ASIA is known to be a place where being big in business is better and being the biggest is the best, where small means less privileges and large gains access to government favors, where conglomerates and small enterprises struggle with bureaucratic clerks just to get their business permits. Thus, any hard-nosed capitalist in Asia would think that gobbling up enterprises here and there is the right way to go. Right?
Well, we’ve got it wrong, according to the research conducted by David Sadtler, Andrew Campbell and Richard Koch in their book “Break-up! How Companies Use Spin-offs to Gain Focus and Grow Strong.” While Asia is busy “conglomerating,” US and UK have been “deconglomerating.” While Asian companies have been merging, US and UK companies have been “demerging.” While we have been consolidating, they have been breaking up.
A phenomenon is happening in the US and UK instead of getting bigger, big companies have been opted to break themselves up in little pieces and in the process create more value for the businesses. “Breakup” cites famous companies in the US that have opted to self-destruct in the last two years: ITT Corp. broke up into ITT Hartford, ITT Industries and ITT Corp; AT&T broke up into NCR and Lucent; 3M spun off Imation (data storage and imaging products); General Motors gave birth to EDS (management of corporate information systems). The book lists 20 landmark breakups in the US from 1982 to 1996 and 10 in the UK for the same period. It also shows that from 1995 to 1996, breakups in the US accounted for a staggering $161.9 billion in dollar value of breakoff transactions. The authors write that “breakup” has become a major force, growing with apparently relentless vigor. Breakups on both sides of the Atlantic have suddenly become a key component of corporate change.
Breakups create more value
Of course, these large conglomerates wouldn’t be going into something unless they could profit from it. According to the authors, breakups happen because they create more value for the companies that emerge from the breakup. The benefits derived from each other spin-off companies taken together are worth more than those that would have been earned if the original company had continued to operate.
According to the authors, the international investment back JP Morgan analyzed the stock market performance of 77 spin-offs since they emerged from a breakup. Based on their study, they found out that the average spin-off performed 25 percent better than the stock market during the first 18 months after breakup and increased steadily over time. They also discovered that the parent companies showed superior returns after the spin-off.
Why breakups create value
With such performance, one wonders why breakups create value when here in Asia, it is mergers that seem to push stock market values up. The authors provide a commonsense answer: “Breakups create value because they eliminate value destruction. The forces of value destruction are ingrained in the multibusiness corporaton model.”
The authors explain that a conglomerate or Multi-Business Corporation (MBC) is one that usually has investments in diverse businesses, often in more than one industry and possibly operating in more than one country. To operate such a large structure, the MBC has a corporate center of headquarters that service the requirements of the different businesses on the assumption pf economics of scale. However, more bottlenecks than added value are created in this set-up. The authors quote from Gary Hamel and C.K. Prahald’s book “Competing for the Future:” . . . the bottleneck is normally at the top of the bottle. This, the authors believe that “the easiest, fastest, and most reliable way to remove the bottleneck is to break the bottle, allowing the separate pieces to perform without constraint.”
Causes of Value Destruction
Sadtler et al identify four causes of value destruction in a multibusiness company. These are: executive influence, linkage initiatives, central staffs and portfolio development.
The authors point out that executive influence (approving authorities, in our language) in a conglomerate can be highly beneficial, but tends to be often very negative. They write, write bluntly, that “the center does not understand the businesses it owns, and so will make worse decisions about them than would be made by the executives running the companies themselves. Lack of fit (between the center and the businesses) is surprisingly prevalent.” The authors ask: “why should the group CEO, in 10 percent of his or her time, be able to see better ways forward than energetic managers who devote 100 percent of their time to the business and are familiar with all its nuances?”
Linkages among various operations in the company is frequently cited as an advantage of the conglomerate. However, the authors note that the expected benefits from sourcing inputs (whether services or products) from other units in the company do not often materialize. Managers are constrained to get the maximum benefit from the transaction because they are in effect dealing with their own.
The authors identify the existence of staff departments at the corporate center as another source of value destruction. While they concede that good corporate center staffs and service departments can create value, they often don’t because “the policies they impose on the portfolio are frequently inappropriate, the services they provide are unresponsive, and their influence on the corporate psyche disempowering.” The authors note that “central service departments are disappearing under pressure from outsourcing, divisionalizing and decentralizing . . . (it) only makes sense if it can outperform the alternatives if it can do a better job than an outsourced service provider, and also do a better job than managers located within the business unit.”
Portfolio development is considered a value destroyer because “corporate ambition get in the way of sound portfolio development.” They explain that in the desire of the conglomerate to buy, they usually end up paying more than the value of the business that they want to acquire. The authors ask: “If buyers normally overpay, isn’t it best to be a seller?” They advise that “corporate center managers need to understand which businesses are likely to be worth more to their companies than to rival bidders.”
Asian managers can relate easily with the issues expressed in “breakup.” The arguments raised by Sadtler, Campbell and Koch may even be used as arguments againsy stifling setups not only in conglomerates but in other corporations as well.
“Breakup” can provide a good model for focusing business operations for businesses here that structurally are supposed already to be “broken up” but in actual management practice are really managed from corporate centers rather than allowed to operate independently as separate businesses.
For companies engaged in single businesses or in focused businesses, the book can be particularly valuable in making them aware of the need for executives and staff support groups to be totally responsive to the business or else suffer the bureaucratic maladies of conglomerates
As Asian companies approach the challenging future (often with trepidation), the book can make us realize that what’s important is really how the company can be flexible and responsive to the increasingly educated demands of the market.
The glaring realization that comes from reading the book is that the conglomerate will eventually become the dinosaurs of business and the fast, tightly run and super efficient company serving its specific market is what will successfully roam the economic landscape in the coming millennium.
So, will Asia take up the breakup challenge? Perhaps, when the economies of “know hoe” will replace the politics of “know who,” then Asian businesses can participate in the exciting transformations happening in the world today.
Breakup! How Companies Use Spin-offs to Gain Focus and Grow Strong
By David Sadtler, Andrew Campbell, Richard Koch The Free Press,
New York, USA 1997, 193 pages
Author: Regina Galang Reyes. First published in the Philippine Daily Inquirer May 4, 1998.
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