Experts like Julie Hood, Andy Lorenzetti, and Daniel Riegler discuss how organizations can strike the right balance between maximizing divestment value with the time it takes to execute and the cost to realize. Nearly a third (29%) of global CEOs expected to actively pursue an asset sale over the next 12 months. Corporate separations lead to 6% excess total shareholder return over two years post-close observed on average.
How conscious corporate separation or divestment can be a vehicle for growth?
EY and Goldman Sachs research offers insights on how organizations can optimally untangle while still maximizing value.
In challenging economic times, bigger is not necessarily better. The ability to be nimble and focused takes on greater significance than consolidation and size. It’s no wonder, then, that corporate separation activity is on the rise. In 2022 alone, there were 30 announced global separations, representing about 17% of publicized transactions over the past decade. This spinoff activity is set to continue: in Jan 2024 nearly a third (29%) of global CEOs expected to actively pursue a divestment, spin or IPO within the following year, according to EY CEO Outlook Pulse Survey.
While the 2010s defined a decade of megamergers and portfolio diversification, the post-pandemic corporate landscape is requiring a rethink of effective growth strategies for the near term. Challenging competitive conditions, coupled with a rapid rise in interest rates and investor emphasis on profitability, are having a material impact on growth priorities and associated capital allocation. Also, corporate portfolios are rife with complexity: about two-thirds of companies listed on the S&P 500 index have three or more business segments with over US$500m revenue.
For those conglomerates considering a divestment or separation, it is best to act from a position of strength to transform the organization for the near and long term. EY teamed up with Goldman Sachs (GS) to develop comprehensive insights into how to optimally untangle while still maximizing value for both RemainCos and NewCos. The research combines interviews with some of the world’s top executives with the quantitative analysis of more than 160 global transactions from 2012 to 2022 in which the business being separated had a market capitalization greater than US$1bn.
Companies largely seek to separate so they can seize an opportunity or manage risk. It is clear that businesses must truly transform themselves to maximize value and achieve the benefits of a divestment or separation. Corporate divestments are less a conscious uncoupling and more a form of emptying the nest, where ParentCo and NewCo find their independence, allowing each to grow and thrive separately. EY and GS indicates that well-executed separations can lead to an excess total shareholder return of 6% on average over two years post-close.
5 Best practises for a divestment
Although outperformance is not guaranteed, executives’ strategic vision leading up to the separation is crucial. EY and GS developed the following five leading practices that are a hallmark of any successful corporate separation.
1. True re-envisioning
ParentCo leadership must identify the operational improvements and cost optimization initiatives for both RemainCo and NewCo before the transaction announcement, allowing ample time to execute thoughtfully, rather than cloning for purposes of expediency. ParentCo should also conduct a cost-benefit analysis and pursue high-value and complementary mini-transformations that impact growth and gross margins.
These include, for example, investing more in capabilities and projects that are a source of differentiation, identifying opportunities to move appropriate systems to new solutions, or optimizing pricing strategies and channel expansion. EY and GS analysis indicates that typically RemainCo focuses on margin improvement post-separation, while NewCo concentrates on revenue growth. Equal attention needs to be given to both companies, highlighting each business’s attributes and how to optimize them.
2. Dedicated management
Allowing leadership teams to focus on the priorities of their specific business is an important step that drives outperformance. NewCo leaders should be identified early in the separation process to give them ample time to shadow ParentCo executives on the responsibilities of managing a public company. This gives executives the ability to practice and hone their new tasks. More than 60% of NewCo CEOs and CFOs were promoted internally, according to EY and GS analysis. Although this is good because they understand the business unit, they may not, however, have experience leading a public company, which can be remedied through job shadowing and mock investor meetings.
3. Tailored capital allocation strategies
Capital allocation is likely to be different, depending on company objectives. ParentCo should set up RemainCo and NewCo with capital structures that allow ongoing access to liquidity, balance sheet optimization and operating cashflow – with enough room to grow independently. Although each divestment is customized, RemainCos tend to focus on margin improvement and cash generation, while NewCos often prioritize growth. EY and Goldman Sachs analysis shows that 67% of RemainCos see a reduction of SG&A cost over two years post-separation, and that NewCos typically grow revenue by 4.7%.
4. Genuine leadership in managing the divestment
Given that separations take time and money, mapping out milestones and timing of major decisions early ensures there is stakeholder alignment and transparency, priority management, and efficient allocation of resources and capital. EY and GS analysis shows that more than 60% of transactions took longer than nine months from announcement to close, with one-time costs of 1% to 6% of NewCo equity value. However, the potential for value creation significantly outweighs these costs. Balancing timeline commitments and costs is key, as is allowing NewCo to focus on value creation. Establishing a governance structure to manage multiple workstreams is highly recommended.
5. Communicate with stakeholders
Managing the varying priorities and expectations of customers, suppliers, employees and shareholders is critical for success. Given the uncertainty surrounding divestments, regular communication goes a long way in building competency and trust of both RemainCo and NewCo. It is important to understand what each stakeholder may need to feel comfortable with the path forward. Customers, for example, will need appropriate information and guidance, while suppliers will need contract and business continuity updates. What’s more, sharing the equity stories of each company allows stakeholders to gain familiarity and feel at ease with the process.
Summary
In summary, separation is a catalyst for corporate transformation. Executed effectively, separations can create opportunities, manage risk and create shareholder value. Executives who combine an offensive and defensive approach to their portfolio and execute separations from a position of strength see their companies rewarded by markets as they greatly increase the chances of delivering long-term returns.
True value is created by maximizing the benefits of the separation, and by establishing the two new public companies as streamlined operations with distinct equity structures, capital strategies and focused leadership teams reimagining their offer.
Source: Economic Impact. In dit artikel zijn de Amerikaanse cijfers verwijderd, zijn koppen toegevoegd en hebben we de organisaties afgekort weergegeven. Dit alles om de leesbaarheid te vergroten.
