U.S. Markets open in 2 hrs 50 mins

For Bayer and FedEx, Deal Hindsight is 20/20

Brooke Sutherland

(Bloomberg Opinion) -- When an industrial company does its largest deal ever, run the other way. That is my very unscientific rule of thumb, but it’s born from experience: Siemens AG’s $7.6 billion takeover of Dresser-Rand Group Inc. came right as oil prices crashed; General Electric Co.’s acquisition of Alstom SA’s energy assets was a disaster; the damage done by Honeywell International Inc.’s ill-conceived Allied Signal merger took years to fix. And now we’re learning more about just how badly Bayer AG miscalculated in its $66 billion takeover of Monsanto Co. last year and how much of a mess TNT Express was when FedEx Corp. acquired it in 2016. Both deals were the companies’ largest.First, Bayer. A second U.S. jury this week linked Monsanto’s Roundup weed killer to cancer, crystallizing the likelihood that Bayer will face substantial legal liabilities as it battles some 11,200 outstanding lawsuits. A French court in January revoked the marketing clearance for a version of Roundup, citing cancer risks, and Germany’s Environment Ministry laid out a plan in November for a step-by-step retreat from its main ingredient, glyphosate. Bayer continues to insist that science shows glyphosate is safe, but the second phase of trial will focus on whether Monsanto in fact knew it was dangerous and used expert opinions to improperly sway public opinion. Evidence includes damaging emails. If you use the $78.6 million in damages awarded to a groundskeeper last year in a separate California case as a benchmark, the liabilities from all of those lawsuits would easily swamp Bayer’s market value. Most analysts think a settlement of $5 billion to $6 billion is more likely.If that’s the worst of it, then the nearly $40 billion wipeout in Bayer’s market value since the Monsanto deal closed in June seems overdone. But the snowballing criticism of Roundup risks undermining the strategic logic of a combination designed to capitalize on growing demand for productivity-boosting crop-control products. While Baader Research estimated last year that glyphosate accounted for only about 2 percent to 3 percent of Bayer-Monsanto’s combined earnings, Monsanto’s seeds modified to resist the weed killer could also become less valuable. Bayer recently won EPA renewal for another product based on a different Monsanto herbicide that’s meant to treat weeds that have grown resistant to glyphosate, but faces ongoing legal challenges that could dent its reported $1 billion in annual sales, too. 

Then there’s FedEx. The package-delivery company cut its fiscal 2019 guidance yet again amid slumping demand in the European market it bet big on with the $4.4 billion takeover of TNT. After getting sidetracked by the fallout from a 2017 cyberattack on TNT’s antiquated IT systems, FedEx said this week that it now expects cumulative integration costs to exceed $1.5 billion and for the work to stretch into fiscal 2021 – or up to five years after the deal’s close. The company touted the fact that as of Feb. 6, it can now inject legacy FedEx intra-European shipments onto TNT’s road network and improve transit time by at least one business day on average on 40 percent of routes. Hooray?

The risks around both of these big deals were known before the ink was dry on the merger agreements. In the case of Monsanto and Roundup, an arm of the World Health Organization classified glyphosate as a probable human carcinogen back in 2015, which opened the door to the lawsuits. As for TNT, six months before FedEx announced the deal, an analyst called TNT’s home European markets “chronically weak” and its restructuring charges “eye-watering.” TNT’s CEO talked in 2013 about needing to invest in its computer systems. But buyers and Bayers and FedEx’s always think they know best.   

