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A company will sell its business to another company or spin them off as an independent company to improve its performance. While it is difficult for analysts to evaluate a corporate restructuring until details are fully announced, some companies will publicly announce “strategic reviews” before a restructuring action is announced. We will evaluate divestment actions with the aid of an example.

Bushido & Company is an audit firm based in Tokyo, Japan, offering assurance and management consulting services. The company reports and operates two segments: Consulting and Assurance. Exhibits 1, 2, 3, and 4 contain financial data on Bushido & Company.

$$ \textbf{Exhibit 1: Bushido Segment Data (Yen millions)} \\ \begin{array}{l|c|c} \textbf{Revenues} & \textbf{Prior-year Period} & \textbf{Last 12 Months} \\ \hline \text{Assurance services} & 120 & 100 \\ \hline \text{Management consulting} & 75 & 80 \\ \hline \text{Total Revenues} & 195 & 180 \\ \\ \textbf{EBITDA} & & \\ \hline \text{Assurance services} & 76 & 80 \\ \hline \text{Management consulting} & 5 & 6 \\ \hline \text{Total EBITDA} & 81 & 86 \end{array} $$

$$ \begin{align*} \textbf{Exhibit 2: } & \textbf{Bushido Reconciliation of Segment EBITDA} \\ & \textbf{to Consolidated Net Income and EPS} \end{align*} \\ \begin{array}{l|c|c} & \textbf{Prior-year Period} & \textbf{Last 12 Months} \\ \hline \text{Total segment EBITDA} & 81 & 78 \\ \hline \text{D&A} & (20) & (16) \\ \hline \text{Unallocated cost} & (5) & (3) \\ \hline \text{EBIT} & 56 & 59 \\ \hline \text{Other income/expense} & 0 & 0 \\ \hline \text{Interest expense} & (6) & (5) \\ \hline \text{Income taxes} & (12.5) & (13.5) \\ \hline \text{Net income} & 37.5 & 40.5 \\ \hline \text{Shares outstanding} & 1500 & 1500 \\ \hline \text{Diluted EPS} & 2.5 & 2.7 \end{array} $$

$$ \textbf{Exhibit 3: Bushido Statement of Financial Position} \\ \begin{array}{l|c|c} \\ & \text{Prior Year} & \text{Most Recent Quarter} \\ \hline \text{Cash & equivalents} & 200 & 232 \\ \hline \text{Other current assets} & 123 & 110 \\ \hline \text{Total current assets} & 323 & 342 \\ \\ \text{Non-current assets} & 720 & 750 \\ \hline \text{Total assets} & 1,043 & 1,092 \\ \\ \text{Short-term debt} & 25 & 25 \\ \hline \text{Other current liabilities} & 100 & 110 \\ \hline \text{Total current liabilities} & 125 & 135 \\ \\ \text{Long-term debt} & 175 & 175 \\ \hline \text{Other non-current liabilities} & 194 & 201 \\ \hline \text{Equity} & 549 & 581 \\ \hline \text{Total equity & liabilities} & 1,043 & 1,092 \end{array} $$

Assurance services have grown rapidly, but Bushido’s share price performance is lower than that of its peers. The company’s enterprise value is currently \(\yen\) 1,565 million, or an EBITDA multiple of 15 and a sales multiple of 2. Recently, the Japanese government has shown concern over a trend where audit firms offer management consultation and assurance services. This reduces the reliability of the audit report since there are self-review and self-interest risks, meaning that the auditor’s independence is compromised. To solve this problem, the Japanese government has ordered all audit firms that offer consulting services to separate the assurance and management consulting businesses. Each company has been given 3 years to comply with this legislation or face a fine of \(\yen\) 350 million.

Following this announcement, Bushido has to decide whether to spin off or sell its management consulting business.

$$ \textbf{Exhibit 4: Consulting Segment, Comparable Company Data} \\ \begin{array}{c|c|c|c|c} \textbf{Comparable} & \textbf{Market Cap} & \textbf{Cash} & \textbf{Debt} & \textbf{EBITDA} \\ \textbf{Company} & & & & \textbf{(Last 12 months)} \\ \hline \text{Company A} & 1,667 & 50 & 176 & 145 \\ \hline \text{Company B} & 800 & 101 & 80 & 56 \\ \hline \text{Company C} & 1,520 & 320 & 140 & 252 \\ \hline \text{Company D} & 2,370 & 242 & 240 & 340 \\ \hline \text{Company E} & 2,780 & 280 & 287 & 289 \\ \hline \text{Company F} & 3,002 & 480 & 498 & 300 \end{array} $$

$$ \textbf{Exhibit 5: Assurance Segment Comparable Company Analysis} \\ \begin{array}{c|c|c} \textbf{Comparable} & \textbf{Sales Growth} & \textbf{EV/Sales Last} \\ \textbf{Company} & \textbf{Last 12 Months} & \textbf{12 months} \\ \hline \text{Company A} & 26\% & 12 \\ \hline \text{Company B} & 32\% & 14 \\ \hline \text{Company C} & 45\% & 20 \\ \hline \text{Company D} & 18\% & 10 \\ \hline \text{Company E} & 10\% & 7 \end{array} $$

