How to fix Fletcher Building
The best option for construction giant would be to either break up the company or sell non- core assets
Fletcher Building chairman Sir Ralph Norris scored an A+ for crisis management at this week’s annual meeting but he failed to answer the following key questions: Why were the directors unaware of the risks associated with major construction contracts and does Fletcher Building have a prosperous future as a diversified conglomerate?
Sir Ralph opened Wednesday’s meeting shortly after 10.30am with the warning that there were time constraints and he may not be able to answer all questions. He added that the length of questions might have to be reduced, also because of time constraints. This is the first law of crisis management, talk about time constraints and then follow with a long address that takes up a large proportion of the time available.
This approach is inconsistent with Fletcher Building’s claim that it is always willing to listen to and engage with shareholders.
Sir Ralph’s prepared speech, which didn’t finish until 11.24am, was superb in terms of style and presentation. It was also a major mea culpa as he told shareholders: “At this point I want to offer my personal apology to shareholders. Mistakes have been made and responsibility ultimately rests with the board. As we stated at our full- year results briefing, we fully accept this responsibility.”
He went on to say: “We acknowledge that the issues with the company’s performance have impacted our shareholders’ investment. Accordingly, the board has resolved to reduce all directors’ fees by 20 per cent for the next 12 months, with immediate effect.”
Although the chairman’s address was long and detailed he didn’t adequately explain why Fletcher companies continue to shoot themselves in the foot and destroy substantial shareholder value.
These problems go back a long way and are clearly related to poor strategic decisions at the board table.
Fletcher was struggling to establish a clear long- term strategic plan before 28- year old Hugh Fletcher was appointed deputy managing director. He replaced his father Sir James Fletcher as managing director in 1979.
Under Hugh Fletcher’s stewardship the group established a statement of purpose with the prime objective to build a vertically integrated business from raw materials, such as forests, through to manufacturing, retailing and the use of these products in residential property developments and construction activities.
This made a great deal of sense but the company quickly strayed from its core objective by acquiring Tasman Pulp & Paper, partly for its tax losses, and merging with rural servicing company Challenge Corporation. The merged group, which changed its name to Fletcher Challenge, had evolved into a diversified conglomerate instead of a vertically integrated business.
Diversified conglomerates were hot on Wall Street in the 1960s but they fell out of favour for several reasons including: They are difficult for boards to monitor because they contain businesses operating in several different industries. They can lack focus and the value of a conglomerate is often worth less than the sum of its parts. Directors and senior managers can be forced to focus on poorly performing businesses while neglecting other operations. Conglomerates have additional layers of costly management. Their accounts are complex and more difficult to analyse while also making it easier for management to hide problems. Culture clashes can be a major issue. Nevertheless, Fletcher Challenge continued to diversify into new sectors, including energy, while the acrimonious culture conflict between Sir Ron Trotter of Challenge Corporation and Hugh Fletcher had a negative impact on the group’s effectiveness and cohesion.
The company was split into four separate NZX- listed entities: forests, paper, building and energy, but origi- nal shareholders lost significant value as most of these businesses either underperformed or were sold to overseas interests at low prices.
Attempts were made to sell Fletcher Challenge Building but it failed to attract an acceptable offer.
A newly- formed Fletcher Building acquired the assets of Fletcher Challenge Building with the former listing on the NZX in March 2001.
The newly listed group was vertically integrated with activities in building products, concrete, construction and distribution, mainly through Placemakers.
By mid- 2001 its chairman was Sir Roderick Deane, Ralph Waters was managing director and Hugh Fletcher and Sir Ralph Norris were nonexecutive directors. Sir Ralph left the board in August 2005 but returned in
April 2014. The company remained a vertically integrated business until it made several offshore acquisitions, particularly Formica and Crane Group. These acquisitions transformed Fletcher Building from an integrated business to a diversified conglomerate.
Diversified conglomerates haven’t been a success in New Zealand, mainly because of the disadvantages noted above. In addition, our companies are usually diversified globally, as well as across different business sectors.
Meanwhile, back at this week’s annual meeting Sir Ralph finished his prepared address at 11.24am and im- mediately moved to the election of directors. This is another effective crisis management strategy as it delayed the first question on the company’s performance until 11.56am.
Bruce Hassall, who was standing for the board for the first time, told shareholders that he was the CEO and a senior partner of PwC New Zealand with a wealth of experience in a wide range of activities. He said that he “had seen it all” and gave a clear indication he would spot potential problems although there was “no quick fix” for Fletcher Building’s troubled construction division.
Hassall, and many other individuals seeking board seats, emphasise their wide range of experience when shareholders would prefer more directors with specific industry expertise. This emphasis on wide experience, rather than specific industry expertise, means that our boards are dominated by accountants, lawyers, financiers, management consultants and technology specialists rather than experts in cement, steel, construction, building products and large- scale distribution.
Consultants who have presented to the Fletcher Board relate that the company’s directors don’t seem to have deep industry knowledge, their expertise is more one metre deep and a kilometre wide, rather than the other way around.
By contrast, the NZX’s most successful entrepreneurial companies, Ryman Healthcare and Mainfreight, are vertically integrated businesses with boards of directors containing extensive industry expertise.
Ryman chairman David Kerr has been a director for more than 20 years, while founder Kevin Hickman joined the board in 1991. Both individuals focus on Ryman Healthcare and are directors of many of the company’s individual villages.
Mainfreight chairman Bruce Plested has been on the board for nearly 30 years, managing director Don Braid was appointed in July 1999 and three other directors have a combined total of 65 years on the Mainfreight board. That represents serious industry knowledge, which has been reflected in the company’s superior sharemarket performance.
Although Sir Ralph managed to successfully navigate his way through Fletcher Building’s annual meeting many shareholders were left with the clear impression that the skill set of the directors doesn’t match the requirements of the company.
Thus, the answer to the t wo questions at the beginning of the column are: Fletcher Building’s directors were unaware of the risks associated with the construction division because they had limited sector expertise and the company doesn’t appear to have a prosperous future as a diversified conglomerate as these organisations are extremely difficult to govern and New Zealand has no proven expertise in this area.
The best option for Fletcher Build- ing would be to either break up the company or sell non- core assets, as Fletcher Challenge did in the late 1990s. It should then become a disciplined vertically integrated company that doesn’t succumb to investment bankers touting takeover propositions with little or no synergies.
The clear evidence from the last 40 years is that the vertically integrated structure, with a board containing far more industry experts, i s the only way to go as far as Fletcher Building is concerned.
Brian Gaynor is an executive ● director of Milford Asset Management which holds shares in Fletcher Building, Mainfreight and Ryman Healthcare on behalf of clients.