Meaning of Corporate Restructuring
Corporate restructuring is like a strategic makeover for a company. It’s when they make purposeful changes to their rules, products, plans, how they work, and even their employees to fit with new rules and plans that will last. This is super important because many times, companies rush into restructuring because of sudden changes in the market or problems inside the company, without really thinking about long-term success.
Restructuring processes can occasionally be quite intense, often resulting in significant measures such as employee layoffs or even potential bankruptcy. Nevertheless, the primary objective typically revolves around minimizing the impact on employees to the greatest extent possible. In certain instances, this may also entail the sale of the company or forming strategic alliances with other organizations.
Businesses turn to restructuring as a strategy to secure their long-term survival. Sometimes, it’s not a choice, but rather something pushed by shareholders or creditors who think the current business strategies aren’t doing enough to protect their investments.
What is Corporate Restructuring?
The company actively decides to undertake corporate restructuring to fundamentally modify its capital structure or operations. Typically, corporate restructuring occurs when a company is facing significant challenges and is in financial trouble. Corporate restructuring is vital for eliminating the entire economic crisis and enhancing the company’s performance. Such change in the structure of the organization, maybe because of a takeover, merger, antagonistic financial conditions or unfavourable changes in business. For example: insolvency, buyouts, absence of combination between over-utilized workforce, divisions, and so forth.
Business organizations use this process to enhance their growth, achieve greater profitability, and improve their performance. By implementing these measures businesses can increase shareholder’s value and achieve maximum synergy. The objective of corporate restructuring is to achieve higher productivity and utilize all possible expansion opportunities.
Corporate Restructuring as a Business Strategy
Consider this as a proactive strategy employed by companies to foster growth. However, it is important to note that this approach deviates from natural or organic growth, instead resembling a strategic leap.
Corporate restructuring is like a company hitting the refresh button in a big way. It’s when they make significant changes to their business strategy, leadership team, or financial setup to tackle challenges and make shareholders happier by increasing the company’s value.
Navigating the Intensity
Sometimes, this restructuring process can be pretty intense, leading to things like laying off a lot of employees or even facing bankruptcy. However, the goal is usually to minimize the impact on employees as much as possible. In some cases, it might also involve selling the company or teaming up with another one.
Businesses turn to restructuring as a strategy to secure their long-term survival. Sometimes, it’s not a choice, but rather something pushed by shareholders or creditors who think the current business strategies aren’t doing enough to protect their investments.
Reasons Behind the Makeover
The reasons for this kind of makeover can vary. It could be because the company has lost its market share, which makes it less profitable, or its brand value is not as strong as before. Many times, it’s because companies are struggling to keep their best employees, or the way they are doing their business is changing, therefore they need to adapt to the organisational change to stay competitive. corporate restructuring is all about strategically reshaping a company to make it work better and be more successful.
A corporate reconstruction arises when a corporate group reorganizes its business structure like transferring assets between corporations that are members of the corporate group and generally involves selling off portions of the company and making severe staff reductions. Companies frequently undertake corporate restructuring as a component of bankruptcy proceedings or in the context of a takeover by another firm, especially during a leveraged buyout by a private equity company.
Optimizing the Business Portfolio
One of the purposes of corporate restructuring is to have an optimum business portfolio, by deciding whether to divest, retain or diversify the business. Companies can execute business portfolio restructuring through various methods, including amalgamations, merger, demergers, slump sales, takeovers, disinvestments, joint venture, foreign franchises, and strategic alliances.
A company makes a substantial change to its debt, operations, or structure through corporate reconstruction. Companies typically undertake this type of corporate action when they face significant issues that are causing financial harm and endangering the overall business.
Corporate restructuring demands an in-depth understanding of the nature of organizations, their internal and external threads, functions, processes and the cultural and human resource factors. It involves restructuring the assets and liabilities of companies, including their debt-to-equity structures, in line with their cash-flow needs to restore growth, promote efficiency, and minimize the cost to taxpayers.
Navigating Governance
Corporate governance refers to the framework of rules and regulations that enable the stakeholders to exercise appropriate oversight of a company to maximize its value and obtain a return on their holdings. It involves the rebuilding and dismantling of areas within an organization that need special attention from the CEO and management. Corporate restructuring frequently takes place following buyouts, corporate acquisitions, takeovers, or bankruptcy, and companies view it as essential when seeking to enhance efficiency, profitability, and access expert corporate management.
Related Articles:
- nature of business meaning
- nature of international business
- scope of international marketing
- determinants of economic development
- nature of capital budgeting
- nature of international marketing
Reasons for Corporate Restructuring
There are several reasons for corporate restructuring such as:
1) Induce Higher Earnings
Corporate restructuring has two fundamental objectives: to enhance earnings and to generate corporate value. The creation of corporate value largely depends on the firm’s ability to generate enough cash.
