1. Spin-Off Research Joe Cornell, CFA
“Breaking Up is Good To Do”
The ABC’s of Spin-Offs
Spin-Off Research Joe Cornell, CFA

2. Why Spin-Off?
Spin-Offs are a source of significant market outperformance for investors
Spin-Offs often result in a higher aggregate value for the constituent pieces
Studies conducted by a range of researchers, from Penn State to McKinsey have documented that spin-offs, on average, outperform market indexes

3. Spin-Offs Outperform S&P 500
Bloomberg Spin-Off Index up 9.1% Year-To-Date Versus 2.6% for S&P as of June 4, 2012

4. Types Of Spin-Offs Type of Spin-Off Description Example
Parent firm distributes shares of the spun-off subsidiary to parent shareholders
Cadbury Schweppes / Dr. Pepper
Time Warner / AOL
Bristol-Myers / Mead Johnson Nutrition
Citigroup / Primerica
Sara Lee / Coach
Spin-Off
Carve-Out
Split-Off
Sell a portion or all shares of subsidiary through an IPO in the equity market
Parent company’s shareholders are offered shares of a subsidiary in exchange for the parents’ shares (exchange offer)

5. Spin-Off
A parent distributes the stock of a subsidiary in the form of a dividend
Following the distribution, the stockholders hold stock of the parent and the stock of the company that was spun off
Two independent companies exist where before there was only one
A spin-off effectively removes the parent from management and control of the subsidiary
Pure spins are tax efficient

6. Carve-Out
Parent company sells some or all of the stock of a subsidiary to the public in an IPO
The carve-out may pay a portion of the IPO proceeds to its parent
Parent companies sometimes link subsidiary IPOs and Spin-Offs (two step spin)
Parent would typically sell less than 20% Of subsidiary to the public and then distribute the balance of the stock to their shareholders in a tax-free distribution (Example: Bristol-Myers Squibb / Mead Johnson Nutrition)

7. Equity Carve-Outs
Parent sells Equity in the New Firm to the Public (IPO) and creates a New Publicly Traded Entity.
A carve-out brings cash into the firm, whereas a pure spin-off does not.
Carve-outs disperse assets and ownership in the assets to non-owners of the original firm.
Carve-outs are often an intermediate step before a full spin-off.

8. Split-Offs
In a split-off, the investor must decide between the new company and the parent.
Holders of the parent company stock must choose to continue owning stock in the parent or, instead, exchange some or all of the parent stock for stock in the spin-off.
The parent offers its existing shareholders stock in the subsidiary in exchange for shares in the parent company.
If the parent distributes 80% of the subsidiary stock, the split is tax-free. What’s more, in an effort to induce enough shareholders to swap stock, investors are offered shares in the subsidiary that are worth more than the shares being returned to the parent company. This offered “premium” explains why split-offs are often oversubscribed.

9. Selected Split-Off Transactions
Parent/Sub
Date
Size ($mm)
% of Parent Shares Repurch ased
Initial Prem.
Closing Prem.
Over Sub. Factor
Sub as % of Parent Market
AT&T / AWE
5/21/01
$7.8 B
10% 7% 1%
.87x
22%
Sara Lee / Coach
4/4/01
$998 M 5%
12.90%
6.90%
2.1x 6%
General Motors / Hughes Electronics
5/19/00
$8.27 B
14%
17.70%
10.10%
3.9x
70%
DuPont / Conoco
8/6/99
$11.7 B
13%
17.90%
3.30%
2.4x
20%
Lockheed Martin / Martin Marietta
10/18/96
$906 M 4%
17.50%
5.20%
5.4x
Eli Lilly / Guidant
9/18/95
$1.55 B
13.10%
8.80%
2.9x 9%

10. Drivers for Spin-Offs Lack of synergy De-leverage balance sheet
De-conglomeration
Focus in core business
Legal / regulatory
Undervalued assets
Monetize value of subsidiary
De-leverage balance sheet
Riskiness of the subsidiary
Avoid a takeover
Tax avoidance
Conflicts of interest

11. Successful Spins Easier for the markets to recognize underlying value
Pursue compelling business opportunities
Greater freedom to pursue new ventures, streamline production, and pare overhead
Accountability and direct incentives (stock & options)
Eliminates competitive disadvantages
Greater access to capital
Increase corporate focus for the spin-off and parent

12. Shift from Conglomeration to Pure Play
Era of conglomerate (1960s s)
- Firms diversify holdings to “smooth” earnings
- Market rewards empire building
Conglomerates fall out of favor
- Focus on cost
- Difficult to value all businesses in diversified companies
- Market discounts conglomerate stocks
Rise of the Pure Play (1990s - Current)
- Market rewards firms that concentrate on core business
- Competitive landscape pressures management to improve operating efficiency and clarify strategic decision making

13. Number of Completed U.S. Spin-Offs by Year