The ability to sell off an asset strategically is as important as the ability to acquire the asset. This “sell-off” of an asset is known as divestment. The definition of divestment is “the process of selling an asset. Also known as divestiture, it is made for either financial or social goals. Divestment is the opposite of investment.”
Companies can divest for a lot of reasons, but most of the times divestment is done when they have a major restructuring. But it is not necessary for a company to divest immediately. There are times when the company would want to increase investment in order to give the unit an opportunity to turn its performance around. In order to decide whether to divest or not; companies can use tools like the BCG Matrix and decide or identify what asset or operation needs to be divested; for example, those products or assets which are identified as “DOG” in the BCG Matrix are the assets which require divestment. Now, if companies identify a product or asset as “COW” in the BCG Matrix; what should be done? These products and assets have a high chance of turning into a star or for that matter a cash cow overtime.
It is for this reason, companies come up with divestment strategies and divestment decisions. Divestment is as important as acquisition; hence companies try as much as possible to do it right. These divestment strategies and divestment decisions, hence help the companies to avoid expensive mistakes.
Why do companies divest? There are various reasons for companies to divest. The most important, as already mentioned – companies divest when they have major restricting; viz. when they are in major trouble. The second reason for a company to divest is, to obtain funds. A company needs funds that are important for keeping the business afloat. Another reason for companies to divest is, to focus on its primary business. The company would have probably acquired or taken over smaller businesses or the company may have bought businesses that are no way related to the company’s core activities. But now, the company is finding it very difficult to keep the main business productive; it is for this reason a company may probably divest and focus all its resources to the core activities of the business. Another reason for a company to divest an asset or acquired business is when it does not meet its strategic fit; viz. the company is unable to match its resources and capabilities with opportunities in the external environment.
One of the best examples, which supports the above points mentioned, is that of Tata Communications. An article in Livemint dated July 23rd, 2015 – “Tata Communication plans to sell data centre business”; as per the article, the firm plans to sell a 74 per cent stake in its subsidiary Tata Communications Data Centre. Further, the deal size would be around $300 million dollars and this would help Tata Communications reduce debt on its books.
Up until now we have spoken about the reasons and the advantages of divestment. It is interesting to note that, divestment made for short term cash needs will have a long term negative consequence. One of the most glaring consequences of divestment is cost. The company acquired an asset or business in or order to spread its fixed cost over two or more fixed assets or business units. After divesting, it is the remaining business units which have to absorb the fixed costs. Hence, this has a negative impact on the company’s cost structure.
One of the most recent example of divestment is that of the Indian government divesting 10 per cent of the stake in Indian Oil Corporation.
An article in the economic times dated August 22nd,”2015 – “With IOC, Divestment Train Rolls on Monday”. As per this article; the government wants to opt for private public enterprises; one of the reason can be ideological, viz. the government may want a liberal approach towards economic activities; and this is possible on through divestment.
According to the article; divestment secretary Aradhana Johri says that a lot of foreign institutional investors are showing interest. The government may also be divesting, maybe in order to develop links with international firms in order to get certain technologies transferred that are important for the business to survive.
Another reason for the government of India to divest the shares of Indian Oil Corporation is, maybe the government needs to contract out management because of its inability to manage.
Therefore it is important for companies to place as much importance on strategic divestment as much as it places importance on strategic investment.
Student, VJIM, Hyderabad