Divestiture: Strategy’s Missing Link

The Idea in Brief

Why would you even consider selling your company’s sacred cash cow?

Because divestitures—even of steady performers—can strengthen your firm’s balance sheet and unleash resources needed for investment in higher-growth opportunities. Divestiture should be a major link in any company’s strategy. General Dynamics, for example, linked divestiture and acquisition so successfully that it boosted shareholder returns 400% between 1995 and 2001.

Yet for many executives, divestiture is a dirty word signifying weakness. So, managers avoid selling a unit until it’s obviously failing. When they desperately sell too late and at too low a price, they reinforce the stigma—and endanger their company’s long-term health.

The solution? Balance divestitures and acquisitions—strategically linking destruction with creation.

The Idea in Practice

The High Costs of Holding

When parent companies retain businesses—particularly successful ones—too long, costs can multiply:

• Costs to the corporation. Though well-established, low-growth units generate reliable profits, they often develop rigid, risk-averse cultures that repel entrepreneurial talent and investors—and prevent companies from exploring stronger growth prospects. Mature businesses can also consume precious investment funds and management time, dragging the entire company down.

• Costs to the unit. No parent company has the expertise to help a business excel through every stage of its life cycle. For example, a parent may understand how to seed a new business but not grow it. If the parent is no longer adding distinctive value but refuses to sell a unit, both entities suffer.

• Depressed exit price. Most companies unload units after years of poor performance—at fire-sale prices. But even sound businesses eventually stop satisfying shareholders as much as their younger peers, because capital markets stop rewarding steady track records with soaring share prices. The simple solution? Sell sooner.

Divesting Proactively

To make divestiture part of a routine strategy for doing business:

1. Prepare your organization. Repeatedly explain to employees how systematic divestiture protects the corporation’s long-term health. Introduce mechanisms to ensure regular divestiture planning. For example, “date stamp” units and annually assess their growth, margin, return on capital hurdles, ability to become industry leaders, etc.

2. Identify divestiture candidates. Establish four concrete criteria:

• a unit’s impact on the corporation (cultural fit, talent attraction, management-time consumption, shared R&D, etc.)

• the corporation’s impact on a unit (“Would another parent better help that unit excel?”)

• a unit’s ability to beat market expectations

• the company’s optimal portfolio (“What’s our best combination of businesses, based on cross-unit synergies and Wall Street’s view of the company?”)

3. Execute the deal. Identify buyers. Select a sale structure (a cash sale? spin-off to shareholders?) that minimizes costs to unit and parent. Keep unit employees focused during the process, perhaps offering additional incentives to meet targets.

4. Communicate the decision. Don’t announce the sale until completion of the deal seems likely. Communicate the reason for the sale concisely and simply. For example, at PerkinElmer, units that can’t attain market leadership or double-digit revenue growth become divestiture candidates.

5. Create new businesses. Reinvest freed-up funds, management time, and support-function capabilities in new growth opportunities; e.g., strengthen remaining businesses, or start or acquire new ones.

Smart apple farmers routinely saw off dead and weakened branches to keep their trees healthy. Every year, they also cut back a number of vigorous limbs—those that are blocking light from the rest of the tree or otherwise hampering its growth. And, as the growing season progresses, they pick and discard some perfectly good apples, ensuring that the remaining fruit gets the energy needed to reach its full size and ripeness. Only through such careful, systematic pruning does an orchard produce its highest possible yield.

There’s an important lesson here for managers. Although most companies dedicate considerable time and attention to acquiring and creating new businesses, not to mention refining their existing operations, few devote much effort to divestitures. But like the annual pruning of apple trees, regularly divesting businesses—even some good, healthy ones—ensures that remaining units reach their full potential and that the overall company grows stronger.

