Spin-Out: Definition, Examples & Effects on Stock

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Better Call Saul was spun off from Breaking Bad, while The Colbert Report was spun off from The Daily Show. Meanwhile, CorePoint Lodging was spun off from La Quinta Inns. What the two TV shows have in common with the corporate spin-out is that something new was created from an element of the original.

Spin-Out Meaning, Methods, Reasons

Spin-out vs. spin-off is like eggplant vs. aubergine: Both terms refer to the same thing. You might think of a spin-off as an “IPO lite”. When a public company creates a spin-off, it distributes all ownership in the spin-off to its shareholders. The new company ownership interest is considered a stock dividend.

With this method, shareholders wind up with shares in both companies. Another way the parent company can handle a spin-off is to offer shareholders a favorable trade on their parent company shares. They might offer investors $1,200 in spin-off stock for $1,000 worth of parent company stock.

Reasons a company might want to create a spin-off vary, but they all come down to money. One company might want to extract a part of its business that is not growing so it can focus on the parts that are growing. If it is thinking of selling the parent company, spinning off a weaker division might make it more attractive to potential buyers.

Spin-Out Company for Survival

A company may want to spin off a part of its business because it’s the part best positioned for growth or, in a poor economy, survival. For example, a commercial interior design firm that handled major grocery store chain renovations had three divisions: design, create and construct. The design division presented clients with proposals for updated interiors compatible with their brand. The create division handled the architectural and engineering part of each project. Finally, the construct division made and installed new decor, often in the middle of the night during the few hours that the stores were closed.

While it took all three divisions to pull off these extreme store makeovers, the construct division’s work had the highest visibility. They developed an excellent reputation for eye-catching, high-quality work. They were often asked to do smaller projects, which the company turned down.

However, when the 2008 recession hit and retailers cut back on nonessentials like revamping their look, the construct division was spun off. The new company continued to handle large-scale projects when they could get them, but they also took on everything from small, one-off stores to repairs and modest updates. Its revenues kept investors happy until the economy improved. Later, the parent company bought back its construct division.

More Spin-Out Company Examples

Spin-offs are not clones of the parent company. When considering La Quinta Inns and CorePoint Lodging, note that CorePoint is not another motel chain. It’s an REIT, or real estate investment trust. It used the experience and expertise of La Quinta and new top management to create and maintain a lodging industry portfolio that focuses on properties with growth potential.

Chipotle is considered a spin-off of (surprise!) McDonald’s, although the term is a bit loosely applied in this instance. Chipotle already existed when McDonald’s bought a controlling stake in it. When McDonald’s later sold its shares, the sale was widely characterized as a spin-off.

Gap Inc. is spinning off its Old Navy brand. Old Navy generates almost as much revenue as all other Gap brands combined. As a separate company, Old Navy can focus on its products, which are targeted more toward families than Gap’s other brands.

Spin-Out Effects on Stock

A spin-off is usually done as part of a growth strategy and is therefore most often considered a positive thing. However, the spin-out can cause some initial instability in the stock of both the parent company and the new company. It can also eat up management’s time for months while the process is occurring.

Some shareholders might want to sell their stock if they weren’t completely sold on the spin-off or if the new company or parent company no longer fits their investment interests. On the other hand, potential buyers of either company’s stock might want to hold off until things settle down, and the performance of both the parent company and the spun-off company have proven that the whole thing was a good idea.

When you spin out a strong-performing division, it can weaken the parent company, at least in the short term. It may also take some time for the new company that was spun off to gain traction in the market. Fortunately, the volatility of stock prices for both the parent company and the spin-off is usually short lived.

References

About the Author

LeDona Withaar has over 20 years’ experience as a securities industry professional and finance manager. She was an auditor for the National Association of Securities Dealers, a compliance manager for UNX, Inc. and a securities compliance specialist at Capital Group. She has an MBA from Simmons College in Boston, Massachusetts and a BA from Mills College in Oakland, California. She has done volunteer work in corporate development for nonprofit organizations such as the Boston Symphony Orchestra. She currently owns and operates her own small business. In addition to writing for PocketSense, she writes for Bizfluent, Budgeting the Nest, Legal Beagle, PocketSense and Zacks.