– SHEE “Vadym Hetman Kyiv National Economic University”, Ukraine
As mergers capture the imagination
of many investors and companies, the idea of getting smaller might seem
counterintuitive. But corporate break-ups, or de-mergers, can be very attractive options for companies and
their shareholders.
Advantages The rationale behind a spinoff, tracking stock or carve-out is that "the parts are greater than the
whole." These corporate restructuring techniques, which involve the
separation of a business unit or subsidiary from the parent, can help a company
raise additional equity funds. A break-up can also boost a company's valuation
by providing powerful incentives to the people who work in the separating unit,
and help the parent's management to focus on core operations.
Most importantly,
shareholders get better information about the business unit because it issues
separate financial statements. This is particularly useful when a company's
traditional line of business differs from the separated business unit. With
separate financial disclosure, investors are better equipped to gauge the value
of the parent corporation. The parent company might attract more investors and,
ultimately, more capital. Also, separating a subsidiary from its parent can
reduce internal competition for corporate funds. For investors, that's great
news: it curbs the kind of negative internal wrangling that can compromise the
unity and productivity of a company.
For employees of the new separate
entity, there is a publicly traded stock to motivate and reward them. Stock options in the parent often provide little incentive to
subsidiary managers, especially because their efforts are buried in the firm's
overall performance.
Disadvantages That said, de-merged firms are likely to be
substantially smaller than their parents, possibly making it harder to tap
credit markets and costlier finance that may be affordable only for larger
companies. And the smaller size of the firm may mean it has less representation
on major indexes, making it more difficult to attract interest from
institutional investors.
Meanwhile, there are the extra costs
that the parts of the business face if separated. When a firm divides itself
into smaller units, it may be losing the synergy that it had as a larger entity. For instance, the
division of expenses such as marketing, administration and research and development (R&D) into different business units may cause
redundant costs without increasing overall revenues.
Restructuring
Methods There are
several restructuring methods: doing an outright sell-off, doing an equity
carve-out, spinning off a unit to existing shareholders or issuing tracking stock.
Each has advantages and disadvantages for companies and investors. All of these
deals are quite complex.
Sell-Offs. .A sell-off, also known as a divestiture, is the outright sale of a company subsidiary. Normally, sell-offs are
done because the subsidiary doesn't fit into the parent company's core
strategy. The market may be undervaluing the combined businesses due to a lack of synergy between the parent and
subsidiary. As a result, management and the board decide that the subsidiary is
better off under different ownership. Besides getting rid of an unwanted
subsidiary, sell-offs also raise cash, which can be used to pay off debt. In
the late 1980s and early 1990s, corporate raiders would use debt to finance acquisitions. Then, after making a purchase
they would sell-off its subsidiaries to raise cash to service the debt. The
raiders' method certainly makes sense if the sum of the parts is greater than
the whole. When it isn't, deals are unsuccessful.
Equity Carve-Outs. More and more companies are using equity carve-outs
to boost shareholder value. A parent firm makes a subsidiary public through an initial public offering (IPO) of shares, amounting to a partial sell-off. A
new publicly-listed company is created, but the parent keeps a controlling stake
in the newly traded subsidiary.A carve-out is a strategic avenue a parent firm
may take when one of its subsidiaries is growing faster and carrying higher
valuations than other businesses owned by the parent. A carve-out generates
cash because shares in the subsidiary are sold to the public, but the issue
also unlocks the value of the subsidiary unit and enhances the parent's
shareholder value.
The new legal entity of a carve-out
has a separate board, but in most carve-outs, the parent retains some control.
In these cases, some portion of the parent firm's board of directors may be
shared. Since the parent has a controlling stake, meaning both firms have
common shareholders, the connection between the two will likely be strong.
That said, sometimes companies
carve-out a subsidiary not because it's doing well, but because it is a burden.
Such an intention won't lead to a successful result, especially if a carved-out
subsidiary is too loaded with debt, or had trouble even when it was a part of
the parent and is lacking an established track record for growing revenues and
profits. Carve-outs can also create unexpected friction between the parent and
subsidiary. Problems can arise as managers of the carved-out company must be
accountable to their public shareholders as well as the owners of the parent
company. This can create divided loyalties.
Spinoffs. A spinoff occurs when a subsidiary becomes an
independent entity. The parent firm distributes shares of the subsidiary to its
shareholders through a stock dividend. Since this transaction is a dividend distribution, no cash is
generated. Thus, spinoffs are unlikely to be used when a firm needs to finance
growth or deals. Like the carve-out, the subsidiary becomes a separate legal
entity with a distinct management and board.
Like carve-outs, spinoffs are
usually about separating a healthy operation. In most cases, spinoffs unlock
hidden shareholder value. For the parent company, it sharpens management focus.
For the spinoff company, management doesn't have to compete for the parent's
attention and capital. Once they are set free, managers can explore new
opportunities.Investors, however, should beware of throw-away subsidiaries the
parent created to separate legal liability or to off-load debt. Once spinoff
shares are issued to parent company shareholders, some shareholders may be
tempted to quickly dump these shares on the market, depressing the share
valuation.
Tracking Stock .A tracking stock is a special type of stock issued
by a publicly held company to track the value of one segment of that company.
The stock allows the different segments of the company to be valued differently
by investors. Let's say a slow-growth company trading at a low price-earnings
ratio (P/E ratio) happens to have a fast growing business unit. The company
might issue a tracking stock so the market can value the new business
separately from the old one and at a significantly higher P/E rating.
Why would a firm issue a tracking
stock rather than spinning-off or carving-out its fast growth business for
shareholders? The company retains control over the subsidiary; the two
businesses can continue to enjoy synergies and share marketing, administrative
support functions, a headquarters and so on. Finally, and most importantly, if
the tracking stock climbs in value, the parent company can use the tracking
stock it owns to make acquisitions.
Still, shareholders need to remember
that tracking stocks are class B, meaning they don't grant shareholders the same
voting rights as those of the main stock. Each share of tracking stock may have
only a half or a quarter of a vote. In rare cases, holders of tracking stock
have no vote at all.
Literature:
1.
Ashcroft B., Love J.H.
Takeovers, mergers and the regional economy. – Edinburg: Edinburg Univ.
Pr.,1996. – 218p.
2.
Cantwell, J and Janne O “Technological
globalisation and innovative centres: the role of corporate technological
leadership and locational hierarchy”, Research Policy 28(2-3). – 1999. –
119-144 p.
3.
Carolyn À. C., Leonard V. Z., Harold W. E.
Acquisition of the 1990's: À Multiple Logic Analysis of Leveraged Buyout
Candidates: Review of Business & Economic
Research (October), p. 20-30.
4.
How to make mergers work//
The Economist. – 1999. -- Jan. 9. – p.13.