Creating Value Through Divestitures
Divesting part of a business is a complex process. Separating a business unit, segment, or even a single operating location can be cumbersome, involving multiple functional areas within an organization. The level of complexity often corresponds with the amount of integration across a company’s people, processes, and systems. As a result, some companies may succeed in this process while others may undergo a more challenging experience. By understanding the various intricacies involved and proactively working to address them, companies can set themselves up to come out ahead following a separation or divestiture.
Future state operating model
Before divesting a business, a company’s management team should determine the desired impact of the divestiture and, as a result of the separation, what the future state operating model of the remaining entity will look like. By first considering the preferred outcome, management can work towards thoughtfully transforming the entity through the separation. During this process, companies should:
- Develop a target operating model: A divestiture is a key inflection point in a company’s operating history and can therefore serve as a critical time to review the existing operating model of the remaining parent. Is a shared service model for providing key functions—such as finance, tax, and human resources—still necessary? Are there stranded costs that will stay with the remaining entity? Can these costs be mitigated and removed? Are there IT licenses that need to be renegotiated? Is there a need to modify any existing IT infrastructure? Do changes need to be made to the distribution or supply chain network? Optimizing the structure of the remaining company is critical to achieving maximum value from a divestiture.
- Align cost structure: Once a target operating model is identified, the organization should compare the existing and target cost structures. Having looked holistically at the target, successful companies determine where to make changes and extract maximum value from the transaction. For example, reevaluating supply chain or vendors, determining the future product or sales mix, and reviewing or restructuring the organizational structure are some changes that could be made to extract value from the future state organization. Once these opportunities are identified, the company should develop an action plan to realize the changes. These changes should be included in a communication plan that is delivered to employees and other key stakeholders in order to avoid ambiguity, ensure that employees understand their roles, and best execute key initiatives.
- Optimize talent profile: While divestitures do not drive headcount reductions within the selling entity by default, they should prompt a thorough and deliberate review of the affected talent pool, taking into account skills sets, geographical footprint, and organizational structure. Taking inventory of resources and mapping them to needs in the new organizational structure can reveal opportunities to reassign or redeploy resources where they can add the most value to the company based on the revised portfolio of operations. During this time, companies should also reset key labor-related benchmarks and evaluate alternative labor arrangements such as centralization, outsourcing, and offshoring.
Effective planning and monitoring
Creating a separation plan and actively monitoring key milestones is integral to a successful divestiture. By examining a range of possibilities, management teams can prepare for the roadblocks they may face throughout the separation process and have the flexibility to adapt and reduce the costs. During this process, companies should:
- Develop a separation plan: During sell-side diligence, the company should document the level of service provided to the carve-out entity. These services, allocated or unallocated, provide value to the potential buyer in supporting the carve-out entity and will be included in the transitional service agreement (TSA). Developing a detailed separation plan that allows for optionality and flexibility will be critical for an entity during this process.
- Assess Day 1 readiness: As the transaction approaches close, the seller will be responsible for supporting the carve-out as determined in the TSA. The seller will be monitoring progress and charging and collecting service fees. By introducing another party (the buyer), there will likely need to be a change in business processes to accommodate their needs. Simple tasks, such as collecting cash and paying invoices, may be more difficult when another party is involved. Considerations to be aware of prior to close include how employees of the divested business will be paid, how to settle cash and when, knowing who will approve payments to vendors, understanding how the buyer reviews monthly results, and knowing the expected number of days to close the books each period. It is important to be flexible and, during the TSA negotiation process, to gain a detailed understanding of the buyer’s expectations so that the level of service being provided meets their needs.
- Be flexible: No organization can plan for every contingency, but an organization can design a process that is adaptable when faced with unexpected roadblocks. Companies that develop a plan with flexibility and optionality in mind are more successful than those that adhere to a single methodology.
- Monitor performance, maintain appropriate governance, and manage separation costs: Installing a steering committee and designating a capable project manager and functional area leads with knowledge of both the remaining entity and the carve-out entity prepare a company for success. This team will drive accountability within the remaining business and keep the project on track while working to minimize unforeseen costs. Adhering to pricing strategies including milestone events, lump sums, and consistent run rates set forth in the TSA are simplest ways to manage costs, but must be accompanied by the right mechanisms in place to monitor adherence.