Selling your Heritage: The Challenge of Legacy Divestitures
Description
This paper studies companies that diversify away from and later divest their historical cores, or "legacy" businesses. There are many reasons a firm might undertake this strategy, including a concentration of the legacy business in a declining industry, poor financial performance, and an attempt to signal change to external constituents. Although the stock market responds favorably to announcements that firms will divest their legacy businesses, operating performance actually deteriorates significantly in the years following legacy divestitures, both in absolute terms and relative to operating performance following all other divestitures. These findings are surprising, in that divesting a legacy business in order to lay the foundations for a more productive future could be expected to lead to an improvement in operating performance rather than a decline; the market seems to systematically underestimate the difficulties of abandoning a legacy business. One explanation for which I find support rests on the idea that legacy businesses have deep historical roots, so divesting them may interfere with the existing synergies, strategies, and processes of their parent companies in unanticipated ways. However, these disruptions might not be as severe or as difficult to evaluate for non-legacy divestitures.