Acquisitions and Corporate Growth
Acquisitions and Corporate Growth
Harvard Business School 9-389-186 Rev. December 16, 1998
C.W. Moorman, MBA 1989, and Professor Cynthia A. Montgomery prepared this case, in collaboration with Professor Michael E. Porter as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation.
Copyright © 1989 by the President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School.
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Masco Corporation (A)
Masco Corporation recorded its twenty-ninth consecutive year of earnings growth in 1985. On Wall Street, the firm was gaining a reputation as the “master of the mundane,” because of its ability to earn well-above-average profits in consumer industries that were neither high-tech nor glamorous. Included among Masco’s brand-name products were Delta, Delex, Peerless, Artistic and Epic faucets; Merillat kitchen and bathroom cabinets; Weiser and Baldwin locks and building hardware; Brass-Craft and Plumb Shop plumbing fittings; Thermador/Waste King appliances; and Aqua Glass bath and shower enclosures.
Based on internal sales forecasts, Masco expected to generate nearly $2 billion in excess cash flow from 1985 to 1990. Management planned to use these funds to expand into new consumer product markets, moving beyond the kitchen and bathroom to other areas. The theme was “great products for America’s great homes.”
In 1986, Masco management was eager to translate this vision into reality. The $14 billion household furniture industry represented the single largest category of products for the home. Masco had to decide whether it represented an attractive area for diversification.
Metalworking
Masco (originally Masco Screw Products Co.) was founded in December 1929 in Detroit, Michigan, by Alex Manoogian, along with two partners who left during the first year of business. Opening six weeks after Black Tuesday, the day Wall Street collapsed, Masco had a lean start. Manoogian, an Armenian immigrant, saw the firm through this difficult period, in part to gain the financial security he would need to help his tightly knit family escape political and economic oppression in Eastern Europe.
Masco’s first products were machined automotive parts sold to the automobile OEMs. It produced high-volume parts in a business that was highly competitive and cyclical. Able to distinguish itself by superior service in a commodity market, Masco was profitable (although it remained small) through World War II and into the early 1950s.
During the next three decades, Masco built a broad base of metalworking capabilities, including machining; coining; stamping; cold heading; forging; hot heading; powdered metal forging; forming, bending, and shaping; cold and warm extrusion; and heating and welding. These
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389-186 Masco Corporation (A)
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manufacturing processes were supported by metallurgical engineering and technical staffs with substantial experience in product design, tooling and machine design, machine automation, and statistical quality assurance.
Masco believed that the breadth of its metalworking expertise was unparalleled by any other industrial company. Diversification decreased dependence on outside suppliers, while enabling it to offer its customers a single source for finished components, a capability Masco believed would be increasingly valued by its automotive, truck, diesel locomotive, and other industrial customers.
In the mid-1970s, the firm also diversified into specialized metal products for oil, gas, coal, and other natural resource exploration and production. In entering these markets, Masco targeted segments in which quality and performance were more important to the customer than price.
Faucets
In 1954, Masco obtained a contract to manufacture parts for an early type of a single-handle faucet. The product met with some initial success, but design problems soon caused it to become a commercial failure. Drawing on his many years of metalworking experience, Alex Manoogian redesigned the faucet and obtained a license to sell the improved version. After trying unsuccessfully to interest several plumbing manufacturers in his patented design, Manoogian set up Delta, his own marketing and sales organization, to distribute the faucet under that name. Sales were made to large wholesale distributors that, in turn, sold to commercial plumbing supply houses.
In 1956, the U.S. faucet industry was highly fragmented, with a general lack of brand recognition, minimal advertising, and a low level of salesperson training. Delta faucets were quickly accepted due to their technical superiority, particularly for kitchen use, where utility and maintenance-free operation were very important. By 1958, sales of Delta faucets had grown to $1,000,000. The company built a new faucet manufacturing plant in 1959 in the small town of Greensburg, Indiana. In 1961, Masco made its first acquisition, Peerless Industries, a manufacturer of plumbing valves and fittings, in order to broaden its manufacturing capabilities in plumbing products. By 1962, sales of faucets totaled $7,000,000 (60% of total Masco sales), with an after-tax profit margin of about 10%.
Masco gradually broadened the Delta product line and then, in 1971, introduced the Delex line of two-handle faucets. This design, also patented, employed a new type of valve, which eliminated rubber washers, the major cause of faucet failure. The Deltique line, introduced in 1977, was the first of several brands aimed at the upper end, high-style decorator faucet market.
