Lecture 9: Corporate Restructuring Flashcards
1.) What is restructuring 2.) Reasons for restructuring 3.) Empirical evidence to 'diversification discount' 4.) Types of restructuring transactions 5.) Empirical evidence to restructuring
What is Corporate Restructuring
It is a transaction where a company is reduced in size by
a. ) Asset Disposal (Divestiture)
b. ) Divided into Separate Entities (Spin-off/Equity Carve-Out)
c. ) Transferred to Private Ownership (Buyout)
What are the 6 Reasons for Restructuring
Main aim: To Create Value
ATSMNC (AT So Many New Cars)
- ) Reduce Agency Conflict
- ) Transfer assets to owners who may better utilize assets
- ) Sharper focus for managements who may lack skill set to manager different types of business
- ) Correct strategic mistakes of management (Reverse mistakes of acquisition)
- ) Reflect new information about various parts of the company to other parties (Equity Clienteles)
- ) Prevent cross-subsidization of business units
What is ‘Diversification Discount’
Process of value creation by restructuring
What is an evidence of ‘Diversification Discount’
Single-segment firms (e.g. woolworths) outperform multi-segment firms (e.g. Coles in WF)
Why do Single-segment firms outperform multi-segment firms
- ) Over-investment: Additional effort in under performing firm
- ) Cross-subsidization: Additional resources in under-performing firm which impedes entire enterprise (esp. in conglomerate firms)
What are the 4 types of restructuring transactions
- ) Divestiture
- ) Spin-off
- ) Equity Carve-out
- ) Leverage Buyout
Restructuring Transaction 1: Divestiture. What is the market response
Sell off business units for cash (Hence lose ownership)
Create value for sellers
0.5%
Reasons for Divestiture (Restructuring Transaction 1). Which of ATSMNC is not applicable and why?
To reflect new information about part of the firm (N)
N relates to making the public aware of the new firm/ form equity clienteles. Nothing to do with selling off asset
Example for Divestiture: Kraft Food
To address need for liquidity and Management lack enterprise.
Kraft sold off frozen pizza to Nestle. Nestle could also utilize asset better.
Restructuring Transaction 2: Spin-Off. What is the market response
- Listing one of its business units as a separate entity
- All shares in new business entity are distributed to existing shareholders on pro-rata basis (not fund-raising activity)
3. 3%
Example of Spin-Off: Kraft
- Kraft spun off North American Operations
- Kraft became Mondelez - High Growth
- North American Operations became Kraft- Stable, Low Growth
Form Equity Clienteles (is this N)
Restructuring Transaction 3: Equity Carve-Out. What is the market response
- Establish a new entity
- Shares in new entity are sold and not distributed
Minor shares: Public (to provide cash for…)
Major shares: Firm
Usually precedes a spinoff
Common against companies who need equity over debt
1.9%
Do the parent company maintains significant shareholding in new entity
Yes they do (remember: cash to parent company, not shareholders)
Example of Equity Carve-Out + Spin off: 3Com and Palm 3 Details
- 3Com spun off Palm
- Sold 5% of Palm and retained 95% throughIPO
- Each 3Com Share cost $82 and Palm Share cost $95 (but each 3Com SH get 1.5 Palm Shares)
Example of Equity Carve-Out + Spin off: 3Com and Palm 2 Reasons
- ) Market Inefficiency
2. ) New information
Restructuring Transaction 4: Leveraged Buyout. What is the market response
- Private equity investors borrow funds to buy a listed firm (High debt finance) - Stock increase and avoid listing fees
OR
- If buyers are existing managers, it is a MANAGEMENT BUYOUT - Management gain from both salary and ownership
37%
What kind of firms can do leverage buyout
Suitable for low business risk, general-purpose, tangible assets (low-growth)
What is the focus on management on buyouts
Greater focus of reducing expenses, disposing of non-core assets and increasing efficiency
What are the effects of buyout using agency conflict
High leverage (debt) combined with high equity ownership by the buyer increase incentive to maximize value of the firm: Reduce agency cost!
Are buyouts correlated with the market?
Yes they vary significantly over time and correlate with the market
What is the objective of a leveraged buyout
It is to sell the asset via an “EXIT” (Trade Sale, IPO, Sale to Private Equity Investor, Sale to Management, Etc)
CASE STUDY: LEVERAGED BUYOUT BK and Trio
- Sold BK to trio of private equity. (>1 bil debt; 325mil equity)
- Private equity paid over 500mil and BK exited
- BK de-listed once more by 3G and private equty trio received 3.26bil
Empirical Evidence to Restructuring 1: Motive
- ) Increased Focus (35.9)
- ) Divest in low-performance division (35.9)
- ) Increase marginal efficiency (9.8%)
- ) Achieve specific-organisational form (7.6)
- ) Others (10.9)
Empirical Evidence to Restructuring 2: Types of Restructuring and Returns. Explain why for LBO
- ) Leveraged Buyout (37.0%) - Because of control premium
- ) Spin-Off (3.3%)
- ) Equity-Buyout (1.9%)
- ) Divestiture (0.5%)
In all the restructures, who gets the cash? and what is the implication in Equity Carve Outs
The firm gets the cash, NOT the shareholders (they might get indirectly).
Since it is the firm, the SHs cannot sell the shares
Reasons for Spinoff. Which of ATSMNC is not applicable and why?
Transfer new assets to those who can better utilize them. T
Main reason for a LBO. Which of ATSMNC is not applicable and why?
All is, but mainly is A. Reduce Agency Conflict since management is now shareholders
In an equity carve out, how much shares do the parent company usually offer
Usually about 5-10% of the shares offered to the public with the cash going to the parent firm (not shareholders)
Explain the 2 stage process in equity carve-out
Stage 1: Establish new entity. Sell 10% of shares for Cash.
Stage 2: New shares usually 10% undervalued. Wait for new information/price to increase and sell it/SPINOFF to parent shareholders
Why factors might companies consider in electing whether to engage in a spin-off or an equity carve-out?
Equity carve-outs:
- ) Parent company have more difficulty in obtaining financing from conventional sources such as debt and new stock issues.
- ) Used to showcase the subsidiaries to prospective future buyers as part of a two-stage process - By not selling off 100% of the shares, it permits the parent to benefit from the potential upside when the market realizes the true value of the subsidiary in the second stage of the selling process.