2) Control Core Competence
With the concept of organizational learning gaining momentum, companies are laying more emphasis on exploiting the rise of the learning curve. This can happen only when companies prioritize their core competencies. Experts often recommend this method as the best strategy for delivering higher profits to shareholders.
3) Divestiture and Networking
Companies, while keeping in view their essential competencies, should exit from peripherals. Businesses can turn this into a reality by actively forging strategic alliances, joint ventures, and agreements.
4) Ensure Clarity in Vision, Structure and Strategy
Corporate restructuring should focus on vision, structure and strategy. Companies should be clear about their goals and the extremes they plan to scale. It’s important to place a significant emphasis on addressing concerns regarding the time frame and the methods that can impact their effectiveness.
5) Provide Proactive Leadership
The management style has a profound impact on the process of restructuring. All successful companies have displayed leadership styles in which managers relate on a one-to-one basis with their employees.
6) Empowerment
Empowerment plays an important role in any restructuring process. Delegation and decentralized decision making provide companies with effective management information systems.
Characteristics of Corporate Restructuring
The selling-off of portions of the company, such as a division that is no longer profitable, can greatly improve the company’s financial standing. Companies often achieve staff reductions by divesting or closing unprofitable segments, and they streamline operations by consolidating or outsourcing redundant functions such as payroll, human resources, and training.
Other characteristics of restructuring can include:
1) The reorganisation of functions such as sales, marketing, and distribution.
2) Refinancing of corporate debt to reduce interest payments.
3) Changes in corporate management (usually with golden parachutes).
4) Outsourcing of operations such as payroll and technical support to a more efficient third party.
5) Moving operations such as manufacturing to lower-cost areas.
6) Renegotiation of labour contracts to reduce overhead.
7) A major public relations campaign to reposition the company with consumers.
8) Forfeiture of all or part of the ownership share by pre-restructuring stockholders (if the remainder represents only a fraction of the original company, It is termed as a stub).
Forms of Corporate Restructuring
Business firms engage in a wide range of activities that include diversification, expansion, collaboration, hiving off, spinning off, mergers and acquisitions. The different forms of restructuring may include the following:
1) Corporate Control
Corporate control includes greenmail and buy-backs where the management of the firm wishes to have complete control and ownership.
2) Expansion
Expansions may include acquisitions, mergers, tender offers and joint ventures. Mergers may either be horizontal, vertical or conglomerate mergers. In a tender offer, the acquiring firm seeks controlling interest in the company to be acquired and requests the shareholders of the company to be acquired, to tender their shares or stock to it. Joint ventures involve only a limited scope of activities for the participating companies.
3) Change in Ownership
Change in ownership may either be through an exchange offer, share repurchase or going public.
4) Sell-Off
Sell-off may either be through a divestiture or spin-off. Spin-off creates a new entity with shares being distributed on a pro-rata basis to existing shareholders of the parent company. Split-Off is a variation of Sell-Off. Divestiture involves the sale of a portion of a firm/company to a third party.
Methods of corporate restructuring
There are several methods of restructuring and each has its own set of advantages and disadvantages for companies and investors.
SELL-OFFS
A sell-off, also referred to as a divestiture, involves the complete sale of a subsidiary company. This strategic move is typically made when the subsidiary no longer aligns with the core strategy of the parent company. The market might not fully appreciate the combined value of both businesses due to a lack of synergy between the parent and subsidiary. In such cases, company management and the board may decide that it’s in the best interest of the subsidiary to be owned by a different entity.
EQUITY CARVE-OUTS
Equity carve-outs are typically favoured when a subsidiary is experiencing faster growth and achieving higher valuation compared to other businesses under the same parent company. This approach not only brings in cash from selling subsidiary shares to the public but also reveals the hidden value within the subsidiary. In the end, it aims to enhance the overall value for the parent company’s shareholders.
When a carveout is established as a new legal entity, it typically has a distinct board of directors. However, in many carve-out scenarios, the parent company still maintains some degree of control. This is often achieved through shared representation on the board of directors.
Many companies are increasingly using equity carve-outs as a strategy to boost the value for their shareholders.
Below is given a breakdown of how it operates:
i) Initial Public Offering (IPO): The parent company takes one of its subsidiaries public by conducting an initial public offering (IPO). In simpler terms, they offer shares of the subsidiary to the public.
ii) Partial Sale: Through this process, a portion of the subsidiary is effectively sold to external investors, creating a newly publicly listed company.
iii) Retained Control: Importantly, the parent company retains a significant stake in this newly traded subsidiary, ensuring it still has control over its operations.
Because the parent company possesses a controlling stake in both entities, they share common shareholders, creating a strong interconnection between them. Nonetheless, there are instances when companies choose to carve out a subsidiary not because it’s performing well, but rather because it has become a burden.
In such cases, success is less likely, especially if the carved-out subsidiary is burdened with excessive debt or has a history of operational challenges, even when it was part of the parent company. Additionally, if the subsidiary lacks a proven track record of revenue and profit growth, the outcome is further compromised.