In the late 1960s, the do-it-yourself (DIY) market was growing faster than the new construction market, and it was somewhat countercyclical to new construction sales. In 1969, Masco introduced a new faucet brand, Peerless, targeted specifically at the DIY market. The Peerless line featured innovative see-through packaging and a no-tools hook-up system, which had broad consumer appeal. DIY products were sold directly to retailers such as hardware stores, home improvement centers, and large chains such as Sears and K-Mart. Entering this market required a broadening of Masco’s traditional faucet distribution channels, which had consisted mainly of plumbing wholesalers. In 1985, there were more than 40,000 retail outlets for DIY products in the United States, compared with approximately 4,000 plumbing wholesalers.
As the DIY market grew, Masco expanded and refined its Peerless line and entered other DIY markets through several acquisitions. By 1983, DIY product sales accounted for more than 30% of Masco’s building and home improvement product sales and more than 50% of its faucet sales.
In the 1970s, Masco greatly increased its emphasis on marketing. Breaking with industry tradition, it expanded market research, increased advertising, and placed greater emphasis on
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Masco Corporation (A) 389-186
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merchandising and retailer training. In 1975, Masco pioneered the first national television advertising for faucets. By 1981, the firm claimed that it spent more for faucet advertising than all other faucet makers combined. It was the only plumbing-related sponsor of the 1984 Olympics.
Masco also devoted considerable resources to programs for the trade. They included numerous seminars for plumbers and plumbing suppliers to teach them how to install, service, and sell Masco products. The company instituted a “Good/Better/Best” merchandising program for merchants, offering a range of products with varying price points, special packaging, and point-of- sale displays. Masco claimed the best delivery time in the industry, a maximum of 48 hours from order to delivery, made possible by carrying an in-depth factory inventory.
Masco was vertically integrated into the manufacture of key faucet components. Faucet production was highly automated, and labor costs represented about 20% of total costs. Purchasing and inventory systems were also automated, and Masco had ongoing programs for cost reduction and value analysis.
By 1985, Masco was the largest U.S. faucet manufacturer, with an estimated 36% share of a 25-million-unit market. A small quantity of its faucets were sold in Denmark as Damixa and in Italy as Mariani. Masco also distributed faucets through its 44%-owned affiliate Emco, Ltd. of Canada.
Acquisitions and Corporate Growth
Alex Manoogian was Masco’s only operating officer when his son, Richard, joined the firm in 1959. Having just graduated from Yale, where he had studied economics, Richard began his career at the Greensburg faucet plant. As the firm’s number two manager, Richard was soon responsible for overseeing operations and, most importantly, for reinvesting the profits generated by Delta faucets.
In 1961, with the help of Smith Barney, Masco raised new capital through debt and equity offerings. Added to the cash flow from the faucet operations, these funds supported an aggressive growth program. Masco used these funds to expand its core metal-forming business and to enter new lines of business. (See Exhibit 1.) Management outlined the firm’s mission in the 1978 annual report: “We are a manufacturing company, not financial managers seeking to deploy assets into motion pictures, insurance, fast foods, or other businesses where financial return is the principal criterion. Masco manufactures, at a relatively low unit cost, mass-produced engineered products, utilizing our diverse metalworking capabilities.”
In selecting industries to enter, Masco intentionally avoided high-growth ones. Instead, it sought markets in which change had been slow and evolutionary and where competition was more fragmented. When evaluating firms within these industries, Masco stressed that their products should be capable of supporting proprietary market positions. They could include “demonstrably superior design and utility, a unique distribution and/or service capability, or the effective integration of many capabilities which, when combined, [offered] compelling advantages and premium value to the customer.”
Most of Masco’s acquisitions were privately held firms with strong market positions, often generating profits two to three times higher than typical companies in their industries. Once acquired, Masco generally left the company’s management team (which often included the founders) in place, frequently awarding them Masco Corporation stock options. Corporate controls were implemented, but Masco’s management felt it was important to “encourage an entrepreneurial management style” with “a minimum of corporate operating constraints.” Ordinarily, division heads had only one annual formal meeting with corporate officers and were encouraged to act autonomously. Incentive programs were designed to reward innovation and new product development, as well as above-average performance. Masco took pride in its record of having never lost a management team from any of its acquisitions.
For the exclusive use of M. Adams, 2019.
