Strategic divestiture for market resilience and value creation

In June 2023, during its Capital Markets Day, Shell clarified that it planned to sell up to 1,000 retail sites in a company-wide effort to reduce operating costs. Today, companies face heightened pressure to drive revenue growth amidst dynamic market conditions, as demonstrated by VF Corp's scenarios, which required complex decision-making. In addition, a recent article from The New York Times confirmed that activist investors may take it upon themselves to secure board representation and pressure management teams to divest underperforming assets. Reshaping portfolios and reallocating capital have emerged as key levers for generating greater value. This includes strategic initiatives such as expanding digital capabilities, entering new markets, or divesting underperforming assets. Best practices include continuing to assess and optimize portfolio of assets, including potential divestment in a downturn.

The complexity of divestiture

A research by E. Feldman and the Wharton School of the University of Pennsylvania pointed out that companies create more value through divestitures (3.4% compounded monthly returns after one year) than through acquisitions (2.2% compounded monthly returns after one year), and their market valuations tend to be higher 12 months after a divestiture announcement (one-year pre-divestiture announcement 0.5x EV/EBITDA to one-year post 1.4x). During economic downturns, maintaining a commitment to long-term strategies becomes imperative. Divestitures offer an opportunity to refocus time, resources, and management attention on businesses that align most closely with core strategic objectives. This strategic alignment empowers companies to outperform competitors during stagnation and emerge stronger in the recovery phase.

Cognizant’s lifecycle approach:

1. Identifying underperforming businesses and strategic objectives in divestments
   Underperforming businesses often stem from a complex interplay of factors, including mismatches in business models, inefficient operating structures, unfavourable tax considerations, or limited strategic alignment. These challenges can impede growth, erode margins, or diminish the overall strategic importance of certain business units within a company's portfolio.
   
   Once a divestment strategy is determined, companies must execute with precision to maximize value creation during and after the transaction— including reallocating resources, optimizing capital deployment, and mitigating diversification discounts to enhance shareholder returns.
   
   
2. Executing divestitures effectively
   The successful execution of divestitures requires meticulous planning and coordination across multiple dimensions within compressed timeframes. It is essential to maintain business continuity and operational stability throughout the divestiture process, minimizing disruption to ongoing operations and stakeholder relationships.
   
   
3. Beyond the brand: Unlocking hidden value in divestitures
   In the process of divesting from a market, companies possess a wealth of valuable assets beyond their brand identity. These assets, ranging from intellectual property to strategic partnerships, play a pivotal role in driving value creation and market positioning:
   
   · Intellectual property and technology assets: Companies possess valuable intellectual property (IP) and advanced technologies developed through research and development (R&D). Patent portfolios, proprietary processes, and technological innovations can be monetized or leveraged in strategic partnerships, offering competitive advantages and revenue streams independent of the brand.
   
   · Human capital and expertise: The knowledge, skills, and experience of employees represent valuable assets that is redeployed or transferred to enhance value in other markets or industries. Retaining key talent or leveraging expertise contribute to sustainable value creation.
   
   · Data and analytics capabilities: Data assets, analytics platforms, and digital infrastructure must be repurposed or commercializedto inform strategic decision-making, optimize operations, and facilitate innovation beyond traditional market boundaries.
   
   · Sustainability and ESG initiatives: Commitment to sustainability, renewable energy, and ESG practices can resonate with stakeholders, enhance market positioning, and foster long-term value creation.
   
   · Strategic partnerships and alliances: Companies must leverage market expertise, technological prowess, and brand credibility to forge strategic partnerships with industry players to facilitate market access and diversify revenue streams beyond traditional business boundaries.
   
   · Market intelligence and strategic insights: Advanced analytics, scenario planning, and industry-specific research inform decision-makers about emerging trends, competitive landscapes, and growth opportunities in alternative markets or sectors.
   
   · Financial engineering and asset optimization: Explore financial restructuring, asset monetization strategies, or portfolio optimization techniques advanced financial models and valuation methodologies to maximize value from the divestiture process.
   
   
4. Transaction perimeter and strategy
   Defining the transaction perimeter—whether it involves a specific business segment, product line, geographic region, or a combination thereof—is critical. Sellers must ensure that the value proposition for the divested business remains compelling, attractive, and clearly articulated to potential buyers.
   
   
5. Preferred transaction structures: Excellence and operational optimization
   Choosing the right transaction structure is pivotal in achieving favorable outcomes. Sellers need to evaluate various market options, such as initial public offerings (IPOs), spin-off transactions, strategic acquisitions, or engagements with financial sponsors. Collaboration with investment bankers and tax advisors is essential to optimize transaction value and navigate complex deal structures.
   
   Beyond top-line considerations, it is essential to develop a thoroughly vetted cost structure that supports the target operating model of the divested business. Functional leads must be engaged to provide insights into market dynamics, inflationary pressures, and supply chain risks.
   
   
6. Human capital strategy
   Clear communication and strategic decision-making regarding human capital transitions are essential. Business leaders play a critical role in fostering employee confidence within the selling company and the divested business, ensuring continuity and performance during the transition.
   
