Skip to content

IAI Actuarial Core Principles · Business Finance · Corporate growth, restructuring and divestment

A company is considering selling a loss-making subsidiary. Which of the following is the strongest financial reason, under value-based thinking, to proceed with the divestment?

The strongest reason is that the sale proceeds exceed the present value of the cash flows the group would earn by keeping the subsidiary. Divestment should be judged on value to owners, not on book values, relative earnings or balance sheet size.

  1. AThe subsidiary's book value exceeds the proceeds offered, so a loss on sale will be reported
  2. BThe subsidiary is profitable but small relative to the group
  3. CThe proceeds on sale exceed the present value of the cash flows the group expects from retaining the subsidiaryCorrect
  4. DThe subsidiary's reported earnings per share are lower than the group average
  5. The sale will reduce the group's total assets

Explanation

Divestment creates value when the sale price exceeds the value to the owner of keeping the business, i.e. the PV of its expected future cash flows. A book loss on sale, low relative EPS or a smaller balance sheet are accounting outcomes and do not show value creation.

Did you get it right without looking?

One question tells you little. A timed set on Corporate growth, restructuring and divestment shows your real accuracy, how long you take and where you lose marks.

Practise Corporate growth, restructuring and divestmentFree diagnostic mock

More Corporate growth, restructuring and divestment questions