This document is authorized for use only by Michaela Adams in MBA 6202 Strategy-F19 taught by CANDACE TENBRINK, University of Houston – Downtown from Aug 2019 to Feb 2020.
389-186 Masco Corporation (A)
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Restructuring
By the early 1980s, Masco’s corporate sales had reached $1 billion. Since its 1929 founding, the company had diversified into three primary areas of business:
• Building, Home Improvement, and Other: Faucets, plumbing fittings, bathtubs and whirlpools, builders’ hardware, steel measuring tapes, venting and ventilating equipment, insulation products, water pumps, weight-distributing hitches, winches, office furniture, brass giftware, plasticware and scanning monitors.
• Oil-field and Related Products: Oil-field equipment and drilling tools.
• Transportation-related products: Cold-extruded power transmission shafts, precision hot-headed products, special fasteners, gear shift levers, and engine exhaust systems.
According to CEO Richard Manoogian, one byproduct of this diversity was that outside observers found the company complex and difficult to understand, causing confusion in the financial community. In the 1960s and early 1970s, Masco stock sold at 150% to 200% of the Standard and Poor’s price-earnings ratio average. Further, Masco’s proprietary consumer-related products consistently reported higher growth and higher profits than its cyclical industrial products. Management concluded that it was no longer in the interest of either group to manage them as one company.
Masco undertook a major corporate restructuring in 1984. It transferred industrial products to a newly formed subsidiary, Masco Industries, Inc., with a book value of approximately $440 million, in exchange for $320 million in Masco Industries’ subordinated debentures and all of its common stock. Masco Corporation then distributed 42% of the shares as a special dividend to its shareholders, making Masco Industries a separate publicly owned company.
Following the restructuring, Masco Corporation would concentrate on proprietary products for the home and family, and Masco Industries would focus on custom-engineered components and specialty industrial products. Each would be free to formulate appropriate goals and strategies for its businesses. Selected income statement and balance sheet information for Masco Industries and Masco Corporation is given in Exhibits 2 and 3.
Masco Corporation in 1986
In 1986, Masco Corporation’s vision was to be the “Procter & Gamble of consumer durables,” with its existing brand-name products forming the core of this strategy (Exhibits 4 and 5). Further expansion would be directed to other consumer durables markets in which the firm could compete in differentiated niches.
At the January 1986 National Home Builders’ Exhibition, Masco displayed its products in one exhibitthe show’s largest display space devoted to a single company. The theme of the exhibit was that Masco’s prominent brand-name products had the style, functional appeal, and perceived value necessary to influence consumer buying decisions. The products featured were Merillat kitchen and bathroom cabinets; Thermador/Waste King appliances; Brass-Craft plumbing products; Baldwin decorative hardware; Weiser locks and security systems; Aqua Glass tubs, showers, and whirlpools; Auto Flo humidifiers; and Delta, Artistic, and Epic faucets.
For the exclusive use of M. Adams, 2019.
This document is authorized for use only by Michaela Adams in MBA 6202 Strategy-F19 taught by CANDACE TENBRINK, University of Houston – Downtown from Aug 2019 to Feb 2020.
Masco Corporation (A) 389-186
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In entering new markets, management hoped to leverage its ability to innovate, broadly defined from product design to final sale. Historically, in faucets and metalworking, Masco had spent the equivalent of 2% of sales on new product and process development. Technical advancements for these businesses also came from Mechanical Technology, Inc. (MTI), a technology contract research firm in which Masco owned a 37% interest. MTI employed over 300 engineers in a variety of disciplines.
Masco hoped also to leverage its manufacturing ability. Dun’s Business Month noted that the firm was “not only the leader in virtually all its markets, but the most efficient producer” as well. According to that 1986 issue, Masco had been long-regarded as a “state-of-the-art manufacturer” with a heavy investment in specially designed and automated production machinery.
Finally, Masco hoped to leverage its skills in consumer marketing. First initiated in its Delta division, the firm’s marketing strategy was built on the concept of “power marketing.” Masco’s 1985 annual report defined power marketing as “the marshalling of all aspects of the marketing function in a coordinated and focused fashion.” The individual functions included market research, merchandising and training, advertising and communication, product development and market segmentation, and product engineering and manufacturing.
Masco’s business units were autonomous. To preserve a sense of fluidity, the firm chose not to have a formal organization chart. However, similar businesses were grouped together, under the leadership of a group president, to facilitate communication and exchange. Although Masco did not have specific programs for sharing skills, it encouraged individual managers to exchange ideas and resources across businesses.
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