ascension as part of a new era centered on innovation and growth, in contrast to Adamczyk's tenure, which entailed more cleanup of Honeywell's internal organization and operating processes than investors perhaps appreciated at the time. But while many companies have pitched a strategy of growth by means of subtracting more mature assets, Honeywell is focusing on adding products through smarter research and development — particularly in the realms of sustainability and software — and, it hopes, some acquisitions valued at $1 billion to $7 billion. The company might do some "minor pruning" to align itself around the four main themes of the energy transition, automation, air travel and digitization, but its core assets already fit into these buckets, so Honeywell would look to divest 10% of its business at most, Kapur said.

"It looks like these are four disparate things, but think about it, if you are a company, you need automation but you also need the energy transition. Digitization is also needed for an aerospace company. Air travel also needs sustainability. It's not like these are random things and they happen to sit together. We tie it together with a very strong Honeywell operating system," Kapur said. "We are keeping it because we’re able to add value, and our customers care about it. We will only go deeper with those macros in mind."

It's an interesting logic, and perhaps Honeywell is the one industrial company for which it will resonate with investors; by most accounts, shareholders are giving it valuation credit for its various parts. But past attempts by manufacturing giants to argue that seemingly incongruent businesses have more in common than meets the eye have tended to fall flat.

GE had the "GE Store," a supposed shared repository of technological prowess that all of its myriad businesses could tap into, and it argued that the health-care business could help open doors in emerging markets for the aerospace and gas turbine divisions. If you ask any industrial analyst or investor about the "GE Store," you will get some monster eye rolls. Fortive Corp. CEO Jim Lico has sought to frame the company's current collection of health-care, test and measurement and software assets through the lens of making the world safer and more productive, but the stock has underperformed since its 2016 spinoff from Danaher Corp., so it doesn't seem as if investors are buying that narrative. The science behind Command strips and automotive tape might be similar, but it's far from clear that these businesses benefit from being housed under the same 3M product umbrella.

On the other hand, Microsoft Corp. sells computer operating systems, cloud-computing services and the Xbox gaming system and owns the LinkedIn networking website, Skype communication service and the Bing search engine. Amazon.com Inc. has an e-commerce platform, a large logistics operation, a cloud-computing business and also owns Whole Foods grocery stores. Alphabet Inc. has the Google search engine, Fitbit smartwatches and Nest home security devices, among other things. "They’re all conglomerates, but they call themselves software companies," Kapur said. Some conglomerates "get overly discussed, and some people get a pass," he said.

He's right, of course, but a few years ago I asked several activist investors who had pushed for breakups at large companies whether they thought there was something special about technology giants that allowed them to be conglomerates. They all said that the only reason the structure works in those cases is because the stock prices of those companies generally keep rising and they are still gaining like bonkers. Whenever that ends, so too will investor patience for that level of diversification.

To Honeywell's credit, the company is well aware that it has to keep its own form of music playing to justify its sprawl. Honeywell has an impressive track record of consistently improving profitability; Kapur intends to keep this up and make some additional tweaks to the operating system, including more standardization across the company's various business models. After high-profile complications from the 1999 merger with AlliedSignal, Honeywell has studiously avoided the trap of doing a large deal that makes headlines but then damages its balance sheet, culture or profits. But many of the most successful diversified industrial companies pair a gold-standard profitability algorithm with robust dealmaking. Despite regularly talking up its ample balance-sheet power, Honeywell announced fewer than a handful of deals of size during Adamczyk's tenure as CEO and only one larger than $1 billion. "I want to address an elephant in the room," Adamczyk said during the investor day presentation. "I’ll save you time on a Q&A — which is why didn't you do more acquisitions?"

One reason is that the company needed to do a meaningful amount of work to smooth out the complexity created from previous takeovers and a long corporate history. Every business unit had its own IT platform and strategy when Adamczyk took over; that's now been streamlined, and the company has a centralized, digitized data warehouse that makes it easier to run analytics on its various businesses. Honeywell had 148 enterprise resource planning software systems; it now has 14. The company trimmed the number of manufacturing and warehousing facilities it operates by 38%. "When you try to bring acquisitions into a place where you’re already sort of dispersed and disorganized and you don't have a common IT platform, data strategy, analytics strategy, the probability of post-merger integration being successful is dramatically lower," Adamczyk said in an interview.

Honeywell also has extremely high standards and isn't willing to compromise on them. "Over the course of the last five years, the multiples have been substantially higher," Adamczyk said. "What would you have to believe this company would do to justify the price paid? A lot of times it leaves you kind of head-scratching." While it's highly unlikely that any shareholders are upset that Honeywell didn't massively overpay for acquisitions, other companies have managed to do sound, midsize deals. Over the course of last year through this month, Honeywell said it screened 200 public targets, 6,600 private equity-owned assets and 100 private companies. It didn't publicly announce any deals in 2022, according to data compiled by Bloomberg, although the company in April agreed to buy a compressor controls business that was formerly part of Roper Technologies Inc. from Clayton, Dubilier & Rice for $670 million.

