Successful companies actively manage their portfolios of businesses, identifying those with the greatest growth prospects and divesting others that no longer fit their overall strategy. But divestitures are easier in theory than practice, and many companies don’t achieve the anticipated value from the transaction.
Nonetheless, divestitures—if done right—can help companies transform faster and emerge stronger. Our analysis of US divestitures from 1998 to 2017 found that many sellers experienced higher growth in earnings before interest, taxes, depreciation and amortization (EBITDA) in the years following the divestiture. Such results varied over the years, but the share of divestitures associated with increased EBITDA growth has consistently risen, reaching 60% in 2017 as companies shed non-core and underperforming assets that dragged down valuation and used proceeds from those sales to fuel growth.
Divestitures create value for companies in times of economic uncertainty as well, our analysis found. Those that divested in previous recessions were able to focus on their core businesses and boost cash flow following the sales, especially companies that were under earnings or cash flow pressure. In one instance, those with less than 10% EBITDA growth, including those with negative growth, two years before the divestiture saw relative returns of 8% in the year after the sale.
Our research shows that, overall, divestitures that saw higher returns, share three key factors.
While many companies look to acquisitions as a path for transformation, divestitures can be instrumental in an organization’s evolution or reinvention. If you proactively consider a divestiture — as opposed to reacting in a time of distress — you’ll have a better chance of seeing positive returns, as you’ll be better able to sell on your own terms. And those returns can help accelerate change through investments in critical areas, including new technology and workforce training.
But preparation is crucial. To minimize risk of losing value in a divestiture and realize the full potential for transformation, understand and address these important areas before committing to a transaction.
Companies should proactively review their portfolio of businesses to better understand their capabilities and interdependencies. To capture the greatest value, you need to clearly define the perimeter or assets for sale and make sure they’re packaged correctly for the market. But while you may have an initial view of what you want to sell, remain flexible in case a buyer doesn’t want certain assets that you want to divest or is interested in assets you didn’t originally contemplate selling.
Position your assets. Divestitures often, but not always, involve underperforming businesses. You can improve an asset’s position by presenting various scenarios under which you believe the asset might have performed or could perform better. Different conditions — such as economic cycles, industry shifts or customer behaviors — could produce different results. This should be done early in the process to take advantage of your intimate knowledge of the business.
Think through multiple scenarios. To attract an optimal buyer, you need to plan how you will address buyers’ questions under different scenarios. Anticipating what buyers will want to know will help move the divestiture forward while also enhancing the value of the deal. Take, for instance, divestitures that cross industry lines. Buyers from the same industry as the seller likely will have different needs than those from a different sector. Same goes for private equity buyers, who may have different operational needs than a corporate buyer. All this requires preparing for multiple scenarios if you want to attract more buyers and lock in a sale.
Separate key functions early. A divestiture’s value can hinge on the time it takes to close the deal, especially during the separation phase when all parties need to address how back-office functions—from finance to human resources to IT—will separate from the seller. If the process drags on, it’s likely to diminish the deal’s value. Companies can expedite the separation phase by starting early, even before a buyer shows interest. By segmenting key areas of the business in a way that doesn’t impact operations if a sale doesn’t happen, you will be well positioned to reduce the time between deal signing and separation of assets.
Leveraging a transaction for transformation isn’t easy, and sellers who fail to adequately prepare before a divestiture face even longer odds of realizing value. Success depends on being a prepared seller — not only for a particular deal but for strategic divestitures as a whole.
Positive returns are possible for companies that look across their portfolios of businesses and carefully assess how and where a divestiture can deliver value. By acting instead of reacting, a divesting company can chart a clearer course for transformation.