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TalkingPoint: Successful Carve Outs And Spin Offs « Back
September 2011
FW moderates a discussion on successful carve outs and spin offs between Jim Loss at Bingham McCutchen, Rick van Dommelen at PwC, and Benjamin Roth at Wachtell, Lipton, Rosen & Katz.

FW: Over the last 12-18 months, have you seen an increase in carve outs and spin offs? Can you explain some of the main reasons why companies might consider carving out and spinning off parts of their business?

Van Dommelen: At the same time as the value of overall M&A activity has fallen by 70 percent since the end of 2007, we observed that the level of ‘carve out’ transactions, involving the divestment of one or more non-core assets, has remained relatively high. Although the value of carve out transactions has fallen by over 60 percent, the volume decreased only up to 15 percent. Due to the economic downturn companies have been forced to sell businesses and to refocus on the regions they used to serve. Moreover, governments were less inclined to liberalise markets because of the economic situation. As a consequence, companies had to reconsider their strategies and ways of doing business. More recently, we have seen a substantial increase in deal volume, including carve outs, in the last six months. Buyers, supported by recovery in the debt market, took their chance to acquire these carved out entities. At the same time, companies were eager to divest quickly to benefit from the positive deal market in the first half of the year.

Loss: The reports that I have seen indicate that corporate divestitures in the US have actually declined somewhat in the first part of 2011, but that private equity firms are playing a much bigger role as buyers than they have historically. As a result, from the perspective of the private equity world, there has been an increase in the number of carve out sales to financial buyers in recent quarters, and correspondingly, a decrease in the absolute number of carve outs with strategic buyers. The principal reason that is usually stated by a seller in a carve out transaction is that the business being divested is not part of the ‘core business’ and that the seller desires to focus its energies on its ‘core competencies’. There are, however, often other reasons for a divestiture. For example, a carve out can simply be a means to raise cash needed to support other corporate operations or to pay down debt.

Roth: We are currently seeing a significant increase in spin offs and corporate carve outs. Examples over the last few months include such large companies as ConocoPhillips’ proposed separation into two public companies, Ralcorp’s proposed spin off of Post Foods, Expedia’s proposed spin off of TripAdvisor and Sunoco’s IPO and proposed subsequent spin-off of SunCoke Energy. A spin off, carve-out or other separation transaction can create shareholder value when a company’s businesses may command higher valuations if owned and managed separately, rather than as part of the same enterprise. These increased valuations can arise from capital markets factors, such as by attracting particular investors who may focus on a sector or growth strategy, and from corporate initiatives such as providing clarity of mission that the markets more easily understand, as well as due to improved business performance by permitting management to focus more closely on the respective businesses, thereby maximising growth of each business.

FW: How would you describe the current appetite of financial and strategic buyers for these assets? What steps can companies take to attract acquirers and maximise shareholder value through the sale process?

Loss: A successful carve out requires a great deal of planning. The business being sold may be owned by several different legal entities within a corporate group, employees active in the business may be employed by a number of different legal entities, and contractual relationships of the business may be scattered around among various members of the corporate family. The more these matters can be sorted out prior to a sales effort, the better. Internal allocations – both ‘real allocations’ of resources and ‘accounting allocations’ for financial statement purposes – need to be thoroughly understood and taken into account in ‘packaging’ the business to be sold. Communication with employees, customers and vendors is also a very important part of the divestiture process.

Roth: Potential buyers – from strategics to private equity firms, sovereign wealth funds and other financial buyers – have substantial cash available for acquisitions and strong acquirers are continually looking for opportunities. Even during the current period of market volatility and uncertainty, the strong will pursue attractive opportunities. In many cases, assets may be available at the low-end of recent valuation ranges, and competition may be reduced due to market and business volatility. Preparedness is key to a successful carve out. Most buyers will expect audited financials of the carve out business, which may take approximately 2-8 months to prepare, depending on whether one of the parent’s financial reporting segments tracks the divested business, and the extent of entanglement of the businesses. Valuations will be highest where the seller can deliver a credible standalone financial model and transition plan, with clear visibility as to how the business ultimately will be separated from the parent.

Van Dommelen: We see, more and more, that sellers frequently need to break up assets that they might once have sold as a whole, into smaller parts, in order to overcome limited bidder leverage. Bidders are also more frequently joining forces in consortium arrangements, particularly for larger deals and are more cautious now than ever before.
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