Ahead of the Curve: Is PE Turning to Carve-outs?

A 2018 Ernst & Young Global Corporate Divestment study revealed that 71% of respondents who recently made a major divestment said the sale was prompted by an opportunistic or unsolicited offer. It is likely that a majority of those unsolicited offers came from Private Equity investors. Additionally, a recent Pitchbook M&A report indicated that PE acquired approximately 22% of all North American and European carve-outs in the first three quarters of 2018 (1).

Private Equity buyers usually seek untapped value in a carve-out. In certain instances, these businesses have not been optimally structured nor received the appropriate level of strategic attention (i.e. the ‘corporate unloved-child syndrome’) and thus have greater value potential when PE resets the strategy of the business as an independent company to drive growth (2).

However, the competitive nature of the market means that private equity firms have to identify these assets early. Although most carve-outs will still go through an auction process, PE firms can proactively approach companies at an early stage of a process, or before they’ve even considered it (3). Also, while carve-outs can be a potential source of value creation for PE buyers, there is also an elevated degree of risk. There is typically imperfect data with a lot of allocated costs, two management teams, and intermingled personnel and services, making day one readiness even more critical (4).

Corporates can be motivated to complete a carve-out divestiture for a number of reasons, including a greater focus on core competencies, simplification or streamlining of operations, or requirement by anti-trust authorities. Coupled with a reduction to the corporate tax rate and willing PE buyers, companies should consider carve-outs in today’s economic environment.