Honeywell reiterated its goal of deploying $13 billion on either acquisitions or share buybacks between now and 2025, with the opportunity to tap the debt markets and spend about twice that if necessary. Adamczyk said reduced competition from private equity buyers should make it easier to get deals done, and he will continue to help Kapur suss out opportunities in his new role as executive chairman. Whatever deals the company does finally do will prioritize high-growth, high-margin assets that complement its myriad existing businesses and fit into one of thematic connectors Kapur highlighted. "You can be assured that we’re not going to add something totally random into Honeywell," Kapur said.

Quote of the Week

"There's not a CEO in America — or in China for that matter — who isn't concerned about geopolitical tensions. They don't seem to have abated. They’ve gotten only more unnerving." — Emerson Electric Co. CEO Lal Karsanbhai

Karsanbhai made the comments in an interview this week in response to a question about whether growing scrutiny over business relationships with China would force manufacturers to rethink how they operate in the country. One of Emerson's competitors, Rockwell Automation Inc., has attracted the attention of government officials who are investigating whether local employees at a software campus in Dalian, China, could access code and exploit cyberattack vulnerabilities in critical military and industrial infrastructure, the Wall Street Journal reported this week. Rockwell says it hasn't been notified of any US investigation into its activities in China but will fully cooperate if asked and reached out to officials to offer its assistance after being contacted by the Journal. It remains unclear how substantive this probe is or will become, and the extent of Rockwell's software work in China appears to have been pared back in recent years.

The facility in question is 29 years old, and the sudden scrutiny speaks to the current level of US paranoia around Chinese access to crucial technologies. It also raises broader questions about what level and type of activities Western manufacturers will be allowed to conduct going forward in a country that currently accounts for a significant portion of many global industrial companies’ sales.

Many large industrial companies have already built in a level of separation between their China operations and the rest of the world. Rockwell says it doesn't use Chinese facilities to develop software that's embedded in devices that control the operations of a machine or processes or that's used for cloud-based or remote-access products, and it conducts all vulnerability testing in the US. It's easier to move a software development campus than a factory, so if the government deems Rockwell's software operations in China problematic, "it's something that can, could, and would be addressed," Chief Financial Officer Nick Gangestad said Wednesday at an Oppenheimer conference. Emerson makes 96% of what it sells in China in that country, with the balance primarily sourced from other East Asian countries, Karsanbhai said. There's only one expatriate running Emerson's business in China, and that person is from Hong Kong, he said. The company's software work in China is for Chinese applications and doesn't involve core technology.

But US companies still need the China market. That's particularly true for Boeing Co., which is still waiting and wishing for the country's airlines to take deliveries of its 737 Max jets again and, it hopes, order some new ones. CEO Dave Calhoun told Bloomberg News this week that he was "reasonably confident" that handoffs would resume soon in the country. A $40 billion order from discount carrier Ryanair Holdings Plc for as many as 300 Max jets takes some of the pressure off for a China rebound.

Deals, Activists and Corporate Governance

Allkem Ltd., the Australian lithium miner, agreed to merge with US rival Livent Corp. in an all-stock deal that values the combined company at $10.6 billion. The new entity will boost capacity with a goal of becoming the third-largest global producer of lithium by 2027. Prices for lithium carbonate have rebalanced after spiking during the post-pandemic supply chain crisis, but the commodity is a key input for electric vehicle batteries and thus crucial for the energy transition. Allkem and Livent have assets in Argentina, Canada and Australia, and the focus of the new company will be on building out a supply chain in the Americas to serve Western demand for non-Chinese sources of battery materials, Paul Graves, who will lead the combined entity, told Bloomberg News in an interview. The Inflation Reduction Act offers tax credits on electric vehicles built with materials sourced from the US or its free-trade partners, such as Canada and Australia.

Goodyear Tire & Rubber Co. should divest its underutilized company-owned store network, come up with a plan to boost margins and appoint five new directors, according to Elliott Investment Management. The activist investor has accumulated a 10% stake in the tire manufacturing and automotive-services company and is seeking change to correct the stock's disappointing performance. Elliott says its proposed revamp could help boost Goodyear's stock price above $32, or almost triple what the shares were trading for before the investor disclosed its campaign. Goodyear said it would review Elliott's recommendations and intends to meet with the investor to discuss its views in more detail. Honeywell CEO Darius Adamczyk's decision to step down caught many by surprise because he's well respected, hadn't been in the role for long by industry standards and is only 57. But after spending a good chunk of Christmas in 2021 thinking about Honeywell cash flow numbers, Adamczyk said his wife asked him if this was really how he wanted to spend his life, and he started thinking about making a change. He wasn't in a rush to retire, though, so that allowed the board to evaluate successor candidates, including Chief Operating Officer Vimal Kapur but also outsiders, on a range of criteria over time. Kapur eventually got the job, but that wasn't a given, Adamczyk said. "Every board meeting we went over the criteria and went over his performance. The board had to get comfortable that he was meeting some of these objectives," Adamczyk said. As he prepares to transition to his new role as executive chairman, Adamczyk says he wants to read more books (he's particularly fond of tomes on military history); dedicate more time to fitness; and play a few more rounds of golf. He has no plans to be CEO of another company. "I feel like I already had a chance to run the best company in the world, so why would I want to run another one?" he said. "But I’m never going to say never."

Bonus Reading

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This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Brooke Sutherland is a Bloomberg Opinion columnist covering deals and industrial companies. A former M&A reporter for Bloomberg News, she writes the Industrial Strength newsletter.

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