This article aims to shed light on the role private equity plays when it comes to well established firms, and in particular, its role in the corporate restructuring of large conglomerates. Corporate restructuring occurs when a firm with a presence in several different industries decides to split and disintegrate into smaller, distinct entities. While restructuring can often occur under financial pressure to avoid bankruptcy, other reasons for a firm to restructure can include preparation for a merger or acquisition, a change in strategy and long term-vision (e.g. slimming down), cash flow requirements, and reverse synergies. Restructuring often entails changes in processes, operations, departments and ownership, with new companies created as a result, presenting an attractive investment opportunity for a private equity funds. Through strategies such as disposition of under-utilised or unprofitable assets, managerial changes and outsourcing of operations, private equity firms possess the agency to change the trajectory of an underperforming company and increase its profitability.
Recent Occurrences of Corporate Restructuring
The fracturing of large conglomerates is a trend that has been recently gaining ground in the markets. Large firms such as General Electric, Toshiba, and Johnson & Johnson. have all made announcements of their intention to disintegrate, which would result in different branches of the companies becoming separate entities. This practice has been common amongst conglomerates in the past, but the first such announcement in the latest trend of divisions was made by General Electric, a US firm operating in several industries, which intends to create three separate corporate entities specialising in renewable energy, healthcare, and aviation. General Electric has been heavily indebted, and has been engaging in divestments of several assets to cover its debts. It hopes that through simplifying its business model it will be able to reduce its debt and reverse its underperformance in the equity markets.1 Another conglomerate, Toshiba, a multinational based in Japan, has announced its intention to pursue a three entity structure, focusing on infrastructure, electronic devices, and office equipment, a move it believes will be welcomed by its activist shareholders. Toshiba is also facing financial hurdles, stemming from an accounting scandal as well as the bankruptcy of a US energy subsidiary. In such contexts, division can help companies operating in different unrelated businesses overcome complexities associated with coordinating and overseeing different branches, as well as spill-over effects, where the underperformance of one arm can adversely impact the performance of the company as a whole.
However, the division of conglomerates does not only constitute a response to deficiencies, but also a strategy for companies to increase their profitability. With regards to Johnson and Johnson, the US conglomerate’s intention to split into two entities, one focusing on consumer goods and one dedicated to healthcare products is the outcome of the company’s aim to make operation between the two different industries more manageable. As the two divisions operate in industries influenced by different market conditions, the split will allow the management of each entity to focus solely on the consumer demand in their respective market area, consequently improving their products while accelerating profitable growth.
Private Equity and Corporate Restructuring
Private equity funds can influence the outcome of corporate restructuring by targeting assets they deem to be attractive. This may result in a conglomerate splitting into more or different divisions that initially planned as different equity buyers seek to acquire different assets. In the case of General Electric, units that private equity funds find particularly attractive are its avionics business, as well as the GE Unison division, as there is a prospect of those divisions to be sold at a better price in private markets compared to public markets.2 Other opportunities arise in the power and renewable energy portfolios of GE. Businesses from General Electric have already been sold to Advent International, Blackstone and other private equity buyers. Analysts from alternative investment funds point out that GE would be willing to carve out and sell several assets to private funds, since many of them carry large debts, an example being its long-term care insurance business. Such buyouts are likely to be beneficial for both GE and the new entities carved out from the split. It will enable GE to cover its existing liabilities and maintain a tighter balance sheet, while providing the newly formed entity with capital and expertise to accelerate its growth and improve financial performance.
In the case of General Electric, the decision was well received by shareholders, demonstrated by a rise in the share price to a 3-year high following announcement.3 On the contrary, activist shareholders of Toshiba would prefer the company to be privatised instead of divided into new entities.4 This is another way in which private equity funds become relevant within corporate restructuring. CVC Capital Partners, a UK private equity and investment advisory firm, had proposed a buyout of Toshiba for $20bn USD in April, a prospect well received by shareholders as indicated by an immediate rise in Toshiba’s share price. More offers were been made, with the company engaging in deliberations about privatisation with 6 private equity funds, but eventually declined all offers, citing concerns over uncertainty and antitrust regulations, and claiming that the offers were not compelling enough.5 Nonetheless, several activist shareholders questioned the decision not to hold an auction process with buyout funds. At the same time, should the dissolution eventually take place, Toshiba already expects offers from private equity funds for attractive business assets.
Conclusion
The examples presented illustrate the important role that private equity plays in all types of companies and stages of the development of a company. With the capital and expertise it offers, private equity can contribute not only to the growth of promising start-ups, but also to the restructuring, split or privatisation of major conglomerates for the mutual benefit of both the conglomerate and its newly independent entities.
Sources:
- “GE to split into healthcare, energy and aviation companies”, James Fontanella-Khan, Andrew Edgecliffe-Johnson, and Ortenca Aliaj, Financial Times https://www.ft.com/content/fb73e702-e885-4c20-8857-ddd29dc623af
- “Private equity buyers plot to carve up General Electric”, Antoine Gara, Financial Times https://www.ft.com/content/d2c421bd-0ad2-403b-a585-7b4f52a3abf7
- “GE investors hope split remedies years of lackluster performance”, Lewis Krauskopf, Reuters https://www.reuters.com/business/ge-investors-hope-split-remedies-years-lackluster-performance-2021-11-09/
- “Toshiba expects suitors for assets ahead of split”, Leo Lewis and Kana Inagaki, Financial Times https://www.ft.com/content/045c6366-3c54-4462-89b4-95246122c948
- “Toshiba expects suitors for assets ahead of split”, Leo Lewis and Kana Inagaki, Financial Times https://www.ft.com/content/045c6366-3c54-4462-89b4-95246122c948
