To diversify or not to diversify? For corporations in pursuit of a sound acquisitions strategy, this is indeed the eternal question. Traditional wisdom holds that diversification offers protection against the vagaries of the business cycle. But throughout the mergers-and-acquisitions boom of the 1990s, the business cycle seemed to have disappeared and a relentless focus on core competencies was all the rage. Diversify if you must, the markets urged, but only if you can demonstrate synergies between businesses as you do so.
Few companies mastered this feat as well as The Walt Disney Co., whose move into television broadcasting made it the very model of a synergistic conglomerate. Of course, such companies used to be called vertically integrated, and everyone who has forgotten the risks inherent in such structures could learn a lesson from Disney’s recent troubles in the capital markets. These days, diversification is back in favor. But as with “synergies,” the advantages of diversifying aren’t always what they seem, especially in the wake of September 11.
To be sure, Disney managed to raise $1 billion in two- and three-year notes the first day the markets reopened after the attacks. But roughly $200 million of the debt was initially left in the hands of Goldman Sachs, which underwrote all but 3 percent of the deal. Not surprisingly, some three weeks later, Disney enlisted the help of nine underwriters besides Goldman to raise another $830 million in yen-denominated medium-term notes, and in mid-October used six banks for $275 million in 30-year bonds aimed at individuals.
The more underwriters an issuer needs, of course, the more it pays in fees. And Disney’s capital requirements remain considerable: It must finance the acquisition of Fox Family Worldwide, a cable TV operation, for $5.2 billion in cash and assumed debt. Yet even before the terrorist attacks, Disney’s two most important business segments, theme parks and television advertising, were suffering. And while the prospects of both have since shown some improvement, Disney’s difficulties have nonetheless led to its first credit downgrades since 1996, when it borrowed heavily to finance the acquisition of Capital Cities/ABC.
“Most investors thought Disney was well diversified,” notes Glenn Eckert, a senior analyst for Moody’s Investors Service. But he says the attacks, along with the economic downturn, have revealed how closely correlated the travel and entertainment businesses can be. Yet anyone who took Disney’s own discussions of its strategy seriously shouldn’t have been surprised, as success was predicated on each of its business segments, in effect, feeding the others. CFO Thomas Staggs recently told Bloomberg News Service that the company was comfortable with its balance sheet and liquidity.
At first glance, Disney’s problems seem to suggest that companies are better off diversified. Yet the poster company for diversification–General Electric–got hammered along with the rest of the market in the wake of the terrorist attacks, even though it went to great lengths to distinguish the “short-cycle” businesses within its variegated portfolio from those considered “long cycle.”