Does 1 + 1 = 1.5 or 3?

Conglomerate sector stocks are generally out of favor and trade at discounts to the value of their underlying businesses. Companies that focus on one industry are generally in favor. But in its regular feature ‘The Back Page’, The Investment Reporter maintains ‘Buy’ recommendations on the seven best conglomerate stocks to invest in.

Companies often try to justify acquisitions with what they like to call ‘synergy’. The idea is that putting together two or more businesses will make each one more profitable than it would be on its own. That is, synergy means one plus one equals three.

But try telling that to the managements of some conglomerate stocks that operate in a variety of industries. In recent years, conglomerates have generally fallen out of favor. Many trade with what’s known as a conglomerate discount—or for less than the combined worth of their underlying businesses. That is, most conglomerates face the opposite of synergy, where one plus one equals one-and-a-half.

At the same time, what the market likes to call ‘pure plays’ have gained favor. That’s because these companies can earn high profits by focusing on one industry they know well. This beats scattering their capital across far-flung industries that a distracted management doesn’t truly understand. Besides, investors can diversify their portfolios as they see fit. They don’t need conglomerates to do it for them.

Some conglomerates have disappeared

To eliminate the conglomerate discount, some conglomerates have dismantled themselves. Former Key stock Canadian Pacific, for example, broke itself up into Key stock Canadian Pacific Railway, CP Hotels (now part of Fairmont Hotels & Resorts), CP Ships (now part of Germany’s TUI AG), Fording Coal (now part of Key stock Teck Resources) and PanCanadian Energy (now part of Key stock Encana Corp.). This made a lot of money for shareholders who bought Canadian Pacific before the breakup.

Similarly, Molson Inc. got rid of its many retail operations as well as money-losing chemical company Diversey Corp. Now Molson is part of Molson Coors Brewing, of course. It focuses on beer.

7 conglomerate stocks to buy

Despite the fact that conglomerates are generally out of favor, there are seven that we rate ‘Buy’ on The Back Page. These include Key stocks ATCO Ltd. (TSX—ACO.X), The Walt Disney Company (NYSE—DIS), Fortis Inc. (TSX—FTS), General Electric (NYSE—GE), Power Corporation of Canada (TSX—POW), Toromont Industries (TSX—TIH) as well as non-Key stock Power Financial Corporation (TSX—PWF).

Families control conglomerates such as ATCO Ltd., Power Corporation of Canada and its subsidiary, Power Financial Corp. A plus with a family-controlled company is that they can focus on the company’s long-term welfare. They’re free from slavishly trying to meet the market’s expectations in their next quarterly report.

The conglomerate stocks we rate ‘Buy’ all pay dividends. And most have regularly raised their dividends through most of their histories.

 

The Investment Reporter, MPL Communications Inc.
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