Some executives do understand the value of a well-planned divestiture program. Divestiture was, for instance, a cornerstone of General Electric’s strategy under Jack Welch—every bit as important as mergers and acquisitions. During the first four years of his tenure as CEO, Welch divested 117 business units, accounting for 20% of GE’s assets. Sandy Weill, now chief executive of Citigroup, made 11 significant divestitures while leading the Travelers Group through the 1990s, and he recently announced plans to spin off the Travelers Property Casualty business from Citigroup. Richard Wambold, CEO of Pactiv, a specialty-packaging company, has sold six businesses since 1999, using the proceeds to strengthen the company’s balance sheet and invest in high-growth opportunities. Greg Summe, CEO of PerkinElmer, has used a combination of divestitures and acquisitions to completely reshape his enterprise, transforming it from a supplier of low-margin services to the government into an innovative high-tech company.

Other managers can also use divestiture to strengthen and rejuvenate their companies, but only if they look beyond the stigma currently associated with selling off businesses and embrace divestiture as vital to their strategies.

Too Little, Too Late

In a study of the performance of the 200 largest U.S. corporations from 1990 to 2000, McKinsey & Company found that those companies that actively manage their business portfolios through acquisitions and divestitures create substantially more shareholder value than those that passively hold their businesses. One hundred dollars invested in the average active manager in January 1990 would have been worth $459 by the end of the decade; that same $100 would have grown to only $353 if invested in the average passive manager. We also found significant differences in performance among the active managers. Those that balanced their acquisitions and divestitures performed better than those that focused more narrowly on either acquiring or divesting. (See the exhibit “Active Portfolio Management Pays.”)

We also discovered, however, a strong bias against divestiture. Of the 200 companies we studied, fewer than half divested three or more substantial businesses—those with a disclosed worth of at least $100 million—during all of the 1990s. And only 20% divested more than a half dozen substantial businesses. Acquisitions were much more common than divestitures. Altogether, the 200 companies bought 40% more businesses than they sold—a finding that’s consistent with an earlier study, conducted by Constantinos Markides of the London Business School, which found that large companies completed 34% more acquisitions than divestitures during the 1980s.

When companies do divest, they almost always do so reactively, in response to some kind of pressure. If you doubt that, try this experiment: Pick a week at random, and tally all the divestitures that are noteworthy enough to be reported in your favorite business newspaper. For each one, check to see how analysts and journalists explain its rationale. Invariably, you’ll find that the overwhelming majority of divestitures are done under some sort of pressure—perhaps the divested business is suffering heavy losses, the parent has a suffocating debt burden, or Wall Street analysts have turned negative.

In studying nearly 50 of the largest divestitures completed over the past four years, we found that more than three-quarters of them fit this reactive model. And most of these were not just done under strained circumstances; they happened only after long delays, when problems became so obvious that action became unavoidable. An earlier study by David Ravenscraft and F.M. Schrerer backs up this point. They found that divested businesses had below-average operating profits for seven years prior to being sold. (See the exhibit “Most Divestitures Are Reactive.”)

Clearly, corporations divest too little, too late. Why? The reluctance to divest, we’ve found, is rarely purposeful. It’s not part of a well-planned strategy. Rather, it reflects a pervasive belief in business that, while acquisitions are marks of strong, growth-focused executives, divestitures signal weakness and even failure. This stigma is prevalent in the top management ranks of many companies but is felt most strongly within divested businesses themselves. As Pactiv’s Wambold explains, “Managers of divested businesses can think that they have failed or consider themselves second-class citizens.” This attitude feeds on itself. When managers postpone a divestiture until a unit is obviously failing, they guarantee that the move will be seen as an act of desperation, further reinforcing the negative connotations of divestitures and making executives even more reluctant to pursue them.

But executives shouldn’t feel ashamed to get rid of businesses. The marketplace shows, in no uncertain terms, that active divestiture is central to value creation. In their recent book, Creative Destruction, Richard Foster and Sarah Kaplan point out that while senior managers spend most of their time improving operations, capital markets are actively creating and removing businesses. Over the last five years, the annual turnover rate among companies in the S&P 500 was nearly 7%. That means that about 30 to 50 companies drop out of the S&P every year. The marketplace, in other words, is far more efficient than the typical company in disposing of businesses—and, not surprisingly, the returns generated by the market over the long haul far outstrip those of the average publicly held company. Divestiture is not a symbol of failure; it’s a badge of smart, market-oriented management.

