(Bloomberg Opinion) -- It was the biggest hostile bid in the U.K. in almost a decade and it succeeded by the narrowest of margins. Turnaround specialist Melrose Industries Plc snared British engineer GKN Plc in an $11 billion deal last year, with investors on both sides well aware the struggling aerospace and automotive company harbored untapped potential.
Results since the completion have provided the proof. But the tangible benefit to Melrose shareholders remains elusive.
The market isn’t giving Melrose any credit for this acquisition so far. The stock’s total returns since the ambition to buy GKN became public are minus 5%, according to Bloomberg data. The notional value creation from the part-stock, part-cash deal has gone entirely to GKN investors in the premium paid. If we assume GKN shareholders kept the Melrose shares they received in the takeover and reinvested the cash in the turnaround company’s stock, their total returns are roughly 25% over the same period.
It’s not that things are going badly operationally. Melrose’s latest results showed GKN’s aerospace business growing underlying operating profit rapidly in the first half of 2019. Volumes in GKN’s automotive components business dipped given the weakness of its markets. Impressively, the unit’s margins held firm as cost cutting completely offset the impact.
The remedies aren’t rocket science and could have been pursued by GKN itself as an independent company. It’s less clear whether this would have happened as aggressively without external managers taking charge. Melrose has been surgical in cutting jobs at all levels. All but the smallest capital expenditure projects are now centrally policed. Procurement has become ruthlessly efficient. The upshot is a better performing business and Melrose now running with less leverage than investors had feared.
Still, Melrose can only control what it owns. The macro environment for the automotive sector remains tough. The powders business, originally destined for disposal, couldn’t find buyers and its performance has deteriorated. Melrose appears stuck with it. The group’s share price is highly susceptible to tweets from the White House that escalate trade tensions with China.
The latest results remove some worries about the progress of what is Melrose’s biggest ever industrial project. The task now is to prove that there’s more to GKN than plucking the low-hanging fruit from a previously under-managed business. Shareholders must hope that in the next few years the trade war eases and the automotive cycle turns. This was going to be a four to five year project. Melrose will need the time.
To contact the editor responsible for this story: Stephanie Baker at stebaker@bloomberg.net
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Chris Hughes is a Bloomberg Opinion columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.
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