After the last few tough years, there were noticeable signs of a recovery in the European M&A market in 2024. A large proportion of dealmakers are therefore optimistic about the M&A market and expect an increasing number of transactions in 2025. Dealmakers see falling interest rates, weakening inflation, growing interest from foreign buyers and sustained investment pressure from private equity investors as drivers of this trend.
Another trend that is likely to continue in 2025 is the carve-out of divisions of larger corporates. These could further invigorate the M&A market and offer other companies, especially competitors, exciting investment opportunities. This applies especially to the innovative and fast-paced life sciences sector. High competitive pressure regularly forces corporates to specialise and focus, which can lead to non-core activities being sold off. However, if such business units are not organised as independent companies, but summarised in a larger, diversified company, a carve-out may be required.
What is a carve-out?
A carve-out is the process by which a company separates a part of its business (hereinafter the “carve-out unit”) and transfers it to an independent legal entity. The carve-out unit is in most cases a business division, but it is also possible to carve-out other units or assets, e.g. an individual production site.
What is the reasoning behind a carve-out?
There can be various reasons for a carve-out. In many cases, companies intend to reduce complexity by outsourcing non-core activities and to focus better on the areas in which they have the most expertise and market share, leading to greater efficiency and better performance.
A carve-out can also free up financial resources that can be used for other strategic initiatives. In addition, the value of the carve-out unit may be increased by positioning it independently in the market. This independence will allow the new entity to be more flexible and agile, and to pursue its own market strategies that may be better suited to its specific products or services. Thus, the carve-out unit may form its own partnerships and alliances that may not have been available to the parent company.
In some cases, regulatory requirements, in particular imposed by competition authorities, may necessitate a carve-out.
Make two out of one – what is the aim of a carve-out?
The carve-out unit is often closely integrated with the other business divisions. This is manifested, among other things, in financing agreements, supply and service relationships. The carve-out aims at making the carve-out unit independent so that it is in a position to pursue its business operations on a stand-alone basis. In practice, this requires a review of all economic and legal relationships between the carve-out unit and the other group companies. Where necessary, such relationships will have to be terminated or amended. If a realisation of the stand-alone business model is not possible at short term, a transitional services agreement should be considered.
What is particularly important in the life sciences sector?
In the life sciences sector, a number of unique aspects need to be considered:
- Regulatory requirements: The life sciences sector is subject to strict regulatory requirements that must be adhered to. Only when the carve-out unit is in possession of all necessary approvals, certifications and permits, then its assets can be fully usable, capable of increasing in value and of further development. While product-related approvals generally remain in place if the product is transferred to another company, it is necessary to check whether company-related approvals (such as a manufacturing licence) must be reapplied for.
- Intellectual Property (IP): The protection of intellectual property such as patents and trademarks is crucial. It must be clearly defined which IP rights are to be transferred to the carve-out unit.
- Research and Development (R&D): Research and development play a central role in the life sciences sector. In addition, this area is of particular importance for future performance and value creation. The division of R&D resources and projects, as well as ensuring the continuous innovative capacity of the carve-out unit and the parent company, are essential factors.
- Employee transfer: The highly regulated life sciences sector requires employees with real industry expertise and specialised knowledge. The transfer of employees from the parent company to the carve-out unit should be carefully planned in order to place the specialists where they are needed. The carve-out may lead to a so-called transfer of operations (Betriebsübergang) which automatically occurs when a company or part of a company is taken over by another company and the economic unit retains its identity. In this case, the employment relationships of the concerning employees automatically transfer to the new owner. This may lead to the transfer of employment relationships without the parties being aware of it.
- Data protection: Life sciences companies regularly process sensitive data, in particular patient data. The handling and transfer of such sensitive data must comply with applicable data protection regulations at all times.
How should a carve-out be legally structured?
It is important to develop the appropriate legal structure for each individual case. Under German law, two options are possible: The assets can be transferred to the carve-out unit by way of a so-called singular succession or by way of a spin-off pursuant to the German Transformation Act (Umwandlungsgesetz, UmwG).
Structuring through singular succession is achieved by asset deals, contribution or assignment agreements, which generally allows for an efficient and precise separation of the business divisions. As with any asset deal, it is important to ensure that the assets to be transferred are precisely identified. A complication of this structuring option is that certain assets, in particular agreements, can only be transferred with the consent of third parties. In practice, this usually leads to issues in case of a larger number of contracts, e.g. customer contracts, to be transferred. This structuring method is therefore often not an option for high-volume carve-outs.
A spin-off in the meaning of the German Transformation Act is the transfer of a ‘bundle’ of assets with the privilege that no consent of a third party is required to transfer the contracts as the principle of (partial) universal succession applies. A legal consequence of this structuring is the continuing liability of the carve-out unit under German law. Thus, both companies involved in the spin-off are liable as joint and several debtors for all liabilities of the transferring company (i.e. the parent company) which arose before the spin-off took effect. This liability applies generally for five years. To mitigate this risk, the spin-off and take-over agreement (Spaltungs- und Übernahmevertrag) usually includes corresponding indemnity and recourse clauses. Nevertheless, this remains a challenge if long-term risks exist in the parent company. In addition, the procedure for a spin-off is more complex and considerably more formal than in case of a singular succession, in particular as the spin-off and take-over agreement has to be notarised.
What investment opportunities arise from this?
Carve-outs are an attractive investment target if they have a sustainable and viable business model on a stand-alone basis. The optimal preparation and execution – both from an economic and legal point of view – thus becomes a value-creating factor.
By acquiring a carve-out unit with a focused business model, competitors and other buyers have the possibility to diversify their portfolio und grow inorganically. In addition, carve-outs may offer a high potential for value increase, especially if the company can benefit from its new independence in the market by entering into new partnerships and alliances. Usually, the carve-out unit can act more flexibly and thus react more quickly to changes in the market and drive innovation, which is particularly advantageous in the dynamic life sciences sector.
