Asset Sales and Corporate Restructuring

You often hear that as part of a restructuring to improve its financial position, a company plans to sell assets.  GE is a focal point of such discussion currently and the company has sold off some divisions.  But before you accept the view that such actions are beneficial, you must ask yourself where the benefit comes from.  To answer that question, it is necessary to distinguish the operating value of the assets, which equals the present value of the expected future cash flows under current management, and the cash value, which equals the price at which the assets could be sold.

One possibility is that it makes sense to sell the assets because you have found a sucker who is not reasonably assessing the future cash flows.  This is just a version of the greater fool theory.  If a company can find a greater fool, then it is lucky.  However, such rare happenstances cannot serve as the basis for a systematic restructuring program, so let’s assume that all the potential buyers are rational and well informed so that there are no suckers.

In that circumstance, it makes sense to sell the asset only if the cash value exceeds the operating value.  But why would someone else pay more than the seller’s operating value?  It must be the case that the buyer believes he can operate the assets more efficiently.  This would be the case, for instance, if there were synergies or if the current owners lacked the skill to manage the assets effectively.

All this begs the question of why it makes sense for GE to sell assets.  True some of the assets like the power division may be struggling and losing money, but that just means they are not worth very much.  There is no reason to believe that they will be worth more to a potential buyer unless GE is mismanaging the assets, or the buyer can employ synergies that GE lacks.  Given the size and scope of GE’s businesses, the synergies explanation does not seem likely.  If GE is mismanaging the assets, the best solution presumably would be to solve the management problem, not to sell the assets.

Putting GE aside, the situations in which asset sales would be beneficial are likely to be quite rare.  Asset sales should not be thought of as some sort of restructuring panacea, but as a tool to be used only in unique circumstances where the sale value exceeds the operating value.