Companies come and go, succeed or go bankrupt, grow, buy and sell other companies, or break into smaller divisions of those other companies. New companies are founded by divisions of established companies that become fully independent companies on their own. The expelling of a division or portion of a company is known as a divestiture.
What Is a Divestiture?
In the business world, a divestiture is a situation in which a business asset is fully or partially disposed of. Typically, it’s a method that a company uses to manage its assets and is commonly practiced in conglomerates. This transaction can be achieved through a sale, exchange, closure or even bankruptcy. There are many reasons why a company would choose to dispose of an asset, which are described below. In some instances, it’s a legal matter, as regulations may deem a business unit to be a monopoly, an anti-competitive entity or simply a target because of changing tax structures that the parent business faces.
Similar to other types of business transactions, there are multiple types of divestitures, all of which fall under the umbrella of mergers and acquisitions (M&As). These include partial sell offs (selling a subsidiary of the core company), spin-offs (a unit or division is separated and becomes an independent company), carve-outs (a subsidiary is sold via an IPO) and split-off divestitures, which are described below.
What Is a Split-Off Divestiture?
A split-off divestiture is a business term for a type of corporate reorganization, which follows specific structured terms. In this instance, the parent company divests one (or more) of its business units. The goal of the split-off divestiture is to allow the subsidiary unit to become an independent company, with no ties to the parent company. There are, of course, all sorts of rules and regulations that need to be followed in order to proceed with the transaction.
An example of a well-known split-off divestiture is DuPont and Conoco. DuPont, a Delaware-based chemical company, had acquired Conoco, an oil and gas producer, in 1981. However, in 1999, it conducted a split-off divestiture, with Conoco merging with Phillips Petroleum, thus creating two different independent companies.
How Do Split-Off Divestitures Work?
The parent company determines, for whatever reason, that it wants to dispose of one (or more) of its assets, or divisions. Following the laws and rules that regulate this type of transaction, a new, independent company is formed from the subsidiary. This company has its own management and shareholders and is legally independent of the parent company. Shareholders of a company that is conducting a split-off divestiture are offered a choice: continue holding shares in the parent company, or exchange some (or all) of those shares for equity in the subsidiary. In most instances, a split-off divestiture is complete after shares of the subsidiary have gone through an IPO. However, there is no compulsory participation required by the shareholders, as shares for the new company are not distributed on a pro-rata basis.
Naturally, there are all sorts of rules and regulations when it comes to financial business transactions, and split-off divestitures are no exception. In the United States, there are practices enacted by the Internal Revenue Service (IRS) for a Type D reorganization, and this requires adherence to Sections 355 and 368 of the Internal Revenue Code. When these codes are followed, it becomes a tax-free event, namely because shares for the new company are exchanged.
Use Cases for Split-Off Divestitures
There are several factors why split-off divestitures are used. The overall reason, as is the case with most corporate transactions, is to increase shareholder value. In short, in the big picture, the two companies being independent are worth more apart than when they were under the same corporate umbrella, a kind of “addition through subtraction” theory. However, there are other reasons why a company would perform a split-off divestiture. These include:
- Dispose of a redundant business unit: Large corporations, particularly conglomerates, often have divisions that overlap. In some instances, it’s determined to be more fiscally feasible to split off that division (or divisions), rather than to have them remain as a part of the parent company.
- To generate funds: Often, the core business needs to generate capital for one reason or another. By splitting off a division that could bring in needed capital, there is a sudden influx of cash.
- Increase the value of the core business: In some situations, a focused business is more valuable than one that is all over the place, at least as far as its offerings. By streamlining to concentrate on its core business, a company can certainly become more valuable after it sheds its non-core business divisions or subsidiaries.
- To comply with regulations: Laws and regulations are a funny thing, constantly evolving and changing. Some split-off divestitures are a product of regulations, such as avoiding a monopoly or some other tax-related regulation.
6 Benefits of Split-Off Divestitures
The benefits of a split-off divestiture are quite similar to those of spin-off divestitures. They allow a company to focus on its core business, reduce redundancy and costs, or perhaps either repay or restructure its debts. But the main reason, as mentioned earlier, is to increase shareholder value. It allows the newly formed, independent company to deliver greater focus on its own specific products and/or services. These benefits include the following:
- Focus on core business
- Eliminate redundancy
- Repay or restructure debt
- Reduce costs
- Increase shareholder value
- Increase organizational efficiency and streamline operations
Working With a VDR
A necessary tool for your company’s process is a virtual data room (VDR). A VDR is a secure, online location, where all the parties involved in the deal can safely and securely store and share the required documentation. Its features include enterprise-level encryption and multiple layers of security and customizable digital rights management, which allow only sanctioned parties to access (or edit) certain documents. Using a VDR for your transaction will expedite the process as well as save on the costs of completing the transaction.
Where CapLinked Comes into Play
CapLinked, an industry leader in the VDR space, is a provider of ultra-secure VDRs for all types of business transactions, including split-off divestitures. In addition to the security features listed above, its user-friendly interface is compatible with virtually every OS, which gives users the ability to manage, upload, access and download documents from any type of computer, smartphone or tablet from anywhere on the globe. To learn more about virtual data rooms, start a free trial.
Chris Capelle is a technology expert, writer and instructor. For over 25 years, he has worked in the publishing, advertising and consumer products industries.
Fenwick – Pros and Cons of Splits and Divestitures
Investopedia – Split-Off
MacAbacus – Spin-Offs and Split-Offs
Wall Street Mojo – Spin off vs Split Off
Corporate Finance Institute (CFI) – Divestiture