THE HITS JUST KEEP COMINGThe controversy around Boeing Co.’s 737 Max jet has taken on an increasingly political – and now criminal – tone. The Transportation Department’s Inspector General’s office, the Justice Department’s criminal division and the Federal Bureau of Investigation are reviewing how the plane was certified and whether pilots were properly informed of new flight-control software that’s thought to be a factor in both fatal crashes of the Max. The Federal Aviation Administration has long outsourced certification work to the manufacturers in an effort to keep up with the demands of the industry and manage budget concerns, but the regulator has handed more and more authority to the planemakers over the years – in hindsight, too much. At least a portion of the flight-control system in question was reportedly certified by one or more Boeing employees through outsourcing agreements, and a Seattle Times investigation published this week found that the safety analysis submitted as part of that process had serious flaws. Meanwhile, China, which was the first country to ground the Max after the Ethiopian Airlines crash, is considering dropping the plane from purchasing promises it’s made in an effort to balance the trade gap with the U.S. This is most certainly posturing. Commercial Aircraft Corp. of China’s C919 jet is still years away from FAA and European approval, so it’s unlikely to be a true competitive threat to the Max on the global stage in the near term, as my colleague David Fickling notes. But it could eventually command a meaningful market share at home and it’s in China’s interest to breed what seeds of doubt it can about both Boeing and the FAA and to attempt to bolster its newfound reputation as a champion of safety. The bigger risk for Boeing is that China’s caution gives other foreign airlines cover to rethink orders, especially those that may have been too aggressive in the first place. Lion Air intends to drop a $22 billion order for the Max, while Indonesia’s flag carrier PT Garuda Indonesia said Friday that it will meet with Boeing about pulling its order for 49 jets. RESHUFFLING THE DECK3M Co. this week announced it would shrink its five operating segments down to four and reorganize its businesses based on the customer they serve. This “realignment” removes some obvious oddities such as pairing graphics with safety gear, but it also has the effect of rather conveniently spreading the automotive exposure that’s been a particular pain point for 3M across three divisions. With 3M increasingly likely to cut its 2019 guidance yet again, Gordon Haskett’s John Inch says investors may interpret this reorganization as an attempt to reduce disclosure and mask operational shortcomings. In contrast, the business-unit shakeup Roper Technologies Inc. announced earlier this month has been a long time in the making and is the logical conclusion of its dramatic transformation from a valve maker into a software-focused cash machine. These organizational rethinks are likely to shake out some ill-fitting assets at both companies. In particular, Roper’s legacy energy-equipment business looks even more marginalized now that it comprises its own division. The unit accounts for only 13 percent of Roper’s overall revenue and it’s the only division that’s expected to see a decline in organic sales this year. It could be a good fit for a private equity firm. DEALS, ACTIVISTS AND CORPORATE GOVERNANCESiemens AG is reportedly in talks to combine its large gas turbine business with that of Mitsubishi Heavy Industries Ltd. Options include a full or partial sale of the Siemens division, or the creation of a joint venture where Siemens would hold a minority stake. Reuters reports that Siemens wants to have something ready to present to investors when it holds its capital markets day in May. A Siemens-Mitsubishi alliance has been speculated for some time, as Siemens looks for ways to offload the struggling business amid signs the market for gas turbines won’t recover any time soon. GE said this month that demand for gas turbines will remain in the 25 to 30 gigawatt range for the foreseeable future, down from 48 gigawatts in 2016. Speaking of GE, a merger between its two biggest competitors would be a blow to CEO Larry Culp’s efforts to put the company’s power unit on more stable footing. One of the more optimistic lines of thought on a GE power turnaround was that given Siemens and GE’s lock on a majority of the market share for gas turbines, as long as both held firm on pricing, it didn’t matter so much what Mitsubishi did. That theory would no longer hold should Mitsubishi become the one calling the shots on Siemens’s gas turbine business. Recall that McCoy Power Reports data showed Mitsubishi leapfrogged Siemens in 2018 to clinch the No. 2 share of orders for the first time. There’s since been some pushback on how real the orders underlying that calculation actually are. But clearly, Mitsubishi is of a mind to compete. Roper this week announced it would acquire British visual-effects company Foundry Visionmongers Ltd. for 410 million pounds ($540 million). Foundry provides 3D compositing and editing tools to the media and entertainment industry and its technology was used in films such as “Avatar” and “Peter Rabbit.” Roper is paying Hollywood prices to acquire it: the purchase price is more than seven times Foundry’s expected revenue over the first year of ownership. According to Sky News, the bidding process was competitive, with Roper beating out interest from Goldman Sachs Group Inc. and investment-management company Atairos. Its the biggest deal announced by new CEO Neil Hunn since he took the reins in September, and it should be a comfort to investors that the takeover, while pricey, fits the mold crafted by his visionary predecessor Brian Jellison. Foundry has a growing business with a loyal customer base that fits Roper’s focus on niche software markets. BONUS READINGBig Is Better for Detroit, But for How Long?: Liam DenningBuffett's Course Reversal on Airlines Sparks Talk of AcquisitionManufacturing Slump Deals Another Blow to Europe’s Economic OutlookHyundai's Hopey Changey Years Look Far Away Now: Anjani Trivedi

If you’d like to get these weekly industrial insights delivered to your inbox, please email me directly at bsutherland7@bloomberg.net, and ask to join the list. Thanks!

To contact the author of this story: Brooke Sutherland at bsutherland7@bloomberg.net

To contact the editor responsible for this story: Beth Williams at bewilliams@bloomberg.net

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. She previously wrote an M&A column for Bloomberg News.

For more articles like this, please visit us at bloomberg.com/opinion

©2019 Bloomberg L.P.