Amid uncertainty in the energy markets, companies are looking for more drastic ways to improve cash flow. Specifically, lenders and analysts want to see companies reduce their general and administrative (G&A) expenses. One way to cut costs is to spin off unique assets or lines of business.
The decision to spin off assets is complex and undertaken for reasons such as increasing profitability, refining product focus, or complying with regulatory requirements. The latter, regulatory compliance, has induced many energy industry spin-offs resulting from acquisition by major energy companies.
For a spin-off to be successful, the new company must have a clearly defined and differentiated offering, the right people in the right organizational structure, and fit-for-purpose technology.
For a parent company to spin off an efficient, high-functioning subsidiary, a clear product or service delineation must exist. Precise segregation grants the spin-off a singular focus on design and service delivery. A company that operates a pipeline and manufactures valves will have an easier time spinning off valve production in its entirety rather than spinning off based on geographic location. The delineation comes from what drives complexity within an organization, and complexity is typically derived from the product offered and how it's delivered.
Similarly, an E&P company that operates both CO2 injection and high-pressure wells could potentially benefit from spinning off their CO2 injection assets as operating CO2 wells requires a specific skill set and specialized technology. Spinning off would allow the company to eliminate entire systems and resources specific to CO2 activities. Spinning off unique assets allows both companies to focus on core functions with the intention of improving profitability, quality, and service.
A spin-off’s executive team is charged with maximizing productivity using the most efficient organizational structure. Decisions such as the number of employees to which departments or functions will be outsourced are often based on capacity and risk management. It’s less risky to outsource payroll services than industry-specific accounting functions due to the universal nature of payroll as opposed to the unique nature of land, joint interest billing, and revenue accounting. Outsourcing considerations depend on which functions are unique to the business and which are universal across industries. Strategic functions are rarely the first candidates for outsourcing.
Organizations spinning off from parent companies will go through several iterations of change, allowing visibility into which positions are necessary and which can be combined. Once the organizational structure is finalized, invest in relocation and executive search services to ensure quality candidates and efficient hiring. Though it’s tempting to allow some employees to split time between companies, it's important to assign employees to only one organization and be willing to let employees leave with the company that is spinning off.
There will be a transition period as two separate entities are formed. It’s tempting to assign transition activities to employees of the former parent company since they’re knowledgeable regarding business functions and data. In our experience, it’s better to include the new employees of the spin-off in the transition activities to familiarize them with new processes and help them become independent from the parent resources.
In most cases, a spin-off will be a smaller, more focused operation, which will significantly change business processes and data collection. Major technology—especially the ERP system used by the parent company—will likely be too robust or too specific to the requirements of the parent company’s structure. It’s important to analyze the current system and capabilities to assess other available options. Smaller, more financially feasible systems are available for companies with less data and simpler processes.
During the transition period, the spin-off will most likely be under a Transition Service Agreement (TSA) for use of the parent company’s technology until the spin-off can function on its own. Commonly, TSAs are more expensive than licensing a new ERP, so it’s beneficial to implement a new ERP as quickly as possible. Help from the system provider, outside consultants, and sufficient support from decision makers and internal resources will ensure a smooth and successful implementation.
Smaller systems outside of the ERP should be thoroughly assessed and consolidated based on business requirements and system functionality. Rather than using a robust document storage system, a new spin-off could use a cloud-based system such as OneDrive or Dropbox to share files. Rationalize the specific operations systems to decide which ones can be eliminated. In doing so, recent spin-off client was able to eliminate 35% of its operational systems and reduce G&A dramatically. As a result, the parent company discontinued all licenses associated with the new company and reduced its own recurring costs.
Spin-offs provide an unusual opportunity for a fresh start. A spin-off is most successful when the assets are unique, organizational structure and business processes are optimized, and systems are purchased or configured to fit the new organization.
For more information or to talk with the Trenegy team about spin-off success, email info@trenegy.com.
