Why carve outs are all the rage

And what links Donald Trump to PZ Cussons' decision to offload a leading brand?

Why carve outs are all the rage

First reaction on seeing that PZ Cussons was looking to sell the St Tropez fake tan brand was that this was a definite hedge on the re-election of Donald Trump, as the walking advert for the product to Make America Orange Again. 

But that would be fake news. 

It comes off the back of a flurry of large quoted corporates selling off assets, and it’s worth looking at why these deals are happening, and then usefully a few pointers to how the various dynamics can be made to align.

A wall of underinvested private equity funds, depressed share prices of UK PLC stocks making so many businesses unable to raise equity, or debt, and the high interest rates making the raising of debt more expensive anyway.

This morning we reported how Norcros had sold Johnson Tiles to management for £1million, not long after cutting manufacturing capacity in October 2023 by approximately 50% in response to lower UK tile demand.

As a bathrooms business, Johnson Tiles seems pretty key to Norcros. It was acquired in 1971 and it has been one of its core brands ever since. It’s not quite a carve out, but it speaks to a common and recurring problem within UK PLC.

Staying in the bathroom for a moment, PZ Cussons, the Manchester headquartered soap and cosmetics corporate giant, said it lacks the resources to take the brand to the next level in the US. Since it bought the business in 2010 from LDC for £62.5m in cash St. Tropez has “grown significantly” thanks to heavy investment in the brand and the role of body positive icon and supermodel Ashley Graham (pictured) in fronting their campaigns.

At the time of the sale the St Tropez business was recording sales of £20m a year, but has since grown massively in the US.

In 2018 it was mentioned in dispatches as accounting for approximately 15% of the beauty division’s revenue.

In 2020 it was part of a major deal with near neighbour THG to put the beauty division international fulfilment through THG Ingenuity.

PZ chief executive Jonathan Myers started his new job during the early months of Covid when St Tropez sales dropped off significantly, so it’s probably always had his attention. Since that time, when it probably wasn’t worth slapping on the fake tan for a Zoom call, it has been referred to in presentations as a core brand and the number one tanning product in the US. 

Over the years PZ has owned some odd legacy businesses, an olive oil and feta cheese business in Greece, and a powdered milk business in Africa. They both went.

From Myers’ statement it’s difficult to work out whether they’ve received an early low ball offer for it that has concentrated minds, and it’s made the board decide to go to market; or they have reviewed it and worked out they’ll get a good price now as the brand equity is high. 

“Given the strength of the brand’s equity, there remains significant long-term growth potential in the US and in both new geographies and category adjacencies. This growth will however be harder to realise under PZ Cussons’ ownership, given the need to allocate resources across our diverse geographic and category footprint,” Myers said, adding that either way, they are initiating a process to sell the brand to “an owner better placed to capture the brand’s significant long-term potential.”

PZ is also reviewing its business in Nigeria where it admitted it had got “too complex for its size, with financial and human resources spread too thinly to generate consistent returns”. There are obviously “challenges and complexities” in Nigeria, 20% inflation, a currency in freefall and logistical issues, which make it wholly different to the issues that sit behind the decision to sell St Tropez.

With a sensible head on, it’s another example, amongst many, of the corporate carve out. A deals trend that has all aligned in its favour. 

The potential of buyers from private equity make it an interesting play.

For their part private equity firm Inflexion sees significant opportunity for further carve-outs in the current market – whether classic buyouts of divisions – or the more specialist corporate partnerships whereby the private equity funds acquires a minority stake only allowing the vendor to retain control but get all the benefits of having a private equity backer on board.

Take AIM-listed compliance software specialist Marlowe, which sold a chunk of its business to Inflexion for £430m, a 121% premium on its current total market capitalisation of £348m. Definitely an example of the latter.

Like many conglomerates, Marlow included a sprawling range of businesses that seemed to belong in a group, and included Worknest, previously known as Ellis Whittam, the Chester based employment and health safety adviser, which Marlowe acquired from LDC in 2020 for £59 million; Vista Employer Services, a Manchester- based business, and CQC Compliance, located in Preston.

As a buy-and-build Marlowe has seen its value plummet in recent years from the dizzy heights of £1billion in January 2022, following the £135 million purchase of Optima Healthcare.

Like many stock market-listed businesses Marlow’s share price had slid and the challenges for all AIM listed companies of raising further equity have increasingly restricted its progress. Its market capitalisation was £348 million at the time of the deal.

But while many carve out deals see the unloved bits of a sprawling empire go to a new home, in the case of Marlowe, its chief executive Alex Dacre (below), son of Paul Dacre, former editor of the Daily Mail, is likely to throw his lot in with Inflexion once the deal formally completes.

In buying 20% of Marlowe plc’s turnover and 40% of its adjusted EBITDA the deal illustrated how the market capitalisations of listed companies have in a fair few cases sunk below the underlying value of their assets.

One of the lawyers that worked on the Marlowe deal, David Bowcock of Fieldfisher, explained: “A lot of corporates that have still not wanted to borrow haven’t been able to raise equity because of their share price and so the obvious next option has been a carve out that potentially gives them a fighting fund.”

Lizzie Meadowcroft, corporate finance advisory partner at Cortus Advisory, has written a very helpful paper on carve outs that outlines the multiple perspectives.

I spoke to her about the reasons for a sale, and the different success factors, and critical amongst them, she says, is integration.

“Having been involved in every type of a carve out transaction, it is clear to me that while there are only two ‘types’ - a buy side and sell side – it’s true to say that there are multiple perspectives.  I’ve worked for the seller, supporting it to design and implement a carve out. I’ve performed Separation focussed Vendor Due Diligence. I’ve worked for the buyer to diligence the sellers carve out plans. I’ve supported the buyer to develop the carve out plans from the buy side, where the seller hasn’t developed the carve out view in any real detail. I’ve supported the management team sat in the middle - a role often overlooked – where it is caught between loyalties to its existing employer and the desire to impress a potential new owner.”

She says it can be an emotional rollercoaster and says “I describe it as advising on both a marriage and a divorce.”

She says a carve out or separation programme is about addressing everything - different to the integration programmes she supports which are all about choice - but about what to integrate and when. “On a separation, there is usually a fixed timeline to work to and it needs to be a robust exercise to give both the seller and buyer confidence in the deal.”

Her basic five pointers are to: