In his book – Investing for Growth, Terry Smith reflects on the lesson that selling stakes in good companies is almost always a mistake. He uses Sigma-Aldrich, a chemical company, as an example. Despite its strong financial and operational characteristics, Smith’s firm sold its stake when the company attempted to acquire a much larger firm, Life Technologies, due to perceived execution risks.
However, Sigma-Aldrich was later acquired by Merck at a 40% premium, showing that selling was an error. Smith concludes that selling good companies is usually a bad move and something his firm rarely does.
Here’s an excerpt from the book:
I have also learnt that selling a stake in a good company is almost always a mistake. Take Sigma-Aldrich, a US chemical company based in St Louis.
It supplies pots of chemicals to scientists around the world who use them in tests and experiments. Its financial performance fitted our criteria, as did its operational characteristics – supplying 170,000 products to more than a million customers at an average price of $400 per product.
It fitted our mantra of making its money from a large number of everyday repeat transactions, as well as having a base of loyal scientists who relied on its service. It was a predictable company of exactly the type we seek. That was until it was revealed that it was trying to acquire Life Technologies, a much larger company which supplies lab equipment.
Given the execution risk involved, we sold our stake. As it happens, Sigma-Aldrich did not acquire Life Technologies as it was outbid. But having gone public on its willingness to combine with another business, it was in no position to defend its independence and succumbed to a bid itself from Merck at a price about 40% above the price we had sold at.
Selling good companies is rarely a good move. The good news is that we don’t do it very often.
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