Shares in two of Britain's biggest engineers received a much-needed lift after it emerged that an increasingly influential US hedge fund has been stake-building with a view to pushing for corporate change to enforce savings and the divestment of non-core operations. Just days after San Francisco-based ValueAct became the largest shareholder in struggling Rolls-Royce (RR.), rumours spread that it also capitalised on Smiths Group's (SMIN) depressed share price by buying a 5 per cent stake.
ValueAct, which has traded in and out of Rolls for more than a year, purchased a 5.4 per cent holding one day after the engine manufacturer reported a 57 per cent drop in half-year profits. Having already slashed forecasts three times in nine months, those results sent shares plummeting to their lowest level in three years as the group continues to struggle with a weak oil price and difficulties in its main aero engines business.
But news of ValueAct's plans to push for accelerated cost cuts and divestment of its non-aero-engine business subsequently sent disgruntled investors into a state of optimism that precipitated shares rising 6 per cent on each of the following two days. Reports suggest the activist investor's decision to up its stake was also made after researching the career of new Rolls chief executive Warren East.
But not everyone is convinced that this latest development can spark a welcome turnaround at Rolls. Alex Schlich, a UK equity fund manager at Sanlam Four, says he and his team are "reviewing" their position in the stock as ValueAct's intervention had "raised questions that we are looking into".
Besides recent profit downgrades, Mr Schlich says communication had "not been good", leading to "question marks about their ability to forecast and how well their own financial models work to predict profitability." He added that activist investors, when not working "purely in their own interests", can challenge bosses to make changes that lead to improved performance. As of the end of June, the group's £135m Active UK Equity fund had a 3 per cent position in Rolls.
Activist investors aren't new to fellow struggler Smiths Group, whose shareholder register already includes the likes of Harris Associates and RWC. Nevertheless, when word spread that the same ValueAct had since moved to buy a 5 per cent stake in the engineering conglomerate, markets were sufficiently buoyed enough to send shares up by the same amount.
Smiths, which has been battling with slumping demand from commodity customers and reduced government spending, has seen its share price nosedive of late. Aside from a tough macroeconomic backdrop, many blame its difficulties on the lack of harmony between its five divisions. While waiting for its new chief executive to take the reins in September, the response has been to trim costs and streamline operations, a strategy that could be accelerated should ValueAct's 5 per cent stake be true.
According to the Financial Times, the activist investor views Smiths' floundering medical devices business and John Crane seals segment as candidates for merger and acquisition activity. That could finally confirm the break-up of the conglomerate, which has twice tried unsuccessfully to dispose of a medical unit that has come under fire from budget constraints in US healthcare.
When outgoing chief Philip Bowman took over Smiths in 2007 he had been expected to break up and streamline the company. But those plans were scuppered by the size of the UK pension deficit and the group's asbestos liabilities. But rising interest rates could help shrink the pension deficit further, spurring hope that the long-awaited restructuring plans may go ahead when Andrew Reynolds Smith starts his new role.
ValueAct is well-regarded for the key role it played in shaking up Microsoft Corp's management. Run by its founder Jeff Ubben, the $18bn (£11.6bn) hedge fund touts itself as an investor that works constructively with management and company boards to maximise shareholder returns.
