Every business has a best owner, which may—or may not—be your company. But recognizing that it’s time for a separation (which we define as spin-offs, split-offs, carve-outs, and other sales of businesses in a company’s portfolio) and actually executing separations effectively are very different propositions. Successful companies not only understand the separation imperative, but they also anticipate the challenges involved and take practical steps to meet them. As a result, they tend to create more value for a broader range of stakeholders.
How do they do it?
To learn more, we surveyed a broad range of experienced leaders and practitioners across a range of industries, geographies, and company sizes. We asked hard questions and received frank, thoughtful answers. To a large extent, the responses confirmed many long-held principles about separations.1 But they also revealed a few surprises. In this article, we’ll share the most compelling lessons.
The key findings
The survey found critical differences between programmatic dealmakers and companies that take different approaches to M&A. It also highlighted how important speed can be to an effective separation. In addition, the survey revealed that separations can be a lot more difficult to execute than they may initially appear—even for sellers that are determined to just “sell and forget,” intending to let the buyer sort details out.
Active management wins
Companies that regularly refresh their business portfolio, our survey found, reported better outcomes compared with those that undertook only a single separation. This underscores the value of accumulated experience and is consistent with our historical research. Moreover, respondents whose companies took a programmatic approach to deals managed to achieve at least partial success in their separation objectives, whereas 17 percent of nonprogrammatic dealmakers did not meet their goals. Active dealmakers reported that they maintained better control over resource limits. This indicates that these companies are more adept at balancing speed and value creation, as well as accurately gauging the resources needed for successful separations (Exhibit 1).
Interestingly, survey respondents from companies that conducted only one separation during the past three years report that their companies are less likely to engage in further separations in the next few years (Exhibit 2). However, this excludes external factors potentially fueling separations, such as an activist campaign.
Speed matters
Speed matters for the success of a separation. Prior analysis of spin-offs, for example, shows that companies that closed within seven months of a spin-off announcement had a combined positive three-year median excess TSR of 1.8 percent, while companies that took 19 months or longer to close generated excess TSRs of −19.1 percent. Companies that closed within eight to 12 months and 13 to 18 months of the separation announcement had excess TSRs of −0.8 percent and −4.3 percent, respectively.
Board deliberations can be a critical source of delay across separation categories. Our survey showed that only 23 percent of separations occurred without board-related delays. Delays in board decisions are strongly correlated with broader project setbacks. Survey participants shared that when board decisions are delayed, 55 percent of separations wind up being delayed as well, compared with just 11 percent when board decisions are timely. Strikingly, board-induced delays often lead to resource overruns; 59 percent of survey respondents reported cost overruns, compared with 26 percent who reported overruns when there were no board delays (Exhibit 3). These findings underscore the importance of early board clarity for successful separations.
A closer examination of board hesitation reveals several key concerns. The most frequently mentioned issues include valuation concerns of the involved assets, followed by the timing of the separation in relation to market conditions, sunk costs in the assets to be separated, and potential negative impact on the remainder of the company. These diverse concerns highlight the complexity of both internal and external perspectives that the board must consider. To ensure a successful separation, these issues should be addressed early and directly, with clear, data-driven arguments and thorough planning. Only then can the board make an informed decision.
Consider the case of a European chemical company, ChemCo, which attempted to separate its commodity and specialty businesses. Although the executive board quickly supported the move, the supervisory board hesitated due to concerns about high “dis-synergy” costs and potential effects on employees. It was only after presenting detailed analyses and directly addressing the supervisory board’s concerns that the company could proceed with the separation. However, this process delayed the separation by several months, ultimately resulting in the withdrawal of interest by a potential buyer. As a result, ChemCo in its entirety became the target of a hostile takeover, as opposed to a strategically managed separation with ChemCo in control.
Transitions can be harder than they first appear
For many sellers, it’s tempting to approach separations as “sell and forget.” Yet that approach often fails to maximize value creation, for seller and target alike. It’s hardly a given that both NewCo2 and RemainCo will outperform their peers. Separations are complex, and success often hinges on the effectiveness of preclose activities in laying a solid foundation for both companies. Navigating the often-opposing interests of both sides is crucial for a smooth transition. It may even be said that separations are like amicable divorces—at least, until sticking points materialize. Understanding the sticking points between RemainCo and NewCo is essential for leaders to manage these transitions effectively and avoid common pitfalls.
Our recent survey highlights the pressing issues companies face during separations, and the most frequent sticking points. Notably, 42 percent of survey participants reported that they struggled with the duration and pricing of transitional service agreements (TSAs). This includes a lack of clarity on which TSAs are needed due to the separation not being far enough along, service levels not being clearly defined, or differing views on the cost of services in the newly transactional relationship.
However, TSAs were not the only reported sticking point in transactions (Exhibit 4). Significant numbers of respondents also faced challenges with talent allocation, technology architecture, and target forecasts and business plans. The wide range of issues underscores the challenging discussions between RemainCo and NewCo, which often must be proactively managed for a successful transition.
