The Ultimate Divestiture Guide: Definition, Reasons, Process, and Types

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divestiture guide

While divestitures are common in the M&A world, they typically do not get the same level of attention as mergers and acquisitions. However, in the post-pandemic world, their numbers are certainly on the rise.

The 2022 Deloitte Global Divestiture Survey collected data from 500 public and private companies with a minimum of $500 million in revenue. Among them, 51% completed three or more divestitures over the past 36 months, with another 30% completing two.

While divestitures can create new issues for corporate strategy, the companies pursuing divestiture outperform inactive players by 15%.

In the guide below, we’ll provide a clear divestiture definition and talk about its role in corporate development.

What is divestiture?

Divestiture is the process of disposal of a company’s subsidiary, core business unit, or another investment type through a sale, closure, exchange, or bankruptcy. This process takes place when a company decides to sell its business entity, such as a piece of property, product line, or service. 

Understanding divestitures is crucial, as they allow companies to generate funds, lower debt, increase shareholder value, and deduct a business segment that doesn’t fit the corporate strategy.

As a result of divestiture, acquired funds can be used to change the strategic focus of a company, with a divested business unit being spun off into a new business entity.

Depending on the reason for divestiture, a partial or full disposal of a company, its core operations and assets can happen. Divestitures include corporate acquisitions and mergers, court-ordered divestments or the sales of company’s intellectual property rights.

What are the common reasons for a divestiture?

Divestitures were once only seen in distressed companies or those trimming underperforming units, but that has changed. Deloitte’s 2015 analysis found that 12,701 global divestitures made up nearly 40% of all M&A activity worldwide as companies sought to identify value and activist investors became common.

These days, a corporation may choose to go for partial or full disposal and sell an asset, business unit, or the entire company for various reasons. The most common ones include:

1. Divesting redundant business units

2. Generating additional cash flows

3. Ensuring regulatory compliance

4. Maintaining business survival or stability

5. Divesting due to lack of internal talent

1. Divesting redundant business units

This is the most common reason cited by managers for selling assets, as it aligns with a shift in the company’s core strategy.

The company divests non-core assets that no longer fit its long-term goals. The sale of underperforming assets allows the company to focus on profitable units. These assets are often in markets that are no longer a priority for the company.

A common example of such a divestiture is General Electric’s sale of its share in Baker Hughes, an independent company in the oil industry.

2. Generating additional cash flows

Selling a business unit for cash generates income without incurring financial obligations. Companies may divest to raise funds and avoid selling equity or issuing debt. This reason often overlaps with the first reason, when funds are needed to change the strategic focus of a company.

Examples of companies divesting non-core assets for debt reduction include Aryzta in food, Tata Power in energy, and Takeda in pharmaceuticals.

3. Ensuring regulatory compliance

A court order may require the sale of a business to improve market competition. Thus, regulations in a specific industry or product category may also prompt a company to divest. This can occur when an industry is taxed higher or becomes a part of a strict regulatory environment, which alters its market value.

The US-China trade feud is a good example of forced divestments in mergers and acquisitions.

4. Maintaining business survival or stability

When facing financial difficulties, a business may face an urgent need to sell its core business or other business units instead of closing down or filing for bankruptcy. 

Receiving an unsolicited offer often puts the selling company in a stronger negotiating position and results in a higher selling price, especially for iconic assets such as brands and real estate. Vanity purchases, where the buyer acquires for ego rather than strategic reasons, are common for these types of assets.

A well-known example is the 2008 divestiture of 90% of New York’s Chrysler building for $800 million, which was considered overvalued but allowed for a valuable divestiture for its owner.

5. Divesting due to lack of internal talent

Though this reason is considered less obvious, the global talent shortage may lead to more companies facing a need to sell their business units. This is particularly relevant to service lines where the absence of human capital can impact the company’s ability to provide the service.

A prime example is Dignity PLC, a publicly-listed British funeral services firm that has acquired numerous funeral homes and crematoriums in the UK, many of which were family-run companies.

Divestiture process

Before a company goes for a decision to divest its assets, it should consider other options first. At this stage, several factors are crucial:

  • Patience. Divestiture is a long-lasting, systematic, structured, and complex process. The management should be sure it is ready to dedicate a year or more to make this deal happen.
  • Divestiture planning. For this, a thorough evaluation must be conducted. The company should clearly understand its assets’ acceptability among potential buyers and select the right type of divesting to opt for. Then, a skilled deal team must be created to accompany planning.
  • Communication. Before setting its sights on a deal, each business must ensure it is for the betterment of its core operations and communicate the deal value with its various benefits to the entire organization.

Once the preparation is complete, the business is ready for a divestiture process. Usually, it consists of the following steps.

1. Portfolio review

Traditionally, the process starts with a portfolio review, which allows the company’s management to thoroughly analyze its performance in each area of interest. This review can further be compared against the company’s long-term business goals to estimate whether each area meets the core company’s needs.

2. Identification of non-core assets

Once the review is complete, the company’s leadership can define an asset that is underperforming or non-essential to their business needs. The company sells this business division, but it identifies potential buyers first.

3. Asset valuation

At this stage, most companies either take the services of a specialist firm or investment bank to build a valuation for the divested asset. Companies should then connect with investors to gauge buyer interest, estimate the potential value creation, and negotiate the final deal price for a purchase agreement.

4. De-integration

At this step, management develops a de-integration plan which explains the reasons for divesting to both internal and external shareholders. The de-integration plan should address questions of legal ownership, intellectual property ownership and transfers, human resources management, and employee severance or retention. Beyond that, the plan should offer a clear roadmap detailing the milestones of the transitional period and how the transfer of assets to a new entity will happen.

