When a Spinoff Makes Strategic Sense

Gannett Corporation, like Time Warner and News Corp, has recently announced that it will split its print news businesses (USA Today and 80 other newspapers) from its media businesses (TV channels, Cars.com, and other internet businesses).

A split-up like this is hardly news. Companies have been splitting off and de-merging businesses for more than twenty years, and the logic is usually pretty obvious to the lay observer. Spinoffs and splits can be justified by financial modeling around the relative profitability and growth prospects of the units involved, by giving a company greater focus or by allowing it to unload units that have been a drag on growth.

Yet although the lay observer can understand the reasons for these corporate break-ups, the frameworks and ideas that underpin strategy theory are actually pretty unhelpful when considering whether or not to initiate a break-up.

Let’s look at our current dominant strategy theory: the Resource-Based View or RBV, closely associated with Jay Barney. According to this theory, the “resources” that a firm possesses determine whether it succeeds or fails. Strategic decision-making, therefore, is about building or exploiting “resources.”

What exactly is a “resource”? The theory defines it as an asset that enables the firm to earn a “rent” or in layman’s terms a good profit.   In order for this to happen, a “resource” must have three features. It must be:

• Valuable to customers or enable the creation of something that is valuable to them;
• Rare, meaning that it is not possessed by most competitors; and
• Hard to copy or substitute, so that competitors cannot easily build or match the same resource.

Typically, resources that satisfy these conditions are capabilities or know-how that have been developed over time and are hard to transfer or document. But they can also include property or patents or brands or contracts.

Gannett clearly has resources in both its original newspaper businesses and in its more recent media businesses.   We know this because both businesses earn returns that are reasonable for their industries. This would not be possible unless these businesses had some resources that met the definition above.

So how does RBV explain the decision to split the company into two? To understand it, we would have to believe that splitting print from media either creates a new resource or makes it easier for the company to exploit an existing resource.   It seems evident that the split does not create a new resource, and it is not obvious why splitting would enable the management team to exploit existing resources better. So it is hard to explain this decision using the RBV.

You may also have noted that the RBV contains no concept of focus. Indeed, if you have multiple resources, the RBV implies that you should develop a strategy to build and exploit all these resources. It does not explain why you might be wise to focus on some resources and spin off other resources.

So maybe there is a better theory of strategy? The main alternative is the Positioning School, whose ideas were most clearly expounded by Michael Porter.   This theory states that success is dependent on positioning your business in a profitable market, where it will have or can gain a competitive advantage.

Unfortunately this theory also fails to explain the decision to split. Splitting the business does not change the position of either half.   The print business remains in an unattractive market, and the media business remains in an attractive market. Moreover, the split does not change the competitive advantages either.

To explain decisions like Gannett’s split, therefore, we need some adjustment to our theories of strategy. My own solution is to add a concept to the RBV.

Currently, the RBV is built entirely around assets. There are no liabilities other than the absence of resources.   So strategists are encouraged to focus on the resources that they have and those possessed by their competitors, and to develop a path forward that builds and exploits their resources while avoiding or undermining the resources possessed by competitors.

The RBV would be a stronger theory if it contained concepts for both resources and liabilities. A “liability” could be defined as a feature of the firm that is:

• Detracting value from customers or makes it harder for the firm to create value for them;
• Rare, not possessed by most competitors; and
• Hard to eliminate, not easily eradicated, traded or jettisoned.

Examples of liabilities might include the British newspaper News of the World’s reputation for illegal telephone tapping (which caused News Corp to close the paper); legacy IT systems in retail banks (which causes them to be slow to react to market changes); a low-cost, highly efficient operating process in a volatile or fragmenting market (think of IBM’s mainframe business in the face of mini computers and desk tops); having highly skilled and highly paid employees in a commodity market; a belief that investments in technology will solve most problems, in a market where the technology is already surpassing the customer’s needs (think of Christensen’s disruptive innovation theory).

So how would the addition of a concept of liabilities to the RBV help us explain Gannett’s decision? According to the CEO of Gannett, Gracia Martore, one reason for the split is that the combined businesses had a liability: anti-trust restrictions.

Because the company owned a range of media businesses, both units were finding it difficult to make some acquisitions. “It has been difficult for us to look at certain acquisition opportunities,” she said. “We now have two companies that are unfettered.” For example, in print, “We can now do smart, accretive acquisitions of community newspapers in an unlevered company where they can create tremendous synergies.” So Gracia Martore is suggesting that the spin off was about removing a liability — anti-trust restrictions — that was subtracting value.

Other liabilities might also lie behind this decision. Maybe it is difficult to manage a growing business alongside a declining business. Private equity firms have shown that it is often better to separate out cash generative businesses; so that managers can focus on this task without looking jealously over their shoulders at their more favoured colleagues in growing sister divisions. One can imagine, for example, that pay discussions for journalists would be a difficult management challenge when both businesses are together.   The media businesses may want to increase pay to attract more talent, while the print businesses may want to reduce pay to keep down costs. Hence, having the growing and declining businesses together could be a liability for both businesses with regard to managing its most critical resource —  journalists.

With this additional concept of liabilities, the RBV would be able to explain the decision to spin off. It might need to be rebranded the Resources and Liabilities View, which would bring it closer to its origins in “strengths and weaknesses” analysis. The RBV has helped us understand what a “strength” is. But in the process caused us to lose sight of “weaknesses” as an equally important concept.   With this additional concept RBV can provide the strategy field with a firmer academic base than it currently has for guiding managers and for explaining the full range of successes and failures.

Harvard Business Review