Partial Spinoffs: The Progeny Beat the Parents

Partial spinoffs occur when a company keeps the majority of shares of the new enterprise. The company reserves the right, at some undisclosed time in the future, to sell in the open market or to further spinoff the remaining shares to its investors. Three such situations have been in the news lately: VMWare (VMW) and EMC (EMC), Nestle's (NSRGY.PK) and Alcon (ACL), Cypress Semi (CY) and Sunpower (SPWR). In each of these cases, the parent attempted to highlight a rapidly growing division by bringing it public.

EMC currently owns 85%, or 18 billion dollars worth of VMWare. Since EMC, as a whole, has a market cap of 32 billion dollars, Wall Street values EMC's underlying assets outside of VMWare at 14 billion dollars.

Cypress Semi holds 55% of Sunpower, a worth of 3.1 billion dollars. Cypress Semi has a 3.57 billion dollars market cap. If we take away the Sunpower holdings, the Street values Cypress at 0.47 billion dollars.

Nestle's owns 75% of Alcon, or 32 billion dollars. That's a sizeable chunk of its 178 billion dollar market cap. Nestle's hinted at the possibility of divesting its position in Alcon this month when its CEO said: "Alcon doesn't need Nestle and Nestle doesn't need Alcon anymore". That remark helped to drive down Alcon's stock last week.

So the question becomes which is better to own: the parent or the newly formed company? In each of above cases, whose stock price appreciated the most: the parent company or its more rapidly growing offspring?

From the graphs above, it appears that those who chose to own VMWare, SPWR, and ACL fared better than those who held their parent companies. It is extremely difficult for the parent company to benefit from a partial spinoff because:

1. There is a locked period in which the parent cannot sell its shares in the spun off division, a time when often the new stock can appreciate wildly (for example, VMWare).

2. There are significant negative tax repercussions of selling holdings in the new company.

3. Dumping a huge position in the market can drive down the spun off stock's price.

4. The spun off stock has by its nature a very small float. For high growth spinoffs, this creates a big demand for its stock and, hence, a faster appreciation than the parent company.

Comments

[#8:]

When does the lockup come off for each stock in your article and when that happens, would you go long the parent and short the spinoff?

2008 Feb 25 06:13 PM

[Stephen Ros...:]

Going by what has happened at CY/SPWR and NSRGY/ACL the parent company does not reap much of a benefit. It's just awfully hard for the slower growing parent to gain on its fast growing spin off. CY has actually been selling SPWR shares but CY's stock price has lagged SPWR. Nestle's has been free to sell or spin off more shares of ACL. EMC is just ending the lockup but has declared its not going to sell VMW shares in the near future. The message is that, when a company only partially spins off a fast growing division, you should buy the offspring and not the parent.
The graph of NSRGY/ACL above actually should be the ADR not the pink sheet one. ACL in that graph handily beats Nestle's. (see GOOGLE graph ACL vs. NSRGY).

2008 Feb 25 08:18 PM

[Stephen Ros...:]

finance.google.com/fin...

2008 Feb 25 08:28 PM