The High Costs of Holding

Moving from reactive to proactive divestiture is not easy, of course. The desire to hold on to businesses, particularly successful ones, is strong. A business may generate substantial cash flows. It may deliver marketplace advantages through its relationships with key customer groups. Or it may have strong sentimental attachments for employees or other stakeholders, representing an important component of a company’s identity. For executives, selling a business can sometimes seem like treason. When Welch sold off GE’s housewares unit, for instance, he got angry letters from employees accusing him of destroying the company’s heritage.

But whatever the costs of divesting a business, holding on to a unit too long also imposes costs—both on the entire corporation and on the unit itself. Though these costs are often hidden, and accumulate slowly, they can be onerous, far outweighing the benefits of keeping the business. Let’s look at the three forms these costs take.

Costs to the Corporation.

The stability provided by well-established, profitable businesses is a mixed blessing. On the one hand, such businesses can produce cash and help keep earnings smooth and predictable. On the other hand, they can cripple a company, dulling its desire to create new, high-growth businesses. Determined business building often requires a sense of crisis—a clear and pressing need for growth. But stability breeds comfort, tempering any feeling of urgency and causing a company to stagnate. Long-held, low-growth businesses may provide the cash that allows a corporation to thrive today, but they can hinder it from preparing for a prosperous tomorrow. Some companies understand this fact. The defense giant General Dynamics, for example, divested several substantial businesses during the early 1990s to set the stage for an aggressive acquisition program—and a sharp increase in shareholder returns—later in the decade. (See the exhibit “How General Dynamics Shrank in Order to Grow.”)

Stability can also hamper growth in other ways. Companies dominated by mature, low-growth businesses often develop inflexible, risk-averse cultures—cultures that stifle innovation and free thinking, that make it difficult to attract energetic and entrepreneurial talent, and that confuse or even repel investors. PerkinElmer’s Summe confronted that exact situation when he took over as CEO early in 1998. He quickly launched a series of divestitures not just to reposition the company but also to attract a new team of executives. In a recent HBR interview, he recalled, “We knew recruiting talent for the senior ranks would be a challenge given PerkinElmer’s steady-as-she-goes reputation.” (It’s important to note that cultural conflicts can work the other way as well: Large, high-growth businesses can impose cultural costs on their slower-growing sister units—lenient attitudes about cost control, for example.)

Long-held businesses can also usurp more corporate resources than they merit. They can, for example, take up investment funds that might have gone to creating new businesses with stronger growth prospects. Or, more subtly, they can drain precious management time. In the absence of radical decentralization (which some companies have adopted but which can pose its own challenges), a senior executive team can only manage a limited number of businesses. A stagnant portfolio can thus leave a company’s management paralyzed, unable to focus on new opportunities. Pactiv, which every year reviews the role of each business unit as part of the overall company’s strategic-planning process, sees divestiture as a powerful way to free up resources. When explaining why the company sold its aluminum business despite its strong cash flow, CEO Wambold says, “It was using resources and management time we could use better elsewhere, and its cyclical nature [made Pactiv] more difficult for investors to understand. It didn’t offer the same potential as the other businesses.”

Finally, the wrong mix of businesses can confuse customers. That was one of the reasons AT&T decided, perhaps belatedly, to break itself up in 1996. The company was providing telephone services to the public but was also selling equipment to competitors. As the telecommunications markets became more competitive, customers of the manufacturing operation (now Lucent) grew concerned about conflicts of interest with AT&T’s telephone services business. In a 1996 speech, AT&T’s CEO Robert Allen explained, “If our network equipment business made the best products on the market, we wanted the Bell companies or British Telecom to buy from us without concerns that AT&T’s services business was also competing with them. Conversely, we wanted our services business to pursue its opportunities aggressively, unconstrained by fears that they might bother a competitor who was a potential customer for AT&T equipment.”

