Reaping the financial and strategic benefits of a divestiture by spin-off
Section snippets
Why spin-offs generate investor interest
A spin-off is a divestiture that occurs when the equity owners of a conglomerate exchange value in their shares for an equal value of shares in a newly independent business created from the conglomerate’s resources. Spin-offs consistently outperform the broader stock market in the initial years of their independence.
Morningstar data reveals that over 14 years, the Bloomberg index of US spin-offs produced 559% greater returns than the S&P 500 index (Waslik, 2017). By March 2019, the Bloomberg US
Expected benefits of a spin-off
A conglomerate that chooses to spin off a subsidiary expects to gain financially because of three design benefits. First, the conglomerate can exercise its option to retain as much as 20% of the spin-off’s shares to participate as a major stakeholder in its success. By holding a large portion of the spin-off’s outstanding shares, the conglomerate retains the ability to influence the spin-off’s strategic and financial decisions by memberships on the spin-off’s board of directors, shareholder
Financial consequences of a spin-off
Many of the earliest empirical studies on spin-offs used event-driven methodologies to determine whether this form of divestiture produced abnormal financial returns. These in-depth studies used nonfinancial measures of shareholder value. They concluded that spin-offs were likely to produce at least short-term financial benefits for investors (John & Ofek, 1995).
A longer-term perspective on performance produces similar financial success. Studies of the financial performance of hundreds of
Empirical results for companies involved in a spin-off
Our analysis of spin-off research provides strong evidence that stockholders of both the conglomerate and the spin-off benefit. From the standpoint of the conglomerate, we found six reasons to support the decision to choose a spin-off strategy:
- 1.
The divestiture of a spin-off sharpens the conglomerate’s strategic focus, resulting in increased profitability.
- 2.
A spin-off mitigates information asymmetry among the conglomerate’s strategic business units by reducing overlapping or mismatched
Summary
Our review of research findings suggests that the scales of competitive success tilt in favor of a conglomerate that chooses spin-off as its divestiture strategy. Spin-offs provide executives and corporate boards of both the conglomerate and the newly independent business with clear reasons to believe that their shareholders will benefit. In concert with the decisions incorporated in our model of spin-off decisions, when the spin-off option is chosen because of the subsidiary’s capabilities and
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