A divestiture can be the partial or full disposal of assets from a firm’s balance sheet. This normally takes place via a sale, exchange, closure, or bankruptcy, or some other means. A divestiture may occur when a company has acquired more than is necessary to fulfill the company objective.
A divestiture most commonly results from a management decision to cease operating a business unit because it is not part of a core competency. This sort of divestiture may occur slowly. A corporation may gradually sell, or spinoff subsidiaries to concentrate exclusively on its core activities. Alternatively, divestitures may occur rapidly because a company urgently requires cash to continue trading. In addition to these scenarios, a merger or acquisition may lead to the following conclusions
- a business unit may be identified as redundant
- the disposal of a unit increases the resale value of the firm
- a court requires the sale of a business unit to satisfy regulatory concerns (such as Hart-Scott-Rodino HSR)
This decision to divest may be of managements own doing following an internal strategic review, or at the behest of an activist investor. Occasionally accounting practices may enourage mangers to divest a specific unit giving the impression of enhancing profitability and increasing EBITDA.
Divestiture Example
Divestitures enable companies to better manage their portfolio of assets. Often, rapid companies growth leaves a firm with multiple business lines instead of focusing on core competencies. Therefore, divestitures allow the firm focus on more profitable areas of the business.
During the 1960’s the conglomerate approach was a common business practice where management could be transplanted across various business to increase efficiency. As this theory came undone, many large firms were dismantled by way of divestitures. Some of these business units were spun off into their own stand alone companies. Some were closed in bankruptcy or similar proceedings depending on their profitability. Privatization by national governments may also be considered a form of divestiture by placing some of their assets into the private sector. Generally, the underlying principle of divesting assets is to enhance shareholder value.
