Thursday, October 23, 2014

A Case Study for Spinoffs

Mergers and acquisitions (M&A) transactions tend to be analyzed mostly from the acquirer’s perspective, whether they involve mergers or takeovers. At the same time, they have enormous implications for the target or the seller. Businesses may have to be downsized, contracted or split due to which companies may have to engage in sale transactions or restructuring of their business undertakings. There are a number of such restructuring options in the form of divestitures, which involve sales of subsidiaries or business divisions by a company. Other sophisticated forms of restructuring predominantly used in the U.S. include equity carve-outs, spin-offs, split-offs, and split-ups, which provide a number of transactional options for corporate restructuring. In India too, such transactions are fairly common in the form of slump sales, spin-offs as well as demergers.

Despite the varied nature of these M&A transaction structures, the focus of business and legal literature has largely been on mergers and takeovers, and far less on divestitures. In this context, a brief analysis in Knowledge@Wharton of the proposed spin-off of Hewlett-Packard into two companies is interesting. This transaction seeks to represent a case study in the manner in which corporate spin-offs can be structured and implemented.

On the one hand, there are similarities among the various transactions in that they are undertaken with the expectation of unlocking shareholder vaue. On the other hand, as the study indicates, there are striking dissimilarities between mergers or takeovers as well as spin-offs. While the essence of a merger or takeover involves synergies in the operations due to which the profitability of the combined businesses is greater than the sum of their parts (popularly referred to as the “2+2=5” phenomenon), in a spinoff the value is unlocked by separating the businesses because “the whole is worth less than the sum of the parts”. On another count, while the focus in a merger or takeover is on the post-transaction integration, in a spinoff it is on disintegration which must lead to two companies that can be independently freestanding.

These intricacies in the business rationale for different types of M&A transactions is worth noting. Given profile of the company and the size of the transaction (with each of the two resultant companies expected to earn annual revenues of over US$ 50 billion), the HP spinoff is likely to be closely watched as a suitable case study for the busines and legal outcomes of the transaction.

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