Costs to the Unit.

The company as a whole is not the only one damaged when a business unit is held too long. The unit also suffers. A corporate parent is not a mere caretaker of its businesses; it provides many of the skills and resources the businesses need to fulfill their potential. And different parents have different skills and resources. Some, like strong venture capital firms, understand how to seed a business, providing important capabilities in such areas as product development, sales and marketing, and alliance creation. Some understand how to grow it, offering expertise in, for example, operational planning and capital management. Others know how to manage mature businesses, providing assistance in operations rationalization, cost management, and the like. It is rare for a parent to have the expertise required to help a business through every stage of its life cycle. (See the exhibit “Matching Business Units and Parents.”)

The problem arises when a corporate parent stops adding distinctive value to a unit but refuses to let it go. At that stage—regardless of the unit’s financial contribution—the parent is no longer the natural owner of the unit and should consider selling it or spinning it off. That’s what Wambold did with Pactiv’s polyethylene-packaging business. Although the unit was the largest player in its market, the polyethylene industry remained highly fragmented, and Wambold saw that Pactiv did not have the resources needed to spearhead a further industry consolidation. As a result, it was not best positioned to take the unit to the next level of performance. So in January 2001, Pactiv sold the unit to Tyco, whose strategy was to expand its polyethylene business. As Wambold explains, “You have to know what business you are good at and let someone else manage the rest.”

In his autobiography, Jack: Straight from the Gut, Welch tells an illuminating story about how divestiture can liberate business units and their employees. He recounts how a general manager of an air-conditioning business that GE had sold told him about the sale’s salutary effects: “Jack, I love it here. When I get up in the morning and come to work, my boss is thinking about air-conditioning all day. He loves air-conditioning. He thinks it’s wonderful. Every time I talked to you on the phone, it was about some customer complaint or my margins. You hated air-conditioning. Jack, today we’re all winners and we all feel it. In Louisville, I was the orphan.”

Few corporations today actively consider whether they are adding unique value to each of their businesses. As a result, they may be harming the units’ prospects and undermining the morale of their people.

Depressed Exit Price.

The final cost of postponing divestitures is the direct impact on shareholder returns. Just as with acquisitions, a well-timed divestiture can contribute to shareholder value, and a poorly timed one can destroy value. Unfortunately, when it comes to managing business units, most corporations fail to follow the age-old maxim “Buy low, sell high.” Rather, as we’ve seen, they unload a unit only after several years of poor performance—at fire-sale prices. In some cases, industries are so turbulent that managers simply cannot foresee market peaks and troughs. In other cases, they may be able to identify the peaks but be unable to find a buyer willing to pay the going price. In most cases, however, companies just look the other way until it is too late.

Timing the market perfectly is not possible, of course. But a simple rule of thumb can improve a company’s timing considerably: Sell sooner. For the vast majority of divestitures we’ve studied, it’s clear that an earlier sale would have generated much higher returns. There’s a good, if disturbing, reason for this. As Foster and Kaplan’s research suggests, the longer a business exists, the worse it performs for shareholders. Total returns fall in a predictable way throughout its life cycle, as illustrated in the exhibit “Time Is the Enemy of Businesses.” The implication is clear. Managers should expect that, over time, even the best, most operationally sound businesses will cease to perform as well for shareholders as their younger peers. That’s not to say that the businesses will be unprofitable but rather that the capital markets will no longer reward their steady performance with substantial share price increases.

There is another, more immediate reward for not delaying the sale of a business. Several studies have shown that divesting companies outperform the market by between 2% and 5% in the period surrounding the divestiture announcement. When it comes to divestiture, there’s no good reason to procrastinate.

