What are divestments?

Definition of divestment

Divestment, also called divestiture, is the process of a company selling off its assets, subsidiaries, or divisions in order to maximize the parent company’s value and efficiency. It can be thought of as the opposite of investment – instead of expanding a company’s holdings, divestment is about reducing them.

When a company is divesting, it might sell off under-performing subsidiaries, departments, real estate holdings, intellectual property, financial assets, or equipment. The money earned from these sales can then be used to reduce debt, invest in higher-performing areas, make capital expenditures, or pay special dividends to shareholders.

Divestment can be driven by internal strategies (e.g. corporate optimization) or external pressures (e.g. social or political activism or regulatory actions).

Types of divestments

Divestment can take many forms, including spinoffs, equity carve-outs, direct asset sales, and split-ups.

Spinoff

Spinoffs are when a parent company separates a business unit or subsidiary into a new, independent entity. Rather than selling the new company to outside investors, shares are distributed to existing shareholders on a pro-rata basis. This means investors now hold stock in both the parent company and the newly created business.

Spinoffs are often used when two business units within a company have different growth prospects or risk profiles. By separating them, the market can value each entity independently, potentially offering greater shareholder value. These types of transactions are usually tax-free and non-cash.

Equity carve-out

An equity carve-out is when a parent company sells a minority stake in the subsidiary through an initial public offering (IPO). This creates a new pool of shareholders and allows the business to raise capital while maintaining operational control of the carved-out entity.

After a carve-out, the parent company and subsidiary operate as separate legal entities, but the parent usually retains a majority stake and influence over important decisions. Equity carve-outs are often used by companies looking to finance growth opportunities for a subsidiary but wanting to maintain strategic oversight. They can also serve as a first step towards a full spinoff or sale in the future.

For example, Fiat Chrysler Automobiles (FCA) executed an equity carve-out of Ferrari in 2014, eventually selling shares through an IPO while retaining an initial majority stake.

Sell-offs/liquidation

Sell-offs are the most basic form of divestment, where a company sells a business unit, asset, or subsidiary directly to another party in exchange for cash. This is often used to raise capital quickly or exit non-core operations.

Direct asset sales are commonly used when a company needs quick liquidity, is restructuring, or exiting underperforming or non-core business areas. When done under financial pressure, a direct asset sale can result in assets being sold far below their market value.

Liquidation happens when a company is winding down its operations entirely, usually due to insolvency. In this case, all a company’s assets are sold and used to pay creditors.

Split-ups

A split-up is similar to a spin-off, but instead of simply distributing shares, shareholders are given the option to retain their shares in the parent company or exchange them for shares in the newly formed entity.

Split-ups usually result in the original parent company ceasing to exist and shareholders moving their investments into one of several newly formed, independent businesses.

Major reasons for divestments

Divestiture strategies can be driven by many reasons, but three of the core goals are financial, social, or strategic.

Financial goals

One of the main reasons for divestment is raising funds to pay down fines, bills, or other debts to help companies avoid bankruptcy. Companies might also sell off underperforming divisions to improve profitability.

Sometimes, a company’s ‘breakup value’ may be worth more than its total market value. In other words, its parts have more value individually than the business as a whole. In these cases, divesting certain assets can provide more value for shareholders than keeping the company whole.

For example, CSX Corporation made divestments to focus on its core railroad business and generate funds to pay off its debt.

Social goals

Companies might also divest for ethical, political, or social reasons, often driven by pressure from shareholders or the broader public. Common examples of social divestment include:

• Fossil fuel divestment to combat climate change
• Tobacco industry divestment
• Factory farming divestment in response to animal welfare activism.

These types of divestments can help a company align its investments with societal values and reduce reputational risk.

Optimization of business performance

The most common reason for divestment is increasing operational efficiency by shedding under-performing, non-core business units, products, or branches. This allows a company to concentrate its resources on high-growth areas and core operations.

For example, Ford Motor Company has divested several of its non-core brands over the years, including Jaguar and Land Rover, so it can focus on its core automotive business.

Divestment vs disinvestment

Divestment and disinvestment are sometimes used interchangeably, however they are slightly different. Disinvestment generally refers to selling shares in small quantities at a time, allowing companies to raise capital without giving up control of the asset or subsidiary. Divestment, on the other hand, usually involves selling a controlling interest or an entire business unit.

Divestment vs liquidation

Divestment is also different to liquidation, although both involve selling assets in exchange for money. To recap, divestment is part of a broader business strategy and involves selling a profitable part of a business in order to raise capital, improve efficiency, or refocus on core operations.

