M&A’s are not the easiest processes to carry out. There are many facets to pay attention to and so many aspects to consider. It goes without saying that not all M&A efforts become successful, and much of the reason for the failures can be pinned on mishandling or wrong steps undertaken by the parties involved in the merger or acquisition.

When it comes to carve-out transactions, they actually involve more than what meets the eye, and many M&A’s have become unsuccessful because they were not able to handle carve-outs properly.

M&A: Handling A Carve-Out

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This time you will learn about 1) what is a carve-out, 2) steps on how to do carve-outs, and 3) strategies for a successful carve-out.


The simple definition of a “carve-out would be the “partial divestiture of a business unit”. In the M&A context, it is the sale or divestiture of a business unit or division from a company. It is certainly different from your usual straightforward merger or acquisition transaction (which are essentially total or complete divestiture), since it is more complex and has a lot more areas that need attention.

There is a general impression that a carve-out means the outright sale of a business unit or division. But that is not the case. The company divesting that business unit will still retain an equity stake in it – and a share in the profits – even after the divestiture.

There are two types of carve-outs: equity carve-out and spin-off.

Equity Carve-Out: As the phrase implies, this strategy involves the sale of equity or ownership shares in a division or unit, allowing the business to have a cash inflow up front. This is often employed by businesses that are:

  • planning for a total divestiture in the future, but still needs cash presently to sustain its operations;
  • unable to find a single buyer that can afford the acquisition cost of the entire business; or
  • unwilling to let go of complete control over the unit.

Spin-off: Instead of selling just the shares of the business unit, the spin-off involves having the business unit become a standalone or independent business, with its own shareholders and management. However, just like the equity carve-out, the business may still have equity stake that is owned by the original company it was spun off from. In addition, the shareholders will come from the current pool of shareholders of the original parent company, since they are the ones given priority when shares in the new independent company were spun off.

Advantages of using a Carve-Out Strategy

There are many reasons why businesses prefer to employ a carve-out strategy instead of selling or purchasing an entire business or company.

  • It is a way for the selling company to capitalize on a business division or unit, especially if that unit or division is not part of its main operations, and it is not really making money off it. The parent company will still earn profits from it, even more than the buyer, since the parent company usually retains controlling interest.
  • Compared to a complete sale or a full initial public offering (IPO), a carve-out will save companies from paying capital gains taxes once they divest a unit, division or subsidiary, which are meant to be spun off afterwards anyway.
  • One fear of companies is that their business unit may be taken over by a rival or direct competitor. By resorting to carve out, they can still maintain control of the unit, and prevent competitors from taking over.
  • Carve-outs are useful in the sense that it gives the new independent companies a chance to become more stable before they are fully exposed to the competitive business landscape. By the time it does get exposed, it will have already gained solid footing.

Areas of Focus in a Carve-Out

Before a carve-out can be fully initiated and the parties move on to the transition stage, it is important to identify the areas that need the most attention. The main areas of focus are briefly discussed below.

  1. Payroll: If you are the one acquiring the business unit, one of the first things you should take note of is the continuation of the payment of salaries or wages of your employees or personnel. Check that the unit has a payroll account to handle the paychecks that will be given to the employees in the upcoming pay periods, particularly during the transition.
  2. Employment paperwork: Lay-offs often come with the territory when it comes to mergers and acquisitions. Some employees may be fired, or new ones may be hired. Do not let employment issues and mishaps cause a delay in the operations of the carved-out unit. Make sure all the paperwork regarding employment are taken care of, especially when it comes to those who are going to be separated from the company, and those who are fired by the original owner, but will be rehired as an employee of the new company. Having a solid human resources management staff will definitely ease the load.
  3. Management: You have to identify the person in authority that will handle or run the carve-out. If there is no suitable person who can do it, then you might want to consider hiring new management to make it work.
  4. Accounting: Take note of the accounting system being used by the original company in the business unit that is being carved out. You would have to coordinate with the accounting department to ensure that all accounting issues and problems have been settled. Is the accounting software or program part of the carve-out deal, or do you have to bring in your own accounting team with your own accounting program?
  5. IT and communication systems: IT will play a very important role in the carve-out, so you have to check what IT systems are in place, and if the company has a working communication system. Ownership of the IT systems must also be established. Do they belong to the original owner? Do they come with the deal? Or do you have to set up a new system and even install new software?
  6. Overhead: There is a need to do an accounting of the applied overhead, which covers all the services and processes that the original owner of the business unit performed. Buyers really cannot do away with the applied overhead, since it is a given that the original owner will have performed several functions, which you will take over once the carve-out has been effected.


Ernst & Young prescribed four steps each that buyers and sellers have to take in order to fully maximize the value of carve-outs.

For Sellers:

Step 1: Understanding the motivation of the buyer in divesting of a business unit or division.

This is so that sellers will know how to market the assets or unit to be carved-out to the potential buyers. Buyers have various reasons for eyeing a business unit for purchase, and you have to clearly be aware of what those reasons are.

This can be simplified by classifying the buyers or acquirers into two:

  1. Corporate strategic buyers are those that are selling because they are looking for assets that will complement their business, and the carved-out assets are meant to be integrated into their current operating structure. These types of buyers are looking to add to their existing businesses by acquiring additional units or subsidiaries which they plan to operate as a going concern. Thus, sellers are more likely to market the business unit by highlighting on its growth potential.
  2. Financial buyers are those that want to acquire a business unit with the plans of continuing its operations, or to spin it off into a standalone, independent company. The best example of these buyers are the private equity firms that purchase equity stakes in a business, spin them off into a standalone company, operate it and turn it into a profitable venture, and eventually sell it off at a higher cost. Sellers will then highlight the unit’s ability to make a successful turnaround and churn out the profits in the future because, naturally, buyers will want to acquire a business unit that will give them higher gains in the future, once they sell it off.