$$ \textbf{Exhibit 6: Consulting Segment Comparable Transaction Data} \\ \begin{array}{c|c|c|c|c} \textbf{Comparable} & \textbf{Cash Paid} & \textbf{Value of} & \textbf{Net Debt} & \textbf{Target} \\ \textbf{Transactions} & & \textbf{Stock Issued} & & \textbf{EBITDA Last} \\ & & & & \textbf{12 Months} \\ \hline \text{Company A} & 1021 & 70 & 110 & 90 \\ \hline \text{Company B} & 791 & 12 & 420 & 180 \\ \hline \text{Company C} & 856 & 80 & 820 & 85 \\ \hline \text{Company D} & 620 & 0 & (50) & 60 \end{array} $$

## Question

- Evaluate whether a conglomerate discount is based on Bushido’s median peer current valuation and that of itself. Assume that the unallocated costs are allocated to the consulting business.

## Solution

We compare Bushido’s current enterprise value of \(\yen\) 1565 million with a sum-of-the-parts valuation of its segment using comparable company analysis to find out if a conglomerate discount is present.

$$ \begin{array}{c|c|c|c|c|c} \textbf{Comparable} & \textbf{Market} & \textbf{Cash} & \textbf{Debt} & \textbf{EBITDA} & \textbf{EV} & \textbf{EV/} \\ \textbf{company} & \textbf{cap} & & & \textbf{(Last 12} & & \textbf{EBITDA} \\ & & & & \textbf{months)} & & \\ \hline \text{Company A} & 1,667 & 50 & 176 & 145 & 1,793 & 12 \\ \hline \text{Company B} & 800 & 101 & 80 & 56 & 779 & 14 \\ \hline \text{Company C} & 1,520 & 320 & 140 & 252 & 1,340 & 5 \\ \hline \text{Company D} & 2,370 & 242 & 240 & 340 & 2,368 & 7 \\ \hline \text{Company E} & 2,780 & 280 & 287 & 289 & 2,787 & 10 \\ \hline \text{Company F} & 3,002 & 480 & 498 & 300 & 3,020 & 10 \\ \hline & & & & & \text{Median} & 10 \end{array} $$

Assurance segment comparable company analysis reveals that the median peer trades at EV/Sales of 10. The EV is calculated by deducting the cash from the debt and adding the result to the market capitalization.

$$ \textbf{Exhibit 7: Bushido Sum-of-the-Parts Valuation} \\ \begin{array}{l|c} \text{Consulting segment EBITDA} & 6 \\ \hline \text{Unallocated cost} & (3) \\ \\ \text{Consulting segment EBITDA} & 3 \\ \hline \text{Peer median EV/EBITDA multiple} & 10 \\ \hline \text{Enterprise value} & 30 \\ \\ \text{Assurance segment sales} & 100 \\ \hline \text{Peer median EV/Sales multiple} & 10 \\ \hline \text{Enterprise value} & 1,000 \\ \hline \text{Total est. enterprise value} & 1,030 \\ \hline \text{Current trading EV} & 1,565 \\ \hline \text{Conglomerate discount} & -535 \end{array} $$

Assume Bushido receives one bid from a competitor firm for its management consulting segment for ¥ 2,000 million. Compare the bid to the implied valuation of the management consulting segment in the current market value of Bushido using the valuation of Assurance in question 1.

## Solution

$$ \begin{align*} & \textbf{Management Consulting Segment Vs.} \\ & \textbf{Current Implied Segment Valuation} \end{align*} \\ \begin{array}{l|c} \text{Current Bushido EV} & 1,565 \\ \hline \text{Assurance segment sales} & 100 \\ \hline \text{Peer median EV/S multiple} & 10 \\ \hline \text{Est. enterprise value} & 1000 \\ \hline \text{Implied value of Management} & 565 \\ \text{Consulting segment} & \\ \\ \text{Management Consulting bid} & 2,000 \\ \hline \text{Premium to implied value} & 1,435 \end{array} $$

Bushido’s current EV is subtracted from the assurance segment EV to get the implied value of management consulting segment. The premium to implied value is calculated by deducting the management consulting bid from the implied value of the management consulting segment.

Suppose the management consulting segment spin-off was valued at an EV/EBITDA multiple of 12. Would it be more beneficial for Bushido to spin off the segment or sell it at \(\yen\) 60 million?

## Solution

Bushido would benefit from the spin-off because a sale of \(\yen\) 60 million values the company 2x lower. It would be better to sell the consulting segment if there is a capital market correction or the spin-off is valued lower.

Reading 21: Corporate Restructuring

*LOS 21 (f) Evaluate corporate divestment actions, including sales and spin offs.*