A divestiture occurs when a company sells off an asset. The asset could be anything with an established monetary value: a service, a product or product line, or a piece of property. Divestitures are a common practice among businesses, and are particularly essential during the merger and acquisition process, when creating or retaining value is paramount.
In this article, we will examine some things to bear in mind if you are considering a divestiture, as well as some tips for carrying out divestitures efficiently and securely.
Divestitures Happen for Many Reasons
While the divestiture process is most broadly associated with mergers and acquisitions, there are many potential underlying reasons for a business to undertake one. The most frequently cited of these reasons is that the entity being divested no longer aligns with the company’s core business mission. While on its face this appears to be a distancing measure, it is not necessarily a sign of trouble — in fact, this often happens because the divested business has been thriving but cannot continue to grow under the umbrella of the parent company.
Another common motivation for divestiture is the simple need for cash flow. That need itself can exist for many reasons, whether it be wanting to counteract declining sales, strengthen the balance sheet, increase or preserve value or pay down debt. By creating cash flow, you can often avoid affecting the company’s bottom line or shareholder equity while creating opportunities for further investment.
Divesting is also sometimes just a matter of compliance. Government regulations and tax structures are in constant flux, and because of that, businesses need to remain flexible and be prepared at all times to evolve as the situation dictates.
Divestiture Can Be a Useful Tool under Any Circumstances
The 2010s were a great decade for mergers and acquisitions, and then COVID-19 happened. Global deal value declined by 71 percent in June 2020, and corporate strategies experienced a shakeup like never before. Although many now find themselves more focused on preserving rather than enhancing value, divestiture remains an effective method for restructuring.
According to Deloitte’s 2020 Global Divestiture Survey, despite the unprecedented crisis at hand, mergers and acquisitions activity is expected to continue and perhaps even accelerate. Companies now find themselves having to divest as part of a more defensive approach, hoping to survive long term by selling their assets to private equity firms. Although nobody could have foreseen the current circumstances, many markets had already anticipated a downturn following such a prolonged period of growth.
Different Types of Divestitures
The term divestiture is shorthand for an offloading of assets, but there is more than one way to go about doing it. PricewaterhouseCoopers describes five different types of divestiture strategies:
- Carve-out IPO: in which a parent company separates a business unit but retains a controlling interest
- Spin-off: an independent company is created in which the parent company has no controlling interest
- Split-off: similar to a spin-off in that the parent company has no controlling interest in the new entity — the key difference is that shareholders can trade their position in the parent company for a position in the new venture
- Joint venture: a parent company contributes a portion of its business to support a joint venture with another company, with no guarantee of the parent company being involved outside its financial commitment
- Trade sale: a clean break between a parent company and the subsidiary, after which the subsidiary is entirely owned by a new buyer
In essence, they are differentiated by the amount of involvement the parent company has following a transaction. If divestiture is a step you are considering for your business it is worth taking the time to examine the particulars of your business as well as the implications of each of these approaches.
Challenges You Should Expect
The first question that should be addressed if you are considering a divestiture is whether there is a market for what you are trying to sell. Just because you have something to offer doesn’t necessarily mean there is anyone looking to buy it. After you have decided to divest, be prepared to wait until the time is right for your transaction.
Bear in mind also how urgently you need to separate the subsidiary from your business. There is considerable variance in how long different types of divestitures take to be completed (according to PWC, spin-offs take an average of seven months). If you are in a hurry, an outright sale is probably the best option, though even that can take several months.
Keep All Your M&A Transactions Secure with Caplinked
Whatever kind of divestiture you may decide on, you will no doubt be dealing with huge amounts of sensitive and time-sensitive materials. You’ll need ease of workflow as well as top notch security measures, both of which are part and parcel of Caplinked virtual data rooms.
Caplinked will also train you and your entire team in order to optimize your VDR experience, as well as provide support twenty-four hours a day. Get in touch today for a free trial.
Rafael Carillo is a writer, editor and tutor living in Brooklyn.