Conglomerates used to be the natural path forward for the dynamic founder/owner companies of the late 19th and early 20th century. Founders and their family trusts built on the success of the original business, while adding on newer, trending technologies or companies, building up dynastic empires. This basic approach let the family trust ingest, grow, digest, and potentially disinvest businesses while maintaining a self-stabilizing, multi-legged portfolio of more or less controlled companies. The method often survived the initial public offering, even when the founders became minority shareholders eventually.
Investors liked the properties of these conglomerates for the same reasons the trust managers did. So what happened that made the conglomerate fall from grace?
A key argument often quoted is that investors prefer to make their own, highly individual investment decisions and therefore, do not like the ready-made mix of businesses and assets buried inside the conglomerate. But honestly: why are Exchange Traded Funds (ETF) proliferating then? No, the majority of investors do not want to think about their investment portfolio every day. For them, it is just a question whether to buy mutual funds, ETFs, or, well conglomerate stocks.
And here is the catch. Fund managers of actively managed funds hate conglomerate stocks since those are competition. They also hate ETFs since there is no hefty management fee in those. And on top, ETF's reflecting equity indices - and that is still the most common type - overweigh large companies, and those tend to be conglomerates. At the good old times, when banks made money from interest margins, it was a great idea to sell a customer some long haul bluechip stock, tieing up as much of his capital as possible. That allowed to extend credit lines for mortgage-backed assets and Lombard loans, while the stock deposit fees and brokerage fees were hardly counting anyhow. But with today's interest levels and especially since the advent of ETFs, banks hate conglomerates and use every means and channel to talk them down.
But before that bluechips worked, because they were great. Amongst others, here are the two things that bluechip conglomerates had, that smaller or more specialized companies did not have. First of all, size. The financial firepower, huge undervalued real estate assets in the books, and the relative stability, as mentioned above, gave the conglomerates excellent credit ratings, often the ability to run their own in-house bank, and an amazingly low weighted average cost of capital (WACC). The latter was essential to finance growth, whether through aggressive M&A or by conquering new geographies.
In both cases, the WACC presented a substantial strategic asset, allowing to outcompete specialized players and local firms alike. Take this example: a local company tries to establish itself in a developing country market place. Shoring up working capital and financing adverse payment terms costs them say 15%. In rides our conglomerate leveraging its global WACC of say 9%. In spite of limited local knowledge and more expensive products, international mega-players used to outdo the domestic competition, by offering aggressive payment terms.
The same reason that forces banks to live off something else than interest spread has devalued this particular conglomerate advantage: we live in a low-interest world. And that seems not to change anytime soon. Additionally, the ailing banks have - rightfully so - fought against the industrial shadow banking, especially since it did not adhere to the various Basel Accords on banking regulations. General Electric is the perfect example.
The other significant conglomerate advantage that went away was the application of management methodology and infrastructure that smaller players could not access: advanced reporting systems, sophisticated treasury operations, worldwide logistics, real-time optimization. But all those things have been democratized through digitalization. Rolling out a neat CRM system is no longer a vast corporate effort, but rather a quick cloud-based play. Logistics can be outsourced to online retailers like Amazon, and Forex management has become a lot easier with state of the art online money transfer services. A lot of the secret sauce hidden in enterprise management systems of conglomerates has become ubiquitous and supported by Artificial Intelligence (AI). That also devalues the human resource advantage the bluechips used to have. To put it bluntly: you can start up a business, get finance and collect cash, register, brand it, access the market and outsource production and most admin without the expensive superhero teams that only conglomerates were able to attract in the good old times.
The old conglomerates are dead. Let's see what happens to dynamic founder/owner companies of today, once they reach the stage, where a hundred years ago, the transition to conglomerate would have happened.