It’s time to rethink divestitures.
While company executives regularly talk about their company’s acquisition strategy and how it will feed into their growth, rarely do they mention how divestitures can achieve the same.
Several reasons are put forward for this, including a perceived difficulty in carving out non-core assets, a misconception of a non-core asset to the company’s enterprise value, and even a fear that others could extract more value from the asset.
None of these are adequate reasons for deciding against divesting. With a combination of good planning, it has been shown that divestitures can be significant growth platforms, as opposed to opportunities to scale back.
We at DealRoom help dozens of corporate clients to manage & plan divestitures and this article delves into what that planning looks like.
Make divestiture part of your corporate development
If you’re looking at a unit in your company which appears a shell of its former self and considering a divestment, guess what?
You’re already late.
The decision to divest should have taken place when the asset held more value.
The first step to better divestitures is to rethink your company as a portfolio of assets.
As with any portfolio, the best way to extract value is through active portfolio management. If one division could be valued at 10x EBITDA and another at 2x EBITDA, in any other situation, it would be reasonable to believe that your portfolio needs recalibrating.
So, don’t think any differently because it happens to be under the same corporate umbrella.
Managing the divestiture process
Depending on which assets are being divested, a divestiture process can be far more complicated than a typical acquisition.
Some assets tend to straddle several business units, include cross-functional teams, share IT systems, and more.
This is where divestiture planning comes in.
If divestiture is even under consideration, it pays to put teams in charge of managing the asset to be divested (and specifically, its disentanglement from the rest of the business), and one to manage the transaction (usually composed of members of the corporate development team).
It goes without saying that this is a complex chain of actions that technology can serve to reduce friction in.
You can find many different types of software for project management, depending on the needs of your business.
In its own project management tool, DealRoom has added templates for companies undertaking divestitures for the first time, outlining what needs to be done, and in what order.
As with acquisitions, the list of items to cross off can be overwhelming, so it pays to have a responsive project management tool guiding the process.
Develop a set of divestiture criteria
The example at the top of the manager looking at a burned out asset and deciding to sell it goes to the heart of what we mean about developing divestiture criteria.
There should be nothing within your company that cannot be divested. Instead, the question should be: Under what criteria would the asset be divested?
This is best done through an internal audit that enables you to track the progress of different assets over time.
The set of divestiture criteria will differ with every asset but could include:
- Does the unit generate significant value for the company?
- What is the unit’s estimated income?
- Would could it achieve in a market sale (using recent transactions)? If multiples are high, why? If not, why?
- What are its value drivers?
- Are there overwhelming reasons to hold onto the unit?
- What buyers currently exist for the unit?
- What are the short-term, mid-term, and long-term risks of divesting?
- What financial effects would selling the unit have on the company’s existing business?
Structuring the deal
As with an acquisition, a divestiture can be structured into its component parts. The following represents what we believe to be a typical structure of a deal:
1. Internal Preparation:
- Communication with internal stakeholders about rationale for deal.
- Preparation of divestiture team.
- Bring divestiture team and unit managers onto DealRoom (or another M&A project management platform) ensuring efficient communication and deal preparation.
- Begin internal due diligence process (again in DealRoom), including documentation for business and its estimated valuation.
- Decide where, if anywhere, the proceeds from the sale of the unit should be invested at deal close.
2. Create Buyer Shortlist
- Develop list, carefully selecting businesses that are not and will not represent threats to your company if they acquire the unit in question.
- Begin buyer reach-out where appropriate.
3. Structuring the Transaction
- Decide how the divestiture should be structured (is an equity carve-out an option?), considering all contingencies.
- Carefully manage unit in question to ensure that no value is destroyed during the deal and operational performance is maintained.
- This last step can include empowering employees in the unit who were previously disinvolved in management decisions for the unit.
4. Post-deal phase
- Communicate where the deal has made the company stronger to internal and external stakeholders.
- Collaborate with corporate development team about new growth areas in light of the insights gleaned from the divestiture process.
Showing the power of divestitures in action
The example of Orsted, Denmark’s largest energy company, is indicative of how powerful a well planned divestment strategy can be.
Traditionally, Orsted focused on managing Denmark’s North Sea oil and gas assets.
Around 85% of its assets were in fossil fuels, and as late as 2006, it signed a 30-year gas agreement with Russia’s Gazprom, and was using coal for energy generation at several plants.
But in 2009, the Climate Change Conference was held in Copenhagen, Denmark, and as a sign of the seriousness at which Denmarket was taking its role as host, Orsted made a commitment:
It would transition from an 85% fossil fuel company to an 85% renewable energy company within 30 years.
But because it was able to divest its oil and gas assets quickly and reinvest the proceeds into renewable energy, that transition only took a decade.
Orsted’s stock market value grew exponentially, outperforming all of the oil and gas majors at the same time.
By combining divestitures with acquisitions, it was able to execute an extremely bold vision that generated huge value for shareholders.
It is now the biggest producer of wind energy in the world, and by 2025 - slightly over half the time for which it had originally planned the transition to 85% renewables, it will provide 99% of its energy via renewable sources.
Conclusion: stop dithering, start divesting
The chances are that if you are a manager of a company with multiple business units, at least one of them is holding back your company from value generating.
The cash tied up in that business is far more than just its market value: It’s also the additional cashflow that could be generated by plugging the cash into one of your company’s core value drivers.
Start planning divestitures today and avoid the fate of the manager who looks a business unit wondering where its value went.