Prof. Ian Giddy New York University Corporate Break-Ups

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 2 Mergers, Acquisitions & Divestitures l Mergers & Acquisitions l Divestitures l Valuation Concept: Is a division or firm worth more within the company, or outside it?

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 3 Breaking Up l Why—The business may be worth more outside the company than within l How—Sell to another company, or to the public, or give it to existing shareholders l Tax Aspects—As a rule if you get paid in cash you realize a taxable gain; not otherwise l Effect on Shareholders—The bigger the part sold off, the greater the percentage gain

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 4 Case Study: Pinault-Printemps-Redoute l Why? l How? l Tax Aspects? l Effect on Shareholders?

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 5 Why Break Up? l Pro-active l Defensive l Involuntary Examples of each?

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 6 Why Break Up? l Pro-active (GM tracking/selling DirectTV) l Defensive (ABB selling ABB Cap Lease) l Involuntary (ATT breakup, Enron) Examples of each?

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 7 Why Break Up? l Post-acquisition disposals l Shift of core business or strategy l Underperforming business or mistake l Lack of fit, refocus on core business l Avoid competing with customers l Antitrust compliance l Need for funds l Market or litigation risk

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 8 Tax Consequences l The spin-off and related techniques have the advantage that they can be structured so as to be tax free (USA) l Tax Code Section 355 requirements:  Both the parent company and the spun-off entity must be in business for at least 5 years  The subsidiary must be at least 80% owned by the parent

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 9 Breaking Up

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 10 Tax-Free Breakups l Spin-offs—pro-rata distribution by a company of all its shares in a subsidiary to all its own shareholders l Split-offs—some parent-company shareholders receive the subsidiary's shares in return for their shares in the parent l Split-ups—all of the parent company's subsidiaries are spun off and the parent company ceases to exist l Tracking Stock—special stock issued as dividend: pays a dividend based on the performance of a wholly-owned division

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 11 Tracking Stock l Tracking stock, sometimes known as letter stock or alphabet stock, is a class of stock designed to reflect the value and track the performance of a part of the issuer's assets, usually a separate business or group of businesses. Claimed advantages:  preservation of the efficiencies of a single corporation  ability of the market to more accurately value the respective businesses of the issuer l What does it really add?

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 12 Taxable Breakups l Divestitures—the sale of a division of the company to a third party l Equity carve-outs—some of a subsidiary‘s shares are offered for sale to the general public  Split-off IPOs—a private company offers a part of the company to the public l Bust-ups—voluntary liquidation of all of the company’s business

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 13 Divestitures Can Add Value l Shareholders of the selling firm seem to gain, depending on the fraction sold: % of firm soldAnnouncement effect 0-10% 10-50% 50% % +8%

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 14 Divestitures Can Add Value l Value of combined company l Value of seller without sub + value of sub (Seller may gain from more managerial focus, lower WACC, less conglomerate discount) l Value of sub – standalone value l Value of sub – acquisition value to another company

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 15 Break-up Computation Source: breakup.xls

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 16 Framework for Assessing Restructuring Opportunities Restructuring Framework 1 2 Current Market Value 3 Total restructured value Potential value with internal + external improvements Potential value with internal improvements Company’s DCF value Maximum restructuring opportunity Financial structure improvements 4 Disposal/ Acquisition opportunities Operating improvements Current market overpricing or underpricng 5 (Eg Increase D/E)

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 17 Using The Restructuring Framework ($ Millions of Value) Restructuring Framework 1 2 Current Market Price 3 Optimal restructured value Potential value with internal and external improvements Potential value with internal improvements Company value as is Maximum restructuring opportunity Financial engineering opportunities 4 Disposal/ Acquisition opportunities Strategic and operating opportunities Current perceptions Gap: “Premium” 5 $ 25 $ 975 $ 300$ 1,275 $ 350 $ 1,625$ 10 $ 1,635 $ 635$1,000 Eg Increase D/E

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 18 Marriott The Choice l the decision of whether to split Marriott Corp. into two companies--Marriott International and Host Marriott The Situation l decline in real estate values l has a significant percentage of assets in hotels it had planned to sell l difficult for Marriott to pursue growth strategies l market price of the company had declined significantly

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 19 Marriott: Assignment l Will this type of reorganization meaningfully improve the company? l What are the different way of effecting break-ups? In the Marriott case, are there reasonable alternative approaches? l Draw up a spreadsheet comparing the before-and-after capital structure of Marriott and its proposed component parts l How are bondholders affected? How can they protect their interests? l Make a recommendation, and justify it.

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 20 Marriott: Project Chariot Marriott Corp. Marriott Intl.Host Marriott Corp. n Intangibles n Franchises n Management Services n Distribution Services n Timeshares n Hotels n Airport and Road Plazas n Land

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 21 Marriott: Breaking Up

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 22 Marriott: Financial Restructuring

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 23 Corporate Restructuring l Divestiture—a reverse acquisition—is evidence that "bigger is not necessarily better" l Going private—the reverse of an IPO (initial public offering)—contradicts the view that publicly held corporations are the most efficient vehicles to organize investment.

Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 27 Contact Info Ian H. Giddy NYU Stern School of Business Tel ; Fax