Making It Happen

When a coordinated divestiture program happens today in corporate America, it is more often than not a result of a change in a company’s leadership, as was the case with Welch at GE, Wambold at Pactiv, and Summe at PerkinElmer. Our research found that just over 50% of all significant divestitures take place within two years of the appointment of a new chief executive. Fresh to the role, the incoming CEO can assess the situation without bias, make decisions without fear, and take the hard actions necessary to unload businesses. But there’s no reason that incumbent CEOs can’t do the same. Yes, launching a pro-active divestiture program goes against the grain of current business practice and against the sensibilities of many managers and employees. But it’s necessary to keep a company profitable and growing over the long term. By following a rigorous, carefully managed five-step process, companies are more apt to get a proactive divestiture program off the ground, build support for it throughout the ranks, and ultimately make it a core element of their corporate strategies. (For an overview of the process, see the exhibit “A Template for Proactive Divestiture.”)

Prepare the organization.

“Today is a sad day for our company.” Those are the words that traditionally accompany divestiture announcements. And they underscore just how challenging it is to make divestiture a routine part of doing business. Because the stigma surrounding divestiture is so strong, people will naturally resist it, at least initially. It’s critical, therefore, that senior managers spend a lot of time explaining the rationale for divestiture and why it’s essential to the corporation’s health. PerkinElmer’s leadership team, for instance, prepared the ground for its divestiture program by talking directly and repeatedly with people throughout the organization. CEO Summe held regular “town hall” meetings with each of his businesses, explaining the company’s strategy and divestiture’s role in it. In time, as a company begins to enjoy the results of proactive divestiture, the stigma should fade, and divestiture should become an expected event in a business unit’s life cycle. Until then, though, management will have to assure employees that divestiture is a sign not of failure but of strength.

When a company is first building divestiture skills, it can be useful to introduce some formal forcing mechanisms to ensure that divestiture is routinely considered. A company might, for instance, “date stamp” all its businesses. The purpose is not to force a divestment by a specific date but rather to ensure that divestiture is seriously considered at regular intervals. Private equity firms have done this for years with strong results, and some public companies are starting to do the same. Pactiv, for instance, as part of its strategic planning process, reviews each business every year, reevaluating its contribution to the corporation’s overall strategic goals. The process takes several days, and the board of directors is intimately involved, providing an outside perspective. CEO Wambold comments, “We measure each of our businesses against strict criteria: Does it meet our growth, margin, and return-on-capital hurdle rates, and does it have the ability to become number one or two in its industry? We are quite pragmatic. If a business does not contribute to our overall vision, it has to go.” There are other ways to force consideration of divestiture, including imposing limits on portfolio size, setting fixed ratios of divestitures to acquisitions, or hiring people with trading mind-sets to sit on boards or fill key strategic roles.

Identify candidates.

When you shift from reactive to proactive divestiture, you suddenly have to think about selling off good, profitable businesses. That can be quite a shock to many people, even in the most senior management ranks. It’s important, therefore, to establish concrete criteria for analysis and apply them objectively to every unit. Four factors, in particular, should be considered:

The Business Unit’s Impact on the Rest of the Corporation

What effects, positive and negative, does the business unit have on other units and on the corporation as a whole? A number of analyses can be used to answer this question. A cultural audit, for example, can help assess whether a unit’s culture clashes with the rest of the corporation. An analysis of the CEO’s calendar can identify units that consume a disproportionate share of management time. Interviews with unit managers and a review of denied capital spending requests can identify opportunities that are not being explored because of competitive conflicts. Talking with recruiters can provide a sense of whether a unit is hindering the rest of the company in attracting talent. On the positive side, a unit should be examined to determine whether it furnishes the rest of the corporation with new growth options or other valuable benefits such as shared R&D resources.

The Corporation’s Impact on the Business Unit

What value does the corporation add to the business unit relative to other potential owners? This analysis has four parts: determining if the parent’s skills are what the unit needs to excel; deciding whether the prevailing corporate culture suits the unit; and quantifying the synergies between the business unit and the rest of the corporation. The matching skills, cultural fit, and synergies then have to be compared with what another owner could offer the unit.

