Due Diligence for Carve-Out Transactions

There is a clear shift toward “old school” value creation in today’s landscape. With sustained higher interest rates, investor risk premiums, and elevated capital costs, investors demand tangible free cash flow, operational efficiencies, and strategic allocation. Because of this, carve-out transactions are becoming increasingly attractive, offering opportunities to acquire underinvested businesses at compelling valuations.

However, these deals are inherently complex, requiring buyers to conduct thorough due diligence to accurately assess risk and future profitability.

Key Takeaways

• Carve-out transactions can offer compelling acquisition opportunities, but success depends on comprehensive due diligence.
• Cross-functional diligence is essential. Early identification of operational, financial, and technology challenges allows buyers to create a smoother transition and preserve enterprise value after closing.
• EisnerAmper’s From Parent to Stand-Alone: A Due Diligence Playbook for Carve-Out Transactions is a comprehensive playbook for buyers and sellers to navigate their transaction.

Due Diligence Areas for Carve-Out Transactions

Effective due diligence is crucial for understanding a carve-out's true value and potential. This includes assessing separation costs, stand-alone expenses, and potential revenue impacts. Collaboration across financial, tax, legal, IT, and operational due diligence streams is essential. Buyers should focus on 11 key areas to mitigate future risks and protect enterprise value.

This article will examine five out of the 11 areas buyers should consider. For an in-depth analysis of all, download EisnerAmper’s free eBook.

Download the carve-out due diligence playbook to identify separation risks, evaluate stand-alone operations, and support value creation after closing.

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Sustainability of Revenue and Customer Relations

A carve-out's long-term value depends on how well its customer relationships survive the separation from the parent company. Due diligence should focus on contract terms and customer dependence on parent-company services.

Cost Allocations from the Parent Company

Shared costs are rarely allocated in a way that reflects the reality of what the business will actually cost on its own. Buyers should estimate true stand-alone costs and quantify gaps.

Transaction Services Agreements and Stranded Costs

A transaction services agreement (TSA) keeps the divested business running on the parent’s system for a contractually defined period after close. This agreement should directly correlate with diligence findings to secure business dependencies.

Transfer Intellectual Property Rights

Intellectual property (IP) associated with a carve-out may transfer outright or stay under the parent company’s license. Buyers should verify ownership and understand its unique licensing terms.

Information Technology and Cybersecurity

IT and cybersecurity are significant forces in every company. During a carve-out transition, separating a business unit’s technology from a shared environment affects everything, making thorough due diligence critical to avoid disrupting operations or introducing new risks.

Finding Success with a Carve-Out Transaction

Acquiring a carve-out business can be complicated, and buyers should consider the impact of key areas on the carve-out business EBITDA and valuation. This will allow for careful planning so the business can be successfully, efficiently, and effectively integrated after the transaction closes.

Are you looking for more information on the following?

• Sustainability of revenue and customer relationships
• Cost allocations from the parent company
• Working capital and quality of earnings
• Tax structuring and due diligence
• Transfer of intellectual property rights
• Information technology and cybersecurity
• Employee benefits
• Employee retention and management gaps
• Real estate and occupied space
• AI’s impact on carve-out transaction diligence

EisnerAmper’s professionals have put together From Parent to Stand-Alone: A Due Diligence Playbook for Carve-Out Transactions to equip buyers and sellers with a comprehensive guide to better navigate the transaction. The playbook covers key due diligence considerations, questions to ask, and steps for success at every stage. Get your free playbook today.