Divestment is a form of retrenchment strategy used by businesses when they downsize the scope of their business activities. Divestment usually involves eliminating a portion of a business. Firms may elect to sell, close, or spin-off a strategic business unit, major operating division, or product line.
What is divestment strategy?
Divestment Strategy is a management decision to terminate or sell assets which are not central to the long-term strategy of a firm. An important and difficult task for firms is determining what business units are central to their long-term strategy and which ones are not. It is also difficult to agree upon what the boundaries of strategic units should be. Ideally, the strategic business focus should be as broad as possible, because this allows the firm to obtain high returns from its specialisation and economies of scale in each of its business units.
Nevertheless, there will be cases where diversification results in sub-optimal performance. Indeed, Columbia University professor David S. Collis found that diversification reduces the expected value of a firm’s stock price – i.e., increased diversification destroys value.
How does divestment strategy safeguard a business?
A company may decide to divest a unit in order to focus on more profitable business areas. Firms often find that the results of some business areas, can be disappointing. To avoid these low-return business areas, firm is constantly scanning its environment for merger candidates, divestment candidates, and other stimuli which can affect its strategic direction.
What is the importance of divestment strategy in business?
The purpose of divestment strategy is to confuse those who want to see tangible evidence of what is going on at Coca-Cola. Coca-Cola is a diversified company. It has branded products, such as Coca-Cola and Dasani. It also has branded products that do not bear the Coca-Cola label; Powerade is an example.
Coca-Cola uses its international operations to gain significant traction inside the marketplace. It makes sense that Coca-Cola would want to move into new, stable and profitable markets. However, Coca-Cola has not changed its focus away from its core business. This will not be the first time that Coca-Cola’s products have come under attack.
When you think about it, however, there is really never a bad time to profit from this company’s well-recognised brand. The Indian operation, for example, has significant potential for growth. The coffee shop business, in its first year of operation, will likely consume much of the capital of the Indian operation.
What are the considerations for divestment strategy?
Another challenge facing firms today is the difficulty associated with divesting a business unit. Successful divestment of a business unit depends on several factors. First, management must understand what makes divesting the business worthwhile. It should also understand the objective value of the business unit. The second consideration is picking the right strategic buyer; the buyer must understand the value of the business unit. The third official is selecting the right person to manage the divestment. It is usually an internal candidate, but an external candidate is also often chosen. The final important consideration is the timing of the divestment. The management must know when it is the right time to move forward with the divestment.
What are the benefits of divestment strategy?
There are several benefits of divesting a business unit. For one, divestment can make a firm’s core business more valuable. This is especially true if the unit is unprofitable or overstaffed. Divestment allows a company to pay more attention to a profitable business.
Secondly, divestment can improve a firm’s corporate image. All the bad news about a business unit does not necessarily reflect on the company as a whole. Disassociating from a losing business unit can make a firm look stronger. Lastly, divestment can increase a firm’s focus on higher-margin and more marketable ventures. The current environment does not support aggressive growth, but more nimble and focused companies will do well.
What are the disadvantages of divestment strategy?
The primary disadvantage of divestment strategy is its opportunity cost. The company could be wasting its resources on a weak business. The firm must also watch out for potential antitrust problems. The business must be sure that the divestment does not create monopolies or cartels.
What is the history of divestment strategy?
The concept of divestment strategy can be traced back to the 19th century. In 1844, the Erie Railroad was purchased by the New York Central Railroad. New York Central wanted to buy the property, but it had no cash. So what did New York Central do; it gave the Erie management $6 million in new stock and forgave $9 million in debts. New York Central went on to acquire the assets and liabilities of other lines, which allowed it to become the dominant transportation company on the east coast.
In today’s economy, divestment strategy is often about assets, not stock. For example, in 1998, IBM sold its personal computer division to the Chinese company Lenovo. In the 1990s, the top three U.S. airlines went through significant changes due to rising fuel prices and customer demand. Delta Air Lines and Trans World Airlines both left the Boston and Portland, Maine markets, respectively, to lower their operating costs. This change in strategy came at a cost to Boston and Portland’s economic growth.
Divestment strategy is a common tactic in business because it allows companies to focus on their core operations. By focusing on core businesses, companies can take advantage of economies of scale to become more profitable. The best example of this is Wal-Mart, which is currently world’s number one retailer. Wal-Mart tends to focus on markets where it has a distinct advantage over all competitors. Its focus on low prices and economies of scale are the keys to Wal-Mart’s success. Wal-Mart is the largest store in the world. In a theoretical sense, the world’s largest store has near infinite size, with no upper limit.
How to decide the right strategy for any company?
All business decisions have a risk associated with them. Some risks are minor, while others are potentially fatal. Determining the best course of action is usually about mitigating the risk; in some cases, this means pursuing a divestment strategy.
Companies face a myriad of strategic options. When making important strategic decisions, the company should decide the type of risks associated with each option. The company should also attempt to determine which risk to take.
Take Cash Now: This is the riskiest option because the company is sacrificing potentially enormous future profits.
Continue as is: The company faces a good chance of losing its niche in the marketplace.
Go for Organic Growth: This option also has tremendous risk. The company will face competition from low cost providers, and it will also have to acquire customers.
Go for Growth Through Acquisitions: This is probably the best option because of the potential for cost-cutting.
Go for Growth through Partnerships: This option works best if the company shares risks and rewards with a partner. It works well in situations where it is hard for either company to gain market share.
As you can see, there isn’t one clear answer for all central business decisions. A good general rule is to use logic and analysis to determine the right option.
What are the ethical issue in divestment strategy?
If a firm divests from a business unit, it may be avoiding an important ethical obligation. For example, an oil company may be responsible for polluting its lakes for years. Tax money will have to be used to clean up the lakes. If the company divests, tax dollars will have to clean up the lakes, but the company will still make money.
What a perfect time to plan and implement a divestment strategy that will relieve some of the financial stress that the company has been feeling. This divestment strategy will also lift the spirits of the employees who are concerned about the future of the firm.