5. Divestiture strategy execution

The execution of this strategy is often carried out via an internal divestiture team or specialist firm hired to assist with the sale and post-merger integration. Upon completion of negotiations and obtaining all approvals, the transaction can be closed with the transfer of assets as agreed. A post-divestiture analysis can improve future processes by determining certain limitations and defining where more value can be found.

What are the most common types of divestiture?

Typically, divestiture of assets can happen in one of the following ways:

  • Equity carve-out. Often referred to as a partial IPO, a carve-out presupposes an outright sale of a business unit through an initial public offering. Carve-outs allow the parent company to create a new set of shareholders while still retaining some equity in the subsidiary.
  • Demerger. This is a form of corporate restructuring in which operations of the core business are segregated into one or more business divisions. This deal type involves one of the following scenarios:
    • Spin-off. In spin-offs, the parent company creates a new entity through a trade sale of its subsidiary, giving existing shareholders shares in the new company.
    • Split-off. In a split-off, a new entity is created, similarly to a spin-off. However, existing shareholders of the parent company are capable of exchanging their shares for the newly created entity.
    • Split-up. In the two previous deal types, the parent company either provides shares of a new entity to existing shareholders or allows them to exchange their shares for the new subsidiary. In a split-up, however, the parent company is divided into two or more separate entities, while the parent company gets liquidated and does not survive.
  • Sell-off. In sell-offs, a company sells one or more of its divested assets to potential buyers due to segment failure, prolonged drop in performance, non-alignment with core functions, or excessive capital requirement.
  • Liquidation. In this scenario, assets are sold as part of a court ruling in bankruptcy proceedings. This type of divesting is used rather as an exit strategy from a certain business.

Examples of divestiture

Many divestitures, when executed effectively, can be as valuable as acquisitions. They allow an organization to exit non-core business segments and redirect the proceeds to its core strategies, where it can generate greater value. Notable examples of divestiture include the following:

  • Divesting redundant business units — General Electric
  • Generating additional costs — Takeda
  • Ensuring regulatory compliance — the China-US trade feud
  • Maintaining business survival — Chrysler
  • Divesting due to lack of internal talent — Dignity PLC
  • Bonus example: Thomson Reuters

Divesting redundant business units — General Electric

In 2017, General Electric merged its oil and gas division with Baker Hughes to create “Baker Hughes, a GE company”, with GE holding a 62.5% stake. Former Baker Hughes shareholders received 37.5% of the new asset and a $7.4 billion cash dividend.

General Electric later reduced its ownership in the company, which then renamed itself as Baker Hughes Co. GE announced that it sold additional Baker Hughes shares, likely generating close to $1 billion.

Generating additional costs — Takeda

Takeda divested its respiratory drugs business to AstraZeneca in 2015, generating $575 million in profit. Later in 2019, Takeda agreed to sell its portfolio of five pharma products in several Central American and Caribbean countries to Adium. Takeda will still be responsible for developing and delivering these products over the next five years, thus extracting additional value from the transaction.

Ensuring regulatory compliance — the China-US trade feud

The China-US Trade War is an ongoing economic conflict between China and the United States. In 2018, President Donald Trump implemented tariffs and trade barriers to address what the US claimed were unfair trade practices and IP theft by China, which may contribute to the trade deficit. China retaliated and accused the US of nationalism. In 2020, a tense phase one agreement was reached but expired in 2021, with China not meeting its import targets to the US. 

By the end of the Trump presidency, the trade war was considered a failure, and tariffs have remained in place under President Joe Biden.

Maintaining business survival — Chrysler

In 2008, the UAE government’s investment arm in Abu Dhabi purchased one of New York’s most popular skyscrapers from New Jersey-based Prudential Insurance for an estimated $800 million. Completed in 1930, the 77-story building was once the tallest in the world — but only until the Empire State Building opened in 1931.

In 2019, the Chrysler building was sold for just $150 million, primarily because the land the building sits on was not part of the deal. The ground under the tower is owned by Cooper Union school, which leases it to the building owners at a premium.

Divesting due to lack of internal talent — Dignity PLC

In 2013, the publicly-listed British funeral services firm Dignity purchased 40 funeral companies and two crematoria from Yew Holdings for £58.3 million in cash. Later in 2015, Dignity also acquired 36 funeral locations from Laurel Funerals. Both transactions allowed Dignity to launch lower-cost direct cremation services known as Simplicity Cremations and acquire Funeral Services Ltd. in 2016.

Bonus example: Thomson Reuters

Thomson Reuters divested its science and IP divisions in 2016 to reduce debt and improve its financial standing. The divisions were bought by Onex and Baring Private Equity for $3.55 billion, with a 2015 booked sale value of $1.01 billion. The recurring revenue of 80% made the divisions attractive to PE firms. The divestiture represented only a quarter of Thomson Reuters’ overall business and was not the company’s entire valuation.

Main takeaways

  • Successful divestitures require preparation, which means clarifying the overall strategy, creating a plan, and communicating its value across multiple functions of the selling company.
  • Once the preparation is complete, companies enter the divestiture execution phase, which consists of portfolio review, non-core asset identification, asset valuation, de-integration, and post-divestiture integration.
  • The common types of divestitures include carve-outs, demergers (further divided into spin-offs, split-offs, and split-ups), sell-offs, and liquidations.

For a divestiture to truly succeed, it must be driven by strategic reasoning and a focus on value creation. To maximize profits, it is essential to review common divestiture examples and consider hiring a specialist firm to assist with the sale and post-sale integration.

Author

Ronald Hernandez

Founder, CEO at dataroom-providers.org

Data room selection & optimization expert with 10+ years of helping companies collaborate more securely on sensitive documents.

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