Tuesday, April 22, 2008

United Technologies: A Different Type of Conglomerate Than GE

In last week's Wall Street Journal, the paper's minority owned breakingviews.com writers compared GE's recent and longer term earnings performances to those of United Technologies.

As it happens, Friday's Journal featured the UT earnings report, trumpeting the headline "United Tech's Profit Jumps 22%."

Of all the conglomerates which once dominated the US corporate scene up until the 1980s, only GE and UT remain. Names like Textron, LTV, Gulf & Western, Westinghouse, and Litton are history. ITT is no longer the sprawling giant of Harold Geneen's day, while the more recently-created Tyco has also scaled back after its architect, Dennis Kozlowski, went to jail.

Since GE is relatively better-known, and less-covered, let's take a moment to acquaint ourselves with the 'other' Connecticut-based conglomerate.

UT's website lists its current divisions: Carrier, Hamilton Sunstrand, Otis (Elevator), Pratt & Whitney, Sikorsky, Fire & Security, and Power.

The company largely serves two major markets: buildings and aircraft. The bulk of its divisions, products and services focus on the needs of customers with these fixed assets.

Originally created by its legendary first CEO, Harry J. Gray (1971-87), UT has only existed as a conglomerate since the early 1970s, as we will subsequently learn, below. After Gray, Robert Daniell (1987-1994) became CEO, ceding that position to longtime employee George David (1994-2008), who leaves the company this year.

This article describes the history of Gray and United Technologies. Specifically, note the following passages,

"Harry Gray had been appointed president of the United Aircraft Corporation in 1971. United Aircraft was at that time one of the largest companies in the country and had a long history of manufacturing airplanes and helicopters for the American military. Gray was determined to diversify United Aircraft in order to diminish the company's reliance on defense contracts. Flourishing Essex International became his first acquisition. Under United Aircraft, soon to be renamed United Technologies....

Through the 1970s, Gray continued his program of growing and diversifying United Technologies through acquisitions.

Although Harry Gray's aggressive policy of growth through acquisitions had built United Technologies into one of the 20 largest industrial corporations in the United States, in the mid-1980s a number of Gray's riskier ventures turned sour. Indeed, net income dropped by about $600 million between 1985 and 1986. After a great deal of internal turmoil amongst UTC management, Gray stepped down as CEO of the troubled firm in 1986. Robert Daniell was appointed in his place. Daniell immediately undertook a major restructuring of UTC, streamlining the unwieldy company by selling off divisions that did not fit into United Technologies' main product lines. In 1988, as part of this reorganization, the wire manufacturing operations of Essex were spun off as an independent company, although the new enterprise continued to produce the wire for the automotive wire assemblies and electronic devices manufactured by United Technologies Automotive. Daniell's reorganization of UTC also included the dissolution of The Industrial Products Division, thus making United Technologies Automotive an independent business unit within UTC.

By the late 1980s, with the major building blocks of the restructuring in place, UTC began to look once again towards strategic expansion, although this time only businesses that would mesh with their major product lines would be considered."

So we see that the modern UT is built upon a collection of businesses with explicitly related technologies, not just a scattershot of various unrelated businesses.

The nearby price chart for UT and the S&P500 Index, from UT's inception to the present, tells and interesting story.

A longterm 'buy and hold' investor would have done well to invest with Harry Gray back in 1971. But the same investor could have bought the index and jumped in later, around the time of Gray's exit, in 1987. Or, again, in 1994, when the current CEO, George David, took over leadership of the industrial conglomerate. In fact, all of UT's superior performance, relative to the index, can be accounted for by just David's years as CEO. Despite progress during both Gray's and Daniell's tenures, the relative gains for shareholders by UT, relative to the S&P, always evaporated. The company has had a relatively steady track record of total return performance, implied by the price chart, assuming a constant dividend. But, still, it couldn't consistently outpace the index.

It's clear that Gray's diversifications ultimately caused trouble for the company and its shareholders. For example, as Robert Daniell began to lead UT, this article appeared, describing his first two years as CEO,

"At the start of 1987, United Technologies took a charge of almost $600 million against earnings to reduce the work force and sell unwanted operations, reflecting a change from the earlier acquisition-minded growth days to a management stressing cost savings and profit margins.

Mr. Daniell sold off 25 businesses and focused on three major areas: aerospace, auto products and building products, including Otis elevators and Carrier air-conditioners.

The strategy has paid off, with United Technologies reporting 1988 earnings of $659.1 million on revenues of $18.5 billion, both record figures for the company."

So, as long as twenty years ago, UT began to pull back from the sprawl created by Harry Gray's reign. It now epitomizes the notion of a large, multi-business company focused on common customers and technologies throughout its units.

The company's name seems to now aptly describe it.

Contrast this with GE's more sprawling, less-related businesses: appliances, aviation, consumer electronics, electrical products, consumer & business finance, healthcare, lighting, media, oil & gas, rail, security, and water.

Originated from Thomas Edison's electrical-related ventures in the late 1880s, GE was itself originally a much more focused conglomerate.

As this GE webpage explains,

"1876 was also the year that Thomas Alva Edison opened a laboratory in Menlo Park, New Jersey, where he could explore the possibilities of the dynamo and other electrical devices that he had seen in the Exposition. Out of that laboratory was to come perhaps the greatest invention of the age - a successful incandescent electric lamp.

By 1890, Edison established the Edison General Electric Company by bringing his various businesses together.

Several of Edison's early business offerings are still part of GE today, including lighting, transportation, industrial products, power transmission, and medical equipment. The first GE Appliances electric fans were produced at the Ft. Wayne electric works as early as the 1890s, while a full line of heating and cooking devices were developed in 1907. GE Aircraft Engines, the division's name only since 1987, actually began its story in 1917 when the U.S. government began its search for a company to develop the first airplane engine "booster" for the fledgling U.S. aviation industry. Thomas Edison's experiments with plastic filaments for light bulbs in 1893 led to the first GE Plastics department, created in 1930."

Thus, we see that some of the current, or just-exited businesses, grew from events or technologies unrelated Edison's original electricity-oriented businesses.

When adding GE to the prior price chart, since 1971, for UT and the S&P500 Index, we see that UT has outperformed its more-diversified and famous fellow conglomerate. By a fairly wide margin, since the y-axis is logarithmic.

And, as I noted in this recent post, this chart again illustrates that GE's performance under Welch, from the early 1980s to 2001, were distinctly and uniquely superior, relative to the market. From Welch's retirement onward, GE has declined, then flattened, relative to both the index and David's later years with UT.

All conglomerates are not alike. The most diversified, financially-oriented US conglomerates of forty-plus years ago are long gone. Of the two remaining entities of this type, it's clear that the more focused, less-diversified one, UT, has handily and steadily outperformed its more famous counterpart, GE.


Anonymous said...

A well-presented retrospective on the last two men standing in a now largely deserted arena. You crisply reveal the lessons learned by UTC and those that have been ignored by GE.

C Neul said...


Thanks for your comment and compliment.

It's an eye-opening comparison, is it not?

George David had enjoyed much success in leading UT since 1994, yet remains largely unknown to the average investor.

Jeff Immelt, tho inept, is better-known simply because he is CEO of the also better-known firm.