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Let's Spin it off?

Published on : September 2014
Author(s):Sunil Thacker
All change is not growth, as all movement is not forward (Ellen Glasgow)
 
The term ‘change’ in simplest form means going from one state to a new state. Although the word ‘change’ is broad enough to connote positive as well as negative change, the likelihood of ‘change’ unfold- ing positive or welcoming outcome cannot always be pre-determined. A well-conceived and planned change could however result in positive if everything related with the plan goes right
 
In corporate law, a company witnesses change in its constitution if there is addition or removal in its share- holding composition. From a commercial standpoint, companies change their business models or undergo internal restructuring to achieve desired objectives. One aspect of such corporate restructuring is spin-off which is gaining momentum within the UAE and rest of the GCC. Firms have understood and realize the core idea of the spin off – separating a business unit of a larger corpo- rate entity and establishing it as a separate business. Firms carry out mergers and acquisitions under the notion that the merged entities will result in formation of a new entity whose valuation will be greater than the sum of the parts. Likewise, spin-offs are generally associ- ated with overall value improvements such as surge in stock prices, improved financial performance, etc. In corporate law, a company witnesses change in its constitution if there is addition or removal in its share- holding composition. From a commercial standpoint, companies change their business models or undergo internal restructuring to achieve desired objectives. One aspect of such corporate restructuring is spin-off which is gaining momentum within the UAE and rest of the GCC. Firms have understood and realize the core idea of the spin off – separating a business unit of a larger corpo- rate entity and establishing it as a separate business. Firms carry out mergers and acquisitions under the notion that the merged entities will result in formation of a new entity whose valuation will be greater than the sum of the parts. Likewise, spin-offs are generally associ- ated with overall value improvements such as surge in stock prices, improved financial performance, etc. 
 
To illustrate, Company ABC is a company engaged in business of process equipment manufacturing whereby company caters to oil and gas industry in areas of constructing tank farms, pressurized vessels, pipelines, heat exchangers and other specialized equipment.
 
Over the years ABC developed a business unit that carried out maintenance and repairs of oil rigs that has witnessed unprecedented growth in revenues for ABC. ABC’s management team during one of the annual general meetings decided unanimously to spin off the rig maintenance division in to a new entity JKL. This decision was a result of several key matters including future sale of business, effective management, and independent valuation of a business unit as new entity.
 
Carve-out transactions such as Spin-offs are often a result of the beguiling math of diverse expansion. Although there may be empirical evidence suggesting multiple advantages of spin-offs and is conceptually precise, it is the implementation and execution of spin-off that can be challenging. In most jurisdictions, spin-off options would first pass through tax advisors, attorneys, operation team and finally approvals from authorities.
 
Spin-offs in UAE however call for a detailed planning and companies should exercise a higher degree of caution prior to actually implementing the spin-off. The UAE Commercial Companies Law (Federal Law number 8 of 1984, as amended) regulates operations of foreign businesses onshore in the UAE and free zones are governed pursuant to their internal regulations. Although company formation in Dubai or UAE may be one of the most simplest and attractive option to investors, spin-off involves several key considerations for company’s management on matters involving transfer of land parcels or properties, administration and assignment of lease, assignment of know-how, shareholding composition, appointment of key management personnel, regulatory approvals, transfer of employees, transfer of intellectual property, to name a few.
 
In a recent case, a limited liability company engaged in fast moving consumer goods in Dubai decided to spin off its garment division in to a new entity. Initial due diligence suggested that spin-off of the garment division may be practi- cally easier. However, during the course of due diligence, questions were raised in regards to assignment of franchise, setting up the carved out unit as a free zone entity, treatment of contingent liabilities related directly to garment division and transfer of nearly 7000 employees from the current undertaking to new entity. Spin-offs can have effect on Company’s rating and can also impact stock prices if a company intends to spin-off its core business unit which may raise question as to what the parent entity will be worth post such spin-off. Although a comprehensive legal and financial due diligence may save entities from unwanted surprises, due regard must be placed on management informa- tion systems and 
 
A company in the United Arab Emirates may be required to spin-off its share capital in matters involving invitation for public subscription (IPO). For instance, the Dubai Financial Markets (the DFM) that operates pursuant to trading rules and regulations of DFM and Securities and Commodities Authority (the SCA) requires firms interested in an IPO to offer a minimum fifty five percent (55%) of its shares to public.
 
Recently in March 2014, Dubai’s flagship real estate developer also decided to spin off its shopping mall business and raised upto $2.5 billion.
 
With the changing times, spin off has started taking pace in recent times with a lot of companies trying to spin off their non- core activities to not just focus on core activity but also to find correct worth of their non- core activities. Spin off also provides immunity from toxic assets and helps in making other companies immune to each other’s debts and liabilities within the group.
 
It is essential while spinning off, entities must chalk out an honest plan which will not just be clear about the revenues and expenditures of the spin- off company but will also have an action plan for the future of that company otherwise spin off can end up in a disaster.  
 
Spin off is a way to enhance the value of the company but if not used properly can turn out to be a mass destructor instead of a gold mine

 

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