Elsevier

Business Horizons

Volume 65, Issue 3, May–June 2022, Pages 291-301
Business Horizons

Reaping the financial and strategic benefits of a divestiture by spin-off

https://doi.org/10.1016/j.bushor.2021.03.001Get rights and content

Abstract

Because of their remarkable history of financial success, corporate spin-offs are the subject of perennial interest and investigation. We critically review quantitative and case-based research to determine the conditions under which a spin-off divestiture provides beneficial results for the conglomerate, the newly independent subsidiary, and the stockholders. The shared goal of spin-off researchers is to understand the rationale for the financial success that spin-off firms and their newly disconnected conglomerates experience. Our review and synthesis of the findings include 30 years of academic research by scholars in strategic and business management, commercial research by independent researchers and consulting firms, and IRS and US Treasury documents that detail when a spin-off qualifies for a corporate tax-free exchange. Our central finding is that spin-offs, conglomerates, and stockholders benefit from tax-free divestiture and subsequent refocusing by the companies. The article explains the breadth of spin-off divestitures and the benefits of their success in the US. These results center on helping decision-makers recognize the situational factors that support the choice of a spin-off strategy.

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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