Step 2: Preparation of pro-forma carve-out financial statements for valuation, funding and compliance purposes.

There has to be a clear indication of how much costs will be incurred in the carve-out process, and immediately after the carve-out. Buyers would also want to see if they are acquiring a business unit or division that appeals to them, especially on a financial level.

Step 3: Maintaining transparency when it comes to costs.

As a seller, you must be fully aware of the value of a potential carve-out in order for you to be able to package your carve-out assets and market them better to potential buyer. All valuation factors must be taken into account, especially the after-tax effects, which are often overlooked.

Step 4: Considering the impact on the remaining business.

You have to identify the potential effects – particularly the negative one – which the remaining divisions of the business will go through after a unit has been divested or sold off. Will it affect the operations of the other units? Will it decrease the profitability of the other divisions? Will the costs increase as there are lesser units to carry the burden?

For Buyers:

Step 1: Know what you are getting.

This involves looking into the components of the unit you are acquiring – the assets, the accounts, the liabilities and other encumbrances, the manpower or personnel involved, and others. They should also be cognizant of the risks and challenges that come with the carve-out. This way, they can make adjustments to their plans, as well as come up with solutions to any possible problems that may crop up in the process.

Step 2: Perform cost evaluations.

It is not a good idea for buyers to simply pay up once the sellers name their price. You have to conduct an assessment of the cost presented by the seller. Get an inventory of the services utilized in the carve-out as the cost equivalent will be significant in the valuation of the entity.

Step 3: Always be ready.

While it is true that the parties involved may have mapped out a timeline or a schedule, there are still high probabilities of curveballs being thrown their way halfway through the process. That is why it is imperative that steps are taken to ensure that business processes can be performed at a moment’s notice.

Step 4: Pay attention to the details of the transition agreement to ensure that the integration of the assets acquired is smooth.

The details that must be noted most include the accountable people and their respective accountabilities, whether it is on the services that have to be performed during the transition, or the costs that are going to be incurred.


Following the steps strictly is not a guarantee that a carve-out transaction will be successful. There are strategies that can be employed in order to make it work, and work very well.

Having a set of guiding principles for both buyer and seller in place.

As mentioned earlier, there are different motivations on the part of the buyer on why it is acquiring a business unit or subsidiary. Those motivations will matter greatly once the transition negotiation stage is entered into. There is a need to develop guiding principles that both parties will agree on, in order to avoid conflicts, deadlocks and bigger problems later on, which could possibly result in the carve-out process being delayed or, worse, derailed.

The guiding principles should focus on, at least, the following problem areas:

  • Nature of services: This answers the “what” element. What services will be adhered to? In some cases, they focus more on the function of the service instead of the nature. That is too broad, and can cause confusion later on. By defining the nature of the services, (such as “accounts payable” or “accounts receivable” instead of the finance or treasury function), things will be slightly more pronounced and easy to identify.
  • Fees and cost calculations involved: In connection with the services that will be provided, there should also be guidelines on how much these services would entail. What are the fees applicable? All too often, conflicts will arise on the valuation of these services, so it is important to come to an agreement early on. In the same way, transactional and other costs will also have to be computed. The guiding principles should also expressly indicate the basis for calculating these costs, both for transparency and uniformity.
  • Timelines: Not all carve-outs take the same amount of time. Some are more complex than others, depending on a lot of factors, such as the nature and size of the business unit, and other internal and external considerations. The timeline that will be agreed upon must be deemed reasonable and realistic by both parties.
  • Performance standards: Similarly, the performance standards that will be used should also be reasonable. Parties tend to be quite demanding, without taking into account actual historical performance and possible problems that may crop up. One way to set reasonable performance standards is to look at historical data or perform benchmarking.

Preparing a clear destination in mind.

You know what you want to happen with the carve-out; that means you must already have a clear destination in mind. There is a need to clearly draw a picture of what the end result of the carve-out will be. We have already stated the areas of focus during carve-out. Those will also come into play here. Defining your destination is done by considering:

  • Assets, specifically those that will remain as assets of the business unit that has been acquired. This is also to closely identify the assets that will remain in the possession of the parent company.
  • Employees, specifically those that are critical to the carve-out. Who will have to stay with the parent company? Who will be most beneficial to the acquired company? What are the positions or functions that will be left empty and will need filling up during and after the transition?
  • Financials, or the state of finances of the acquired company. The key point here is whether the financial statements are truly representative of the financial performance of the company, particularly when it starts operating independently.
  • Services. During the transition, the seller is still expected to render some services, but it is also possible that the buyer will, in turn, provide services of its own. Identify what these services are, who will provide them, and how they will be provided.

Getting All the Right Resources Needed.

You have resources; the question is: are they enough? Or, more importantly, are they the right resources?

Additional resources must be considered, not just funding and manpower. Outsourcing has certainly become a popular option for companies, especially when they need a third party with specific expertise on the industry that the business belongs in.

The complexities involved in a carve-out make it a daunting prospect for businesses. However, it has far more enduring positive benefits in the long run, which is why we can expect to see it as an integral part of M&A transactions in the future.

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