The Unit’s Ability to Beat Market Expectations

Does the market currently overvalue or undervalue the business? This analysis can be difficult—management needs to estimate the unit’s value based on future expectations for performance and compare that number to the unit’s implied market value embedded in the stock price. But as difficult as it is, this analysis is essential because it will show executives whether the unit can realistically create value in the future. Because the analysis will sometimes reveal that existing businesses are overvalued, it will tend to make executives much more aggressive in selling off units and even in changing the overall identity of the corporation. The divestiture candidates pinpointed by this analysis may, for instance, include cash cows, which have always been held sacred. Why sell cash cows? Because they are in mature industries and have limited potential for achieving growth beyond the market’s expectations. While a cash cow can deliver benefits to a company, providing protection during downturns, for example, or being a source of funding for new investments, it usually contributes little to shareholder value. Indeed, a cash cow can be very risky to hold because its market value will often decline sharply if it loses any market share—an event that at some point happens to virtually all high-market-share businesses. Moreover, cash cows frequently impose some of the highest hidden costs of ownership on both the parent and its other business units.

The Corporation’s Overall Portfolio

What is the best combination of businesses for the company to hold? By examining the portfolio that would remain if different sets of divestitures occurred, you can see the impact on the overall company. This analysis can be both quantitative (assessing cross-unit synergies, for example) and qualitative (determining the value the corporate center provides to the business or the business’s role in how Wall Street views the company). It is important to note here that no one type of portfolio is best for every company. The purpose of a divestiture strategy should not be simply to transform a diversified, multibusiness company into a focused, single-business company. In fact, research by McKinsey’s Neil Harper and Patrick Viguerie has shown that the capital markets reward a moderate degree of diversification. Between 1980 and 2000, moderately diversified companies delivered shareholder returns that were at least as strong as, and in some cases stronger than, those of many focused companies and consistently stronger than those of highly diversified companies.

Our Research

McKinsey Corporate Performance Study

McKinsey tracked the performance of more than 2,000 companies in 27 industries over almost four decades in order to model capital markets in the U.S. economy. The study closely replicates the real economy, except that it does not encompass all industries or companies. Companies were included in the study when they were big enough to be part of the largest 80% of U.S. companies (regardless of whether they are still in existence today). Companies that were acquired or went bankrupt were deleted from the database.

Transaction History of the 200 Largest Companies from 1990 to 2000

Three McKinsey colleagues (Jay Brandimarte, Robert McNish, and William Fallon) identified 200 of the largest companies in 1990 that were still trading independently in 2000 and examined all their acquisitions and divestitures during that period that were worth more than $100 million. We used this database to rank and compare shareholder returns and transaction frequency.

Rationale of 50 Important Deals from 1998 to 2001

We identified all the divestitures mentioned on the front page of the Wall Street Journal during September of 1998, 1999, and 2000, and August of 2001. (For 2001, we used the deals mentioned in August, as the World Trade Center attacks made September an abnormal month.) We investigated the circumstances surrounding each of these divestitures in detail by looking at press comments and analyst research before and after the deal, as well as by analyzing the financial performance of the parent and the divested business unit in the years preceding the deal. We considered deals to have been done in reaction to pressure only when we found clear supporting evidence—we suspect that a far greater number of deals were actually done under pressure, but companies often prefer to hide that fact from public view. We also considered the timing of those divestitures that were done in reaction to pressure. Furthermore, we researched the tenure of the CEOs of the divesting companies.

These four analyses will highlight attractive candidates for divestiture. Not all of the candidates will end up being sold, however. Practical considerations—such as taxes, availability of buyers, market reaction, payment mix, use of divestiture proceeds, and dilution of earnings—also need to be taken into account. Such factors can narrow the list of candidates and can place constraints on exit timing.