SPIN-OFFS
A spinoff occurs when a subsidiary gains independence as a standalone entity. To achieve this, the parent company distributes shares of the subsidiary to its shareholders through a stock dividend. It’s important to note that this transaction doesn’t generate cash since it’s essentially a dividend distribution.
As a result, spinoffs are typically not chosen when a company needs to raise capital for growth or engage in business deals. In the context of spinoffs, the subsidiary transforms into a separate legal entity, complete with a distinct management and board of directors. Similar to carve-outs, spinoffs are typically undertaken to separate a healthy and well-performing operation from the parent company.
In most cases, spinoffs are a means to unlock hidden value for shareholders. Additionally, for the parent company, it serves to sharpen the focus of management. However, it’s worth mentioning that once spinoff shares are issued to the parent company’s shareholders, some of them may be inclined to quickly sell these shares in the market. This can potentially lead to a temporary decrease in the share’s valuation.
TRACKING STOCK
A tracking stock is a unique type of stock that a publicly held company issues to monitor the performance of a specific segment within the company. This stock enables investors to assign different values to various segments of the company. Let’s illustrate this with an example: Imagine a company with slow growth and a low price-earnings ratio (P/E ratio) also has a rapidly expanding business unit. In such a scenario, the company might opt to issue a tracking stock to allow the market to independently assess the new business unit’s value, often assigning it a considerably higher P/E rating.
Now, why would a company choose to issue a tracking stock rather than pursue a spinoff or carve-out of its fast-growing business for its shareholders? There are several reasons:
i) Retained Control: By using a tracking stock, the parent company can maintain control over the subsidiary. Both entities can still benefit from synergies and share resources such as marketing, administrative support functions, and a central headquarters.
ii) Operational Continuity: This approach allows the two businesses to continue their operations without undergoing the potentially disruptive process of separation.
iii) Strategic Flexibility: Importantly, if the tracking stock’s value rises, the parent company can leverage its ownership of the tracking stock for acquisitions or other strategic moves. This flexibility is a key advantage of the tracking stock approach.
Tracking stocks offers a way for companies to separately evaluate the performance of specific segments while preserving control, operational continuity, and strategic options.
Corporate Restructuring in India
Business Restructuring in India has been expensive and time-consuming. A strong requirement for a conducive regulatory environment, a complex tax framework, court processes and an endless list of compliance issues obstruct the process and impair competent and valuable rearrangement of resources through restructuring. With the advent of foreign investment following liberalization in 1991, the Indian industry experienced global competition within the country and it had to reorganize its own business in the manner best suited to competition and collaboration.
Incorporating International Concepts
All innovations and inventions in terms of corporate and principles happen abroad and then are carried into the Indian environment. Corporate restructuring, out of all emerging concepts of finding ways to serve shareholders better, has been a very successful concept abroad and it has been followed all the more in high-context cultures like India. The rapidity with corporate finance due to external factors like increased price volatility, a general globalization of the markets, development in technology, liberalization, tax asymmetric, regulatory change, increased competition and reduction in information and transaction costs and also factors like liquidity needs of business, capital costs and growth perspective have lead to practice of corporate restructuring as a strategic move to maximize the shareholder’s value.
In the initial years of economic liberalization, Indian companies failed to create sufficient value from acquisitions, as compared to multinational companies (MNCs). Over time, Indian companies have started developing the necessary capabilities to generate more value from deals. Reorganizing and restructuring of business has been an ongoing process over the past few years and corporates have resorted to restructuring in one form or another. The need for restructuring has been driven by various factors, including:
Consolidation of business in highly fragmented industries like cement where volumes play a pivotal roto in making optimum use of the capacities and achieving economies of scale in marketing.
Driving Factors for Restructuring
Companies which have diversified into unrelated businesses due to the licensing system, regulatory controls and high corporate taxes are now looking at the possibility of grouping this business under one corporate entity or moving out of their non-core business. The same business when spread over various companies of an industrial group proves to be an operational handicap since in the liberalized scenario it would not be possible to support the same business of another entity in the group, with financing and other related business supports without first having to go through the legal procedures of inter-corporate loan, guarantees etc. In short, restructuring brings about a high degree of focus and flexibility of approach. Indian industry needs to significantly restructure and reorganize. The existing legal provisions no doubt cover reorganization and restructuring, but the cost and the delay are so enormous that they either prevent or dissuade the parties from pushing.
Embracing Globalization
Multinational corporations are also entering India. Meanwhile, Indian companies, sensing attractive possibilities outside the nation, are also venturing abroad. Tata Steel has acquired NatSteel, a Singapore-based company, for a total sum of $486 million. In a similar vein, Videocon has bought the colour picture tubes business of Thomson for $290 million. These remarkable global ventures have become feasible because of the abundant availability of foreign exchange. They have also become a necessity because, in globalizing industries, only players with global scale and reach can survive.