A recent report put out by the Boston Consulting Group (BCG) indicates that companies are increasingly turning to asset divestures as a means of enhancing shareholder value. According to the report, divestitures have been steadily accounting for an increased share of total M&A activity in recent years, reaching a high of 48% of total global M&A deal activity in 2013. And if the headline-dominating deals of the past year are any indication, this trend has continued, and is likely to continue, throughout 2014 and into 2015.
Companies pursue divestitures for any number of reasons, but as the BCG report explores, some of the most common are to get a company re-focused on its core business and/or to generate cash. With respect to the first of these objectives, it is well known that bloated companies tend to trade at a discount if their size and diversification is seen by investors as an impediment to the company’s ability to operate efficiently and effectively. The divestiture of assets such as under-performing or peripheral business units can therefore free up a company to focus its attention on a core strategy or objective. Many of the headline-garnering divestitures of recent years have been undertaken by global behemoths for precisely this reason, particularly in the energy, technology, financial services and pharmaceutical sectors. With respect to the second rationale, companies may use an asset divestiture to generate cash that can be used to fund acquisitions, reduce debt, or return cash to shareholders.
Of course, the benefits that are ultimately derived from a divestiture are impacted not just by the company’s objectives for pursuing the sale, but also in how the transaction is structured and executed. Divestitures can take a number of forms – including asset sales, spin-offs, and carve-outs – each of which offers its own advantages and drawbacks. Outright asset sales are private transactions that permit sellers to unlock capital and generate cash-flow, whereas both spin-offs and carve-outs involve the creation of a new, publicly-traded subsidiary of the parent company. Spin-offs tend to be an effective means of returning value to existing shareholders in the form of a dividend or other mechanism pursuant to a plan of arrangement, as the assets divested into the new subsidiary remain wholly-owned by the original shareholders. Carve-outs involve the sale of some or all of the shares in the subsidiary to the public, and can therefore be advantageous for sellers wishing to generate cash and/or divest their interest in a business unit in stages. One potential drawback of carve-outs is that they impose enhanced disclosure obligations on the divesting company, due to the fact that some of the shares are being offered to the public. In the case of both asset sales and carve-outs, companies can choose to either bring in cash or return value to their shareholders in the form of a one-time special dividend, a fixed dividend increase, or a share buyback program. In selecting the appropriate form of divestiture, tax considerations are also likely to be a driving force.
The author would like to thank Bruce Sheiner, an Associate in Norton Rose Fulbright’s Toronto office, and Carole Gilbert, articling student, for their assistance in preparing this legal update.