Barron's | The Trader | Saturday, February 18, 2012
by Vito J. Rancanelli
...goals of John Paulson for Hartford Financial; and a big year ahead for spinoffs.
Excerpt from article (spinoff focus):
NOW THAT ST. VALENTINE'S DAY has come and gone, we feel more at ease discussing Wall Street's intensifying breakup mood. News that no less a hedge-fund manager than John Paulson is ratcheting up his activist doings is instructive.
Paulson & Co., the largest single investor in Hartford Financial Services Group (HIG), filed a letter with the SEC last week that turned up the heat on the insurer's management (see 13D Filings). Hartford's stock is down 30% in the past year, and he thinks greater shareholder value would be achieved if this property-casualty and life insurer spun off one of the two main businesses into a separately traded company.
A spinoff is typically done when one of a firm's disparate divisions doesn't fit with the others, and the combined market value doesn't fully reflect the value of its various businesses. It is a tax-efficient way of giving shareholders separate shares of the new company, often a pure-play stock. The hope is that the total value of the two will be higher than they were when combined in one company.
Hartford Financial might or might not be forced into splitting, but Paulson's move has wider implications: Spinoffs will be big business this year.
Says Joe Cornell, head of Spin-Off Advisors and a 15-year veteran of the field: "I don't remember the spinoff calendar being this robust. This is going to be the biggest year ever for spinoffs." His Chicago-based firm specializes in research on firms doing them. In 2011, the value of U.S. spinoffs was $94.01 billion, more than double 2010's total, he says. Cornell predicts that this year's total will top the record $265.5 billion set in the go-go stock-market year of 2000. These figures represent the combined market values of all the spun-off stocks on the first day of trading separately.
What's expected to drive this activity? A number of big shareholder activists are agitating loudly for such moves across various industries. Additionally, many U.S. companies are operating at historically high profit margins, but with modest revenue growth. A significant margin rise from here will be tough because cost-cutting opportunities appear exhausted, says Cornell. In addition, while the stock market is up this year, last year it was flat, and investors are eager for gains. So many CEOs are under pressure to maximize shareholder value.
There's the copycat factor, as well, adds Mark Minichiello, the chief investment officer of QCA Capital and a specialist in spinoff investing. Lately, that's been particularly true in the energy industry. Marathon Oil (MRO), for example, spun off its refining and pipeline assets as Marathon Petroleum (MPC) last June 30. In July, ConocoPhillips (COP) announced a similar move. After shareholder pressure, Marathon Petroleum, in turn, plans to spin off its pipeline assets.
Big names that plan to spin off a business this year include Abbott Laboratories (ABT), McGraw-Hill (MHP) and Kraft Foods (KFT), among many others.
These moves often create investments that are easier for analysts and investors to understand and that can also be attractive acquisition targets, though tax rules can complicate matters. According to a Bespoke Investment Group study, six months after such a deal is completed, a spun-off stock typically is up 9.7%, versus 2.2% for the remaining "stub" stock. The Marathon split, for example, has added about $2 billion to the combined market value, a 5% increase.
Veteran investors know that spinoff activity is the yin to the yang of mergers and acquisitions. And guess what? With all that cash on corporate balance sheets burning a hole in CEOs' pockets, don't be surprised if a mini M&A boom follows the spinoff explosion, says Cornell. After all, spun-off companies are three to four times more likely to be taken over than the average company, he observes.