Disinvestment Explained: Types, Strategies, and Key Examples

What Is Disinvestment?

Disinvestment occurs when governments or organizations sell or liquidate their assets or subsidiaries.

Common reasons that organizations and governments choose disinvestment are to optimize resources or maximize their return on investment (ROI) related to capital goods, labor, and infrastructure.

Examples of disinvestment include selling or liquidating assets such as business divisions and subsidiaries, as well as reducing capital expenditures (CapEx).

Disinvestment happens for various reasons, including strategic, political, or environmental factors.

The broader impacts of disinvestment are to facilitate reallocating resources to more productive areas within an organization or government-funded project, whether disinvestment results in the divestiture or the reduction of funding. It also helps them align with their core strategies.

How Disinvestment Optimizes Resources

Disinvestments, in most cases, are primarily motivated by the optimization of resources to deliver maximum returns. To achieve this objective, disinvestment may take the form of selling, spinning off, or reducing capital expenditures (CapEx). Disinvestments may also be undertaken for political or legal reasons.

Different Approaches to Disinvestment

Commoditization and Segmentation

In the market for commoditized goods, companies may find some product segments more profitable than others, even if manufacturing costs and infrastructure are the same.

For instance, a company might find its industrial tool division grows faster and earns more profit than its consumer tool division. If the difference in the profitability of the two divisions is large enough, then the company may consider disinvesting (e.g., selling) the consumer division. After the disinvestment, the company could allocate both the sales proceeds and recurring capital expenditures to the industrial division to maximize its ROI.

Ill-Fitting Assets

A company might choose to disinvest in certain acquired assets if they don't align with its overall strategy. For example, a company focused on domestic operations may sell the international division of a company it has purchased, due to the complexities and costs of integration, as well as operating it on an ongoing basis.

As a result of the disinvestment, the acquiring company can reduce the total cost of the purchase and determine the optimal use of the proceeds, which may include reducing debt, keeping the cash on the balance sheet, or making capital investments.

Political and Legal

Organizations may decide on the disinvestment of holdings that no longer fit with their social, environmental, or philosophical positions. For example, the Rockefeller Family Foundation, which made its wealth from oil, sold its energy holdings in 2016 because oil companies made false global warming statements.

Monopolistic companies might be legally required to disinvest to maintain fair competition. For example, after being found to be a monopoly after eight years in court, AT&T (T) divested its seven regional operating companies in 1984. After disinvestment, AT&T retained its long-distance services, while the operating companies, referred to as the Baby Bells, provided regional services.

Real-World Disinvestment Examples

Disinvestment in fossil fuels is the most prominent and recent example of political and environment-related disinvestment. In 2011, students on college campuses began demanding that their endowment foundations—which are some of the richest institutional investors in the world—begin divesting their stakes in fossil fuel companies because they were major carbon polluters.

The movement spans 37 countries and has resulted in the divestiture of $6.2 trillion worth of assets, according to a report from Arabella Advisors. One thousand institutional investors, including insurance companies, sovereign wealth funds, and pension funds, have committed to divest assets related to fossil fuels. The report attributes the surge in fossil fuel-related divestments to moral pressure that gave way to financial and fiduciary imperatives as the movement grew and stocks for major oil companies fell.

Meanwhile, Weyerhaeuser Co. (WY) is an example of strategic disinvestment. The Washington-based company was a manufacturer of paper and paper products until 2004. Since that year, it has divested operations by selling its pulp-and-paper manufacturing businesses to focus on real estate and timber.

The Bottom Line

Disinvestment involves the sale or liquidation of assets by organizations or government-funded projects, as well as the reduction of capital expenditures (CapEx).

The primary goal of disinvestment is to optimize resources for maximum return on investment (ROI). Reasons for disinvestment include strategic optimization, political influences, legal requirements, and environmental considerations.

Notable examples of disinvestment include fossil fuel divestments due to environmental pressures, and strategic shifts such as Weyerhaeuser Co.'s focus on timber and real estate.

The potential benefits of disinvestment include reallocating resources to more productive areas or aligning with social and environmental values.