   
7. Divestiture execution for RemainCo
   Successful execution for the remaining business—or “RemainCo”—involves managing potential stranded costs and ensuring seamless operations. The influx of cash from divestitures must be tightly managed to support strategic objectives such as investments, deleveraging, or shareholder payouts.
   
   
8. Learning from past divestitures
   Reflecting on past divestitures provides valuable insights. Companies often cite insufficient exit readiness assessments, changes in internal strategy, or management preparedness as common pitfalls. Aligning divestment decisions with long-term strategic vision and investing in comprehensive management preparation are critical lessons learned.
   
   
9. Tax implications of carve-outs
   Carve-outs have significant tax implications that extend beyond structural considerations. Changes in service agreements, supplier contracts, facilities, and business models can impact tax structures and operational dynamics, necessitating careful planning and expertise.
   
   
10. Planning for "Day Two”
    Anticipating post-carve-out scenarios (commonly referred to as "Day Two") is essential for optimizing business structures and profitability. This forward-looking approach enables tax leaders to provide strategic advice on future business operations, maximizing tax benefits and financial flexibility.
    
    
11. Financial planning and flexibility
    Day Two planning is instrumental in optimizing financing structures for the divested business. Aligning financial strategies with operational objectives can enhance financial value and business resilience in evolving market conditions.
    
    
12. Collaborative divestiture strategies and keys to succeed
    In lean economic times, companies can explore collaborative divestiture strategies beyond traditional majority sales. Strategic partnerships or engagements with financial sponsors offer alternative avenues to unlock synergies and create value through joint ventures or partial divestments. Successful collaborative divestitures require strategic clarity, meticulous partner selection, robust governance frameworks, and clear exit strategies.
    
    
13. Quantum risk management and uncertainty mitigation
    In the realm of divestitures, quantum risk management offers a paradigm-shifting approach to navigate uncertainties and optimize strategic outcomes, underscoring the need for probabilistic risk assessment and scenario planning to effectively manage the uncertainties associated with market exits. Here's an expanded perspective on leveraging quantum risk management:
    
    · Probabilistic risk assessment: Quantum risk management advocates for a probabilistic approach to risk assessment, moving beyond traditional deterministic models. By incorporating probabilities and uncertainty distributions, companies gain deeper insights into the likelihood and impact of various divestment-related risks.
    
    · Scenario planning and contingency strategies: Embrace scenario planning methodologies to anticipate diverse market scenarios post-divestment. Identify resilient pathways and adaptively respond to dynamic market conditions, thereby mitigating downside risks and optimizing value preservation.
    
    · Adaptive risk governance structures: Integrate adaptive risk governance structures that foster real-time risk monitoring and decision agility. Companies must implement cross-functional risk committees empowered to assess, prioritize, and respond to emerging risks in the divestment process.
    
    · Quantitative risk models and decision support tools: Leverage advanced quantitative risk models and decision support tools to quantify uncertainties and optimize risk-reward trade-offs. By harnessing sophisticated risk modeling techniques, companies enhance risk transparency and refine strategic decision-making during the divestment journey.
    
    · Resilience building and risk hedging strategies: Foster resilience-building initiatives and risk hedging strategies to enhance adaptive capabilities in turbulent market environments, mitigate exposure to market volatility, and optimize divestment outcomes.
    
    · Continuous learning and adaptive risk culture: Foster a culture of continuous learning and adaptive risk management within the divestment team, emphasizing the importance of organizational learning and iterative risk management processes to foster collective resilience in navigating uncertainties associated with market exits.

Divestiture readiness plan and Cognizant's approach

Developing an actionable divestiture readiness plan involves a systematic approach encompassing portfolio analysis, divestiture strategy formulation, meticulous preparation, and value creation initiatives to ensure that companies are operationally optimized and transaction-ready, driving sustainable value creation through strategic divestitures.

Cognizant's tailored approach to divestitures aligns with the strategic imperatives of value creation and operational optimization. Through a structured portfolio review process, Cognizant facilitates early identification of divestiture candidates, enabling companies to position businesses for optimal value extraction. This approach involves:

· Establishing transition leadership: Cognizant emphasizes the importance of establishing transition leadership to guide divestiture strategies and ensure seamless operational continuity.

· Setting up governance frameworks: Robust governance frameworks are essential for effective divestiture execution. Cognizant assists in establishing governance structures that streamline decision-making and mitigate operational risks.

· Evaluating operational dynamics: Understanding the operational intricacies of divested businesses is crucial. Cognizant conducts thorough assessments to optimize operational efficiency post-divestiture.

· Preparing comprehensive financial analyses: Financial analyses are foundational to divestiture success. Cognizant provides comprehensive financial evaluations that inform strategic decision-making and maximize transaction value.

By leveraging Cognizant's expertise in divestiture readiness and value creation, companies navigate market uncertainties with confidence, ensuring sustainable growth and shareholder value.