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The power of portfolio renewal and the value in divestitures
Refocus your company for a stronger future
Companies that proactively review their portfolio and consider and complete divestitures via timely decision-making are more likely to create value
Companies evolve, and their leaders are on a continuous journey to navigate the right path forward. Questions about business portfolios have always been part of this path, and portfolio management — including expansion, contraction and other reconfigurations — is critical. However, portfolio review is often too infrequent, ineffective and insufficient to help a company drive long-term growth. Many executives are eager to engage in acquisitions but often shy away from, or pause before initiating, a divestiture. Why? And does this reluctance matter?
Our study answers these questions by analyzing the psychology behind the decision-making process and the value created through divestments. We explored a wide range of internal and external influences that affect the speed and effectiveness of decision-making and divestitures. Through our research, analysis and modeling, we found that companies that decided to divest sooner rather than later — while successfully navigating value traps — tended to generate greater total shareholder return.
Research methodology highlights
Surveys and statistical modeling of 2,500+ senior leaders with meaningful knowledge of strategy, portfolio review and/or the divestiture process
29 interviews with senior members of management and board members with decision-making responsibility
Historical analysis of seller company and business unit financials and deal data
Divestitures are an underused lever for value creation
Recently, S&P 500 companies acquired businesses 4.4 times greater than they divested assets. This is up from 3.7 in the prior five-year period. However, companies that complete both acquisitions and divestitures outperform their industry index during the years following the transactions. A divestiture can allow your company to focus time and resources on the businesses that are the best strategic fit.
Our study explored the many reasons why divestitures are underused levers for value creation. Our analysis revealed the components needed to utilize the power of portfolio renewal and the value in divestitures — the winning formula.
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Proactively managing your portfolio unlocks time and resources and helps rejuvenate your business.
The winning formula
Portfolio proactivity
The quality and thoroughness in the portfolio review process varies considerably. A proactive orientation — one that helps identify a business that doesn’t fit sooner — has been shown to increase the chances of delivering a positive return to shareholders by two times. For public companies it’s shown to be a five times increase in the likelihood of delivering a positive return.
Divestitures in your DNA
We identified traits exhibited by companies that had divestitures in their DNA, including a willingness to consider and decide to divest a business (regardless of whether they ultimately executed the deal). Traits that influence a company’s DNA include thorough portfolio analysis, attitude, the existence of reinvestment plans and Board involvement, among other elements. We found the odds of a company to both consider divestitures in its decision-making process and ultimately decide to divest are nearly two-and-a-half times greater for companies that have a positive attitude toward divestitures.
Speed of execution
Speed is important at every step of the process. Shortening the period of time from the decision to divest to closing the deal has been shown to increase the likelihood of a positive total shareholder return. For instance, when the time between announcement and close was less than 12 months, the median seller had greater excess returns compared to its industry peers — and even greater returns when close was less than six months. When the time was more than 12 months, the median seller underperformed industry peers.
What’s keeping you from achieving the winning formula?
The fit-fix-free fallacy, decision-making influences, individual biases, portfolio review factors and value traps
The fallacy
The fallacy
When a business unit no longer fits, the right decision is to free it (sell it). Maintaining the status quo and continuing to operate the business as though it fits — or worse, investing precious resources to attempt to fix it — destroys value. So how do executives navigate the fallacy of the fit-fix mentality and reach their optimal outcome for shareholders?
The journey
Companies are alive, and their leaders are on a continuous journey to decide the right path forward. This persistent journey requires paying attention to the surrounding environment and having the courage to challenge the status quo.
The review
As executives revisit decisions from the past and confront those decisions shaping the future, capital allocation and portfolio optimization are paramount. Attention to portfolio management – where companies draw their corporate boundaries through expansion, contraction and other reconfigurations – is critical.
The decision
Success can hinge on how well you recognize and act on the “fit signal.” Oftentimes staying the course with a business that does not fit, or investing to fix a business that is underperforming its perceived potential, is not the optimal decision.
The detour
For many executives, there’s a stigma with divestitures. They choose to stay the course, operating the business as though it fits or investing more in a business in an attempt to fix it. However, the optimal decision is to free the business and the capital allocated to it. Recognizing a lack of fit and choosing to divest sooner is critical to maximizing shareholder value.
The revelation
And while executives may recognize the optimal choice (to free it) down the road, the additional time and investment has reduced the value in the business.
The value
By comparison, leaders who recognize a lack of fit and quickly chart a new path can deliver more value for shareholders. Leaders must address value traps which, when unattended, can erode shareholder value. Navigating this course will enhance speed and execution to achieve greater total shareholder return.
Decision-making influences
While some factors have a greater influence than others, the evidence proves that the forces of inertia directly impact an organization’s ability to make optimal, timely decisions and increase value through portfolio renewal.
You can’t eliminate all inertial forces, but you can mitigate the effects of those forces by understanding their influence and by employing strategies to overcome them.
Individual biases
Executives aspire to be rational decision-makers, leveraging data and processes to structure assessments and make decisions. Regardless, gut instinct and biases pervade decision-making and impact outcomes that are often at odds with rational and optimal shareholder value decisions.
Our study identified very clear examples that directly impacted outcomes for companies. The more you’re aware of your own biases, the more intentionally you can drive decisions.
The following quotes were pulled from the 29 interviews with senior members of management and board members with decision-making responsibility.
Overconfidence
Overconfidence can lead management to believe it can improve the performance of a non-core business. This leads a company into the fix branch of the fallacy, wasting time, resources and, ultimately, value.