Liquidation, however, usually happens when a business is no longer profitable and there are no buyers interested in purchasing the company. It involves selling off all assets to repay creditors and ultimately close down operations.

In short, divestiture happens when a business is still profitable, while liquidation happens when a business needs to pay off outstanding debts.

Divestment vs M&A

Mergers and acquisitions (M&A) involve acquiring a company or combining two or more companies. It’s often done to expand operations, enter new markets, or gain a competitive edge.

The main difference between divestiture and M&A is that divestiture is about selling business units or assets, while M&A is about investing in them. So why would companies divest instead of M&A? There are a few reasons:

• Focus: Divestment allows companies to focus on their core competencies and shed non-core or underperforming units that may be losing money or distracting from strategic goals. M&A, on the other hand, can lead to a company losing focus on its core business and becoming less efficient.
• Cultural fit: M&A sometimes leads to merging different corporate cultures, which can create friction and make it difficult to integrate operations. Divestment avoids this by selling off units or assets that don’t align with a company’s culture.
• Cost and complexity: M&A transactions tend to be complicated and expensive, requiring careful due diligence, negotiations, and post-merger integration. Divestment is often simpler and less expensive.
• Risk: M&A carries significant risks as far as integrating two or more companies with different business models and strategies. If a merger fails, it can weaken the entire company. Divestment involves selling off risk-heavy units to more appropriate owners who can take over.
• Regulatory hurdles: M&A deals may face regulatory scrutiny and require approvals that can be time-consuming. Divestment may not require regulatory approval, which can make them faster and more certain – especially if the divestiture was driven by regulatory pressures.

For some businesses, the most suitable strategy is a combination of both M&A and divestments. It's believed that companies that are actively involved in both acquiring and divesting generate as much as 1.5 to 4.7 percentage points higher shareholder returns compared to those primarily focused on acquisitions.

Pros and cons of divestments

Divestments are a major business decision, and like any other strategic move they can come with both benefits and drawbacks. Let’s look at the pros and cons of divestment below.

Pros

The advantages of divestment include:

• Refocus on core business: Divestment allows companies to shed non-core or underperforming units so they can concentrate their resources on more profitable segments. This usually improves operational efficiency for the existing business.
• Increase business valuation: Separating businesses with different growth rates means they can be independently valued by the market, potentially creating more shareholder value.
• Improved transparency: When a company has fewer business units, its financial statements become simpler. This makes it easier for investors to assess operations and performance.
• Cash generation: Selling off business assets can raise funds to pay down existing debt, reinvest in growth, bid for acquisitions, or return capital to shareholders through dividends or buybacks.
• Reduced risk: Eliminating underperforming assets or business units can help reduce a company’s risk.
• Flexibility and agility: Leaner companies, with less business units, can respond more quickly to changing market conditions.

Cons

• Cost complexities: Divestitures can sometimes be expensive, involving legal fees for the transfer of assets, evaluation costs, and severance payments for terminated staff. On top of that, removing a business unit can negatively impact a company’s cost structure. For example, the remaining business must absorb any fixed costs like rent or maintenance.
• Loss of asset value: Sometimes, companies may be forced to sell off their assets at a loss if market conditions are poor.
• Reduced diversification: Divesting a non-core business unit can reduce a company’s diversification, leaving it more vulnerable to downturns in its core market.
• Signaling: If a company doesn’t clearly communicate the reasons for its divestment, investors may misinterpret the move as a sign of financial distress.
• Difficult evaluation: It can be difficult to assess the true value of a business unit that previously operated as part of a larger group.

Current divestment campaigns

One of the most recent high-profile divestments was General Electric’s 2024 split into three smaller companies focused on aviation, healthcare, and energy. The company stated its goals for the divestment were to tailor capital allocation, drive long-term growth, and provide greater focus to each separate entity.

Another recent example was Johnson & Johnson’s spin-off of its consumer health division into a separate company, called Kenvue, in 2023. This divestment strategy allowed J&J to streamline operations so it could focus more on its pharmaceutical and medical device segments.

There have also been many recent divestment campaigns driven by social or political reasons. For example, in 2022, BP exited its 19.75% stake in Rosneft and other Russian businesses due to Russia's invasion of Ukraine. Similarly, Ben & Jerry's announced in 2021 that the company would no longer sell their products in Israeli settlements in the occupied West Bank.