Some readers will argue that the practical issues should be considered first. We disagree. Many corporations overemphasize the practical issues and thus presume that divesting is impossible. By focusing on more strategic considerations at the outset, companies will build momentum for divestiture and will look at the practical constraints as problems to be overcome rather than as roadblocks to action. Greg Summe points out that fear of earnings dilution can often stop management from considering divestiture. As he notes, though, “Selling a great cash business will lower your earnings per share. But you can still do well by your shareholders by reinvesting the proceeds in a higher growth business, which should lead to a compensating increase in your price/earnings multiple.”

Structure the deal.

Once you’ve narrowed the list of candidates, you need to think about potential buyers and how best to structure the deal. You will typically have many options, from a simple sale for cash, to a spin-off to shareholders, to more complex structures involving two-step transactions and contingent compensation. Citigroup, for example, appears to be structuring its divestiture of Travelers as a two-step spinout, possibly to minimize its tax liability. Even with a straightforward sale for cash, you need to decide how to conduct the sale: Do you have an auction with many buyers, an exclusive negotiation with the most logical buyer, or something in between? As you consider your options, keep in mind your reasons for divesting. Most frequently, these reasons will lead you to favor simple, quick transactions that minimize the costs to the unit being sold and the parent. When considering costs, you’ll need to take into account not only transaction-related expenses but also the costs of time, complexity, and taxes. Because spin-offs can be done tax free, they can be particularly attractive in certain situations.

Many of the basic skills required in executing divestitures mirror those involved in acquisitions, such as coordinating the work of bankers, lawyers, and accountants. But there are unique considerations as well. You need to ensure that the employees of the divested unit are not distracted during the sale process. To keep employees focused on the business, PerkinElmer gives them additional monetary incentives to meet their operational targets. You also need to untangle the unit from the rest of the company. At a minimum, shared services such as human resources and financial management must be scaled back. In many cases, the links go much deeper, with business units sharing facilities, intellectual property, and people. While the challenges of separating businesses can sometimes seem overwhelming, it’s important to remember that the process can actually deliver substantial benefits, helping companies uncover ways to achieve greater simplicity and transparency in their remaining operations.

Communicate the decision.

There’s no getting around it: Telling a business unit that it’s going to be sold is tough. In some cases, it will make sense to deliver the message as soon as the unit is selected as a divestiture candidate. But doing so can backfire if the deal falls through. Therefore, as a general rule, we suggest holding off on the announcement until the sale appears likely. As Pactiv’s Wambold explains, “It is best to reduce uncertainty where possible, so once it becomes clear that a business unit is going to be sold, we are up-front about the decision with our people. However, when it is not yet clear, it can be best to delay communication. Telling someone that the unit might be sold increases uncertainty and can harm the business.”

Regardless of the timing of communication, the reasoning must be stated concisely and simply. GE’s Welch famously told his business units that they had to be number one or number two in an industry that fell into one of three categories: core manufacturing, technology, and services. If they failed that test, they knew precisely why they were being sold. Similarly, PerkinElmer’s Summe uses two simple criteria: If a business cannot attain market leadership or cannot deliver double-digit revenue growth, it becomes a candidate for divestiture.

Create new businesses.

The final step in a proactive divestiture program is, ironically, creation. As companies prune businesses, they also need to formulate expansion plans focused on strengthening remaining businesses, starting new ones, or making acquisitions. The goal should be to create a cycle of rejuvenation, through which the corporate portfolio of business is continually refreshed.• • •

Divestiture is not an end in itself. Rather, it is a means to a larger end: building a company that can grow and prosper over the long haul. Wise executives divest businesses so that they can create new ones and expand existing ones. All the funds, management time, and support function capacity that are freed up through a divestiture should therefore be reinvested in creating shareholder value. In some cases, this will mean returning money to shareholders. But more likely than not, it will mean investing in attractive growth opportunities. In companies as in the marketplace, creation and destruction go hand in hand; neither flourishes without the other.