NEWSWIRE - March 3, 1999

Topic: Divestitures and Valuation

Source: "H-P to Spin Off Its Measurement Operations," by David Hamilton and Scott Thurm, Wall Street Journal, Wednesday, March 3, 1999, page A3.

Synopsis of Articles:

After the markets closed on Tuesday, March 2, Hewlett-Packard Co. announced its intention to divide itself into two distinct operating units. It will accomplish this by spinning off divisions manufacturing measurement, medical, specialized electronic, and chemical analysis equipment. These divisions collectively comprise 16% of H-P’s overall revenues. The remaining products, computers and printers represent the core divisions that the firm has chosen to focus on. This action provides evidence that it is possible for a firm to grow too large and too diverse. While much of our analysis of firm value dwells on growth of future cash flow or earnings, the H-P divestiture suggests that size alone may impede growth. Corporate insiders suggest that this will "energize the company’s work force and sharpen its competitive instincts." AT&T successfully divested into three separate corporations (AT&T, NCR, and Lucent Technologies) in 1996 after coming to a similar conclusion. While the ensuing discussion focuses on finance, it is possible to assess the motivation for this shift from a management or marketing perspective as well.

Questions:

1. Explain the role of growth in the basic dividend discount model. From the perspective of the model, is more growth preferred to less growth?

2. Explain how a corporation’s growth and subsequent size can be an advantage in the market place. How can size become a disadvantage? Again using a simple valuation model, explain how H-P’s planned divestiture could add value to its current investors.

3. From a management or marketing perspective, why would H-P’s planned divestiture add value to shareholders?