Status quo bias
People often resist change, even when it’s in their best interest, and executives aren’t immune. Status quo bias — a preference for keeping things the way they are — shows up as management’s reluctance to initiate strategic change. Staying the course may seem safer, with loss aversion prevailing over maximizing value and reallocating capital.
Confirmation bias
New information can be inconvenient, especially if executives have a formal portfolio review process. Confirmation bias plays into a management limitation to seek out new information that could impact the trajectory and speed up decision-making. A senior executive who thinks the unit is a great fit might concentrate on its growing revenue and ignore a continuous decrease in margins.
Anticipated regret
Anticipated regret is associated with managers’ emotional reactions to potential consequences for the firm’s employees. Our interviews demonstrate the importance of the relationships and close attachments that managers develop with their teams. When divestitures are considered, the potential negative consequences for those employees weigh on managerial decisions.
Loss of prestige
Loss of prestige is associated with emotional reactions to the direct personal consequences of a manager as a result of the divestiture. Divestitures are a highly visible strategic action and a potential admission management’s previous strategy with respect to the asset has failed.
Portfolio review factors
Executives must navigate both inertial aspects and individual emotional elements that influence decision-making. The research identified a number of process factors that have the greatest effect on decision-making.
Formality
Companies often recognize the fit signal as part of a portfolio review/annual operating planning cycle. Review processes ranged from low formality, relying on infrequent ad hoc analysis, to a highly formal process based on an annual plan, updated quarterly or more frequently, and including comprehensive, standardized analysis.
Comprehensiveness
Survey respondents told us their companies analyze a range of data sources in portfolio reviews. Too often, though, companies rely solely on historical financial data. A robust portfolio review includes analytical data combining both historical and non-financial information, as well as an analysis of the current and future competitive environment, including potential market adjacencies. Higher levels of analytical comprehensiveness are shown to increase the likelihood that companies will consider and decide on corporate divestitures.
Board governance
Our research shows that the degree of Board involvement in the strategic portfolio review process has a significant positive impact on the likelihood that companies consider divestitures. Board involvement also accelerates the execution process. Additionally, when the Board is involved in the decision-making process, reinvestment plans are closely linked to an initial divestiture strategy.
Reinvestment plans
Based on our experience, the lack of a reinvestment plan can inhibit companies from deciding to divest. Absent a reasonable alternative, executives are more susceptible to status quo bias and the urge to attempt to fix instead of free (sell) a business. Divesting releases capital that can be reinvested in more strategic initiatives possessing higher returns on capital. The more robust a company’s plans for reinvestment as part of a portfolio review are, the more likely the company will decide to divest at least annually.
Value traps
What is delaying getting your deal signed and executed?
Once the decision to divest is confirmed, it's full steam ahead. The company has likely laid out a divestiture timeline and will begin to orchestrate a series of separation objectives that impact all levels of the organization. This is one of the most critical times in a divestiture as delays during execution can lead to lower TSR and, based on our experience, lower deal value.
Delays impacting a divestiture are common. Here are the top areas causing major delays in getting a deal signed and executed — both revealed in our research and consistent with our experience. Executives should remain aware of these value traps as many can be controlled and mitigated.
Engaging the right separation advisors can be a valuable option to management and stakeholders to mitigate execution risk and increase speed to market.
What can you do?
Building the right processes, mindset and infrastructure for divestitures takes time. Organizations should incorporate divestitures as part of their strategic plans the same way they do for acquisitions. Below are some of our recommendations to make divestitures part of your company's DNA:
- Conduct periodic, objective and thorough portfolio assessments
- Establish value as a common denominator
- Overcome the stigma of divestitures
- Use robust analytics to identify fit signals
- Determine the right metrics for each business
- Act quickly once the fit signal is identified
Conduct periodic, objective and thorough portfolio assessments
This should be a continuous process and a key component of annual strategic planning activities. Identify biases, assess a business’s fit and share the analysis with your Board, including it in capital and resource allocation conversations.
Establish value as a common denominator
Most traditional portfolio reviews evaluate the revenue and margin contribution of the businesses to the overall organization. When considering divestitures, it’s important to look at future cash flows that take into account the revenue growth, margin and capital required.
Overcome the stigma of divestitures
Divestitures start with tone at the top. Short-term size and scale issues, as well as allocated budgets, shouldn’t hinder long-term value creation. Executives should be compensated for driving overall shareholder value as opposed to a particular business or segment performance.
Use robust analytics to identify fit signals
Companies often lack the management information systems and data to really understand what is happening with a business. It’s difficult to evaluate a business unit’s performance with no understanding of what’s happening at a granular level.
Determine the right metrics for each business
Not all businesses should be measured with the same yardstick. EBITDA margin, for instance, may be appropriate for a business with stable revenue streams, but it shouldn’t be applied to a business that has significant volatility due to commodity exposure. Successful companies not only have the systems and data to measure timely performance but the right metrics as well.
Act quickly once the fit signal is identified
Decisive companies tend to capture more value than slower ones. There are many value traps embedded into a divestiture process and the faster a company can tackle them, the better.
PwC’s research methodology
Research methods often rely on either historical or survey data. This study goes further by combining quantitative and qualitative research with proprietary analysis and modeling to test hypotheses and derive statistical observations.
- A survey of 2,566 senior leaders who have meaningful knowledge of strategy, portfolio review and/or the divestiture process, with rigorous statistical modeling of the survey results
- Intimate interviews with 29 senior members of management and board members with decision-making responsibility
- Collaboration with academic professionals who have researched executive behaviors and who advised on new research questions, conducted interviews and helped with statistical modeling
- Extensive analysis of historical financial and deal data at the company and business unit level
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