Does breaking out a separate stock for a business unit help a company's fortunes soar?
After startling the business world with the largest IPO in history last year, the DuPont Corp. made another bold pronouncement in March: The giant chemical company would issue a tracking stock for its fast-growing life sciences division, in effect creating a separate, stand-alone company.
The decision by the staid, two-century-old DuPont to issue a stock to track the performance of its life sciences assets underscores just how popular in the marketplace this unconventional corporate restructuring strategy has become. Fifteen companies have issued 37 tracking stocks since General Motors created the first one (to buy Electronic Data Services in 1984). Most of these deals were transacted in the past three years. With tracking stocks' popularity on the upswing, it's a good idea for CPAs to know what they're about in case they show up in their companies' or clients' plans.
HOW THEY WORK
A tracking stock--also called a lettered stock or targeted stock--is a special class or a corporation's voting common stock that is tied to the earnings performance of a distinct business unit. Investors buying shares in the tracking stock do not own the underlying assets (which they do with common stock transactions); these are owned by the parent company. Instead, they are investing in the earnings performance and growth characteristics of the targeted stock "company."
A tracking stock can be issued for a business division, geographic segment, product line or any other separable business, such as DuPont's life sciences group, which includes its biotechnology, pharmaceutical and agricultural chemicals enterprises. In effect, DuPont is creating a company with one consolidated balance sheet and one board of directors, but two income statements--one for its common stock and the other for its tracking stock.
If the tracking stock is issued as planned this fall, DuPont would continue to own all the assets and debt of the life sciences division, but the tracking stock would trade separately from DuPont's common shares. Given that life sciences companies are trading at a rate of 30 to 50 times earnings, vs. DuPont's customary 18-times-earnings ratio, the tracking stock could have significant investor appeal. The tracking stock's equity also would be a higher-valued currency that DuPont could use to acquire other life sciences companies.
Tracking stocks have captured the imaginations--and dollars--of a veritable Who's Who of corporations, including GM, USX, U.S. West, Pittston, Georgia-Pacific and Ralston-Purina. Within days of DuPont's announcement, Donaldson, Lufkin & Jenrette said it would issue a tracking stock for its online brokerage unit, DLJdirect.
Each of the companies that have issued …