Honeywell Gets Hammered, but Were Investors Too Harsh?

The stock fell after the company purchased alarm maker Pittway for about $2 billion.
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When big companies buy small companies, investors usually feel a little buyer's remorse. But market players gave

Honeywell

(HON) - Get Report

an overly harsh scolding Monday after the company announced it would buy a smaller alarm maker for roughly $2 billion, some analysts and fund managers said.

Honeywell said it would pay $45.50 a share in cash for

Pittway

(PRY)

, a Chicago security and fire alarm system maker with 23% annual revenue growth and $1.3 billion in 1998 revenues.

That represented a 57% premium over 29, where Pittway's common shares closed Friday.

The announcement was made well before the stock market opened, and investors reacted quickly, opening trading in Pittway's shares at 45 and stayed above 44 all day. They closed at 44 7/8, up 15 7/8 from Friday's close.

For Honeywell, the day started relatively well: Shares of the Morris Township, N.J.-based company opened at 63 5/8, just slightly off Friday's 63 3/4 close. The price fell only about half a point in the first half-hour of trading, the period when most of the fallout from an acquisition announcement usually becomes visible.

But as trading went on and the company met with analysts, investors took a grimmer and grimmer view of Honeywell's stock.

The stock price headed steadily downward, dropping 7 1/8, more than 11%, to close at 56 5/8.

"It doesn't make a lot of sense," said Tom Hudson, manager of the

Affiliated Fund

, a $10 billion mutual fund that invests in large capitalization stocks and counts Honeywell as one of its top 10 positions. "It is a pretty good acquisition for them. We're kind of scratching our heads."

Hudson didn't sell any of his fund's position in the stock Monday, but plenty of shareholders did. Around 8.3 million shares traded hands, almost four times the average volume.

Several analysts who have made their careers covering aerospace had their first encounters with the Honeywell officials Monday, said Paul Nisbet, analyst for

JSA Research

. He is one of those analysts, having covered

Allied Signal

before it bought Honeywell on Dec. 1.

Nisbet, whose firm doesn't perform underwriting, rates the stock a hold.

"I'm not so sure that it's the deal that's causing the problem, although there is some concern that this is a move back to hardware," he said. "This looks like a step backward to some."

In the alarm business, Honeywell has been leaning toward providing service, considered a higher margin business than simply selling alarm systems, Nisbet said. Pittway, however, manufacturers and distributes alarm systems under the names

Ademco

,

System Sensor

and

ADI

, among others.

Honeywell said the purchase would extend its business in sensors and controls for the fire and security industries, and the company told analysts the deal could grow its margins from 12% to 15% over the next four to five years. It also told analysts the deal would have a neutral effect on earnings for the first year.

As a former Allied Signal analyst, Nisbet was a bit underwhelmed with Honeywell's executives Monday, who he said failed to deliver the dynamic performance and crispness of answers to which Allied analysts are accustomed.

But by the end of the stock's day-long bleed, even he was at a loss.

"You buy on the rumor and sell on the news, and this was the story today," Nisbet said. "It doesn't make a lot of sense to me."