A deeper dive into the two biggest sticking points—TSAs and talent allocation—provides more color.
Separation-related agreements. TSAs and long-term agreements (LTAs) are often essential for ensuring business continuity and facilitating a smooth separation for both RemainCo and NewCo during transitions. TSAs can provide additional flexibility, especially when the transaction outcome is uncertain or when there isn’t enough time to fully establish the target’s new operating model.
The separation survey highlights that one of the most prevalent challenges between RemainCo and NewCo is negotiating TSAs, with 41 percent of survey respondents identifying it as a top three issue (Exhibit 5). This difficulty stems from the newly transactional nature of the relationship, making it complex to negotiate the scope, pricing, and governance of TSAs—issues encountered by four out of five survey respondents in their last separation.
The challenge intensifies when LTAs need to be negotiated, as they bind the separated companies together for a longer period. Despite this complexity, LTAs are frequently used, particularly in the form of commercial agreements (34 percent) and supply agreements (23 percent). Only 39 percent of experts reported not using any LTAs in their last separation. Given that these agreements are long-lasting and will be established between two soon-to-be independent entities, it is crucial to negotiate them with the same rigor as one would with any other third-party agreement.
While TSAs and LTAs can be critical for maintaining business continuity, they often present significant negotiation challenges and may impede the full potential of transformation. Ideally, reliance on these agreements should be minimized. However, if they are unavoidable, it is imperative to negotiate them at arm’s length to ensure fairness and efficacy.
Talent allocation. Talent matters—even if it is leaving. Both the seller and acquirer want “A-team” employees to ensure that they are set up for success. However, as soon as talented personnel have been identified and allocated between RemainCo and NewCo, the question is how to retain and even excite high-potential employees during the separation. Our survey suggests that NewCos benefit from talent retention mechanisms; half of NewCos with such mechanisms in place reported that they met or exceeded their objectives, compared with just one-quarter of those without such mechanisms. From our experience, this is often the case in divestitures, where some employees might feel underappreciated. Effective leaders credibly frame the separation as a chance for new opportunities for all employees, not just those rated in the top 5 percent of performance.
The survey highlights just how central talent is to a deal’s success. More than 80 percent of respondents indicated they had at least one form of talent retention in place, though with greater emphasis on NewCo than on RemainCo. The most common levers for talent were monetary incentives (such as retention and performance bonuses) and career development, including opportunities for a greater leadership role. Survey responses were similar for both RemainCo and NewCo in this regard, except for acknowledgment for the separation effort and salary reviews (Exhibit 6).
Survey responses also strongly suggest that talent retention programs can significantly increase the chance of NewCo meeting or exceeding its objectives. RemainCo is clearly affected, too, though the effect appears to be more limited.
Achieving operational excellence
Taken together, survey responses support our own broader observations—separations should be part of a well-considered strategy, but creating value from separations takes work. Companies that adopt a programmatic approach to M&A tend to outperform their counterparts, achieving higher excess TSR and demonstrating the value of accumulated experience. The survey underscores the importance of timely board decisions, as delays often lead to broader project setbacks and resource overruns. Addressing board concerns early with data-driven arguments is crucial for a successful separation. As one survey respondent shared, “We wished we would have moved faster.”
The complexities identified by survey respondents highlight several critical insights for companies that seek to achieve a successful separation:
- Proactive management is essential. The potential for conflict among the parties is real, even when separations begin amicably. Without careful and strategic oversight, these negotiations can quickly become contentious, jeopardizing the success of the separation.
- Strategic use of TSAs. Companies often rely on TSAs to ensure that operations are not interrupted after a deal has closed. However, these agreements should be used as tools, not crutches. Minimizing TSAs with built-in time limits can help address stranded costs and promote self-sufficiency. Moreover, since TSAs are more likely to be needed in cases with greater entanglements, the likelihood of stranded costs is also likely to be higher. Although TSAs are not the reason for these costs, they can delay the timely addressing of stranded costs.
- Comprehensive planning and execution. Effective separation management requires a detailed road map, rigorous planning, and clear communication. This includes addressing talent allocation, technology architecture, and business forecasts to ensure both RemainCo and NewCo can operate independently and successfully from day one.
- Proactive risk management to secure valuation. Judicious forethought and proactive management can create conditions that add up to a higher valuation and propel better business outcomes. Identifying potential disruptions and mitigating risks, such as operational disruptions and technology disentanglement, are crucial for maintaining transaction value.
- Leadership and orchestration. Successful separation programs require engagement and orchestration across multiple workstreams. A steering committee provides strategic direction, while the separation management office orchestrates and drives separation design, planning, and implementation across workstreams. This structured approach ensures that all aspects of the separation are meticulously planned and executed with a value creation mindset.
Successful separations don’t happen by chance. Our recent survey demonstrates that thoughtful companies not only make hard strategic choices to commit to separations; they also then follow through on execution—addressing potential disruptions, mitigating risks through detailed planning and coordination, and creating conditions that encourage better outcomes. As economic conditions continue to rapidly change, value-creating separations should be more important than ever.
