What is Divestiture
Selling off some part of the business or the whole business is known as Divestiture.
The divestiture can be in two forms;
Involuntary divestiture refers to the liquidation of the whole business as a result of anti-trust ruling by the government.
Voluntary divestiture is the result of the willful decision of management to divest a part of the company or the whole company.
Voluntary divestiture can take place in following strategies;
- Sell offs
- Spin offs
- Liquidity carve outs
Voluntary Divestiture Strategies
Following are the types of voluntary divestiture strategies;
Sell offs is the strategy of divestiture and it can take place in two forms.
- Liquidity the old firm.
- Liquidity the firm partially.
The experience shows that the shareholders of the liquidating firm’s gains at least 15% increase in their return. In case of partial off the increase in the shareholder return is 2% to 3%.
The spin offs refers to a complete divestiture of a business unit of existing shareholder.
Reasons for Spin Offs
- Increase in operating efficiency.
- The spinoff of business unit may result in increasing value of the company and reducing the information asymmetry.
- The spin off unit will obtain the greater flexibility in operation and productivity.
Research shows that spinoffs improves stock price significantly due to the perception of greater efficiency.
Liquidity Carve Outs
Liquidity carve out refers to divesting a part of a business with the help of IPO.
Reasons for Liquidity Carve Out
- Liquidity carve out may reduce the asymmetry of information between managers and investors.
- Managers may have more incentives to perform well. Research shows 2% increase in ROI at the time of liquidity carve out announcement. Going private is another way of divestiture.
Reasons for Divestiture
First reason for voluntary divestiture.
Efficiency gain and refocus
Sometime the divestment of some part of the company results into increased efficiency of the old company this process is called “Reverse synergy”.
Sometime the company changes it strategic direction and refocuses.
The needs of divestiture are because of the transfer of wealth take place from debt holder to shareholder.
Divestiture some time results into tax shield benefits. Divestiture provide benefits in the form of tax shield.
Similarly in case of ESCOP (Employee stock ownership plan) tax advantage accrues to the existing shareholder. ESOP is the worst decision or result of the divestiture strategy because once the people get use to job they cannot act like a owner.
March 06, 2019