What is 'Asset Stripping'

Asset stripping is the process of buying an undervalued company with the intent of selling off its assets to generate a profit for shareholders. The individual assets of the company, such as its equipment, real estate, brands or intellectual property, may be more valuable than the company as a whole due to such factors as poor management or poor economic conditions. The result of asset stripping is often a dividend payment for investors and either a less-viable company or bankruptcy.

Breaking Down 'Asset Stripping'

Asset stripping is an action often engaged in by corporate raiders, whose method is to buy undervalued companies and extract value out of them. This practice was especially popular in the 1970s and 1980s, and can still be seen in some of the investment activity by private equity firms today.

Asset stripping today has been aided by the historically low interest rates of the past several years. Private equity firms will acquire a company, sell off its most liquid assets, and raid its cash coffers to pay dividends to itself and shareholders. Such activity may involve taking a company private. The private equity investor will when recapitalize the company with additional debt, which gives the practice its euphemistic name "recapitalization," which is a rebranding of the stigmatized asset stripping practice. Such a practice saw significant growth in 2017.

Recapitalizations often involve the use of leveraged loans. Such a strategy is necessitated by the fact that stripped-out companies may have little collateral left to issue debt and must instead borrow money, usually at less favorable terms and rates. The leveraged loans are often made by a group of banks that see them as too risky to keep on their balance sheets. As a result, the structured products are quickly sold off to mutual funds or ETFs, or securitized into collateralized loan obligations (CLOs), which are bought by institutional investors.

Asset Stripping Consequences

Asset stripping weakens a company, which has less collateral for borrowing and may have its value-producing assets stripped out, leaving it less able to support the debt it has. Generally, the result is a less viable company, both financially and in its potential to create value by way of manufacturing or another enterprise. While proceeds from asset stripping may be used to pay down debt, it is far more common that proceeds will be utilized to pay a dividend to shareholders. For example, retailers that are owned by private equity companies that have engaged in asset stripping and recapitalization are more likely to default on their debt. Investors that engage in asset stripping argue that it is their right to do so, and that they are extracting value out of companies that are destined to fail.

Asset Stripping Example

Imagine that a company has three distinct businesses: trucking, golf clubs, and clothing. If the value of the company is currently $100 million but another company believes that it can sell each of its three businesses, their brands, and real estate holdings to other companies for $50 million each, an asset stripping opportunity exists. The purchasing company, such as a private equity firm, will then buy the company for $100 million and sell each company off, potentially making $50 million.

RELATED TERMS
  1. Futures Strip

    A futures strip is the sale or purchase of futures contracts ...
  2. Principal Only Strips - PO

    Principal only strips are the portion of a stripped MBS that ...
  3. Stripped MBS

    A stripped MBS is a type of mortgage-backed security that is ...
  4. Earnings Stripping

    Earnings stripping is a common tactic used by U.S. corporations ...
  5. Equity Stripping

    Equity Stripping is the process of reducing the equity in a property, ...
  6. Coupon Stripping

    Coupon stripping is the separation of a bond's periodic interest ...
Related Articles
  1. Investing

    Introduction To STRIPS

    STRIPS provide an alternative form of bond for fixed-income investors who need definite cash flows at specific times. Read the article to find out how.
  2. Investing

    Equity Stripping Leaves Creditors Empty-Handed

    Add additional debt to your real estate assets to keep the creditors at bay. Learn about debt- and corporate-entity-based strategies for protecting your assets.
  3. Insights

    What Is The New Credit Card Chip Good For?

    Under current U.S. credit card requirements, credit card issuers are required to issue chip cards as of October 1, 2015. Instead of swiping your card as you do now, you will slide the card into ...
  4. Managing Wealth

    How to invest in private companies

    It can be tough to analyze a company that doesn't trade publicly, but there are several advantages to investing in private companies.
  5. Investing

    Effects Of Interest Rate Hikes On Private Equity

    Private Equity firms would be wise to lock in current interest rates on their debt payments in anticipation of rate hikes.
  6. Investing

    3 Best High-Yielding Long Term Government Bond ETFs (EDV, ZROZ)

    Learn about three exchange-traded funds that invest in long-term U.S. government bonds and offer high distribution yields to investors.
  7. Investing

    Methods used in valuing private companies

    There are a few methods for calculating the valuation of a private company. By using financial information from peer groups, we can estimate the valuation of a target firm.
  8. Investing

    How to Invest in Private Equity

    Private equity might be a pricey investment, but the payoff could be big. Here's why and where you should invest in private equity.
  9. Investing

    Reviewing Assets On The Balance Sheet

    A firm uses its assets to generate sales and bottom-line profits for shareholders. A healthy company will continually grow its assets, which stems from leftover profits that are reinvested back ...
  10. Investing

    Equity Multiplier

    The equity multiplier is a straightforward ratio used to measure a company’s financial leverage. The ratio is calculated by dividing total assets by total equity.
RELATED FAQS
  1. How do current assets and fixed assets differ?

    Current assets are short-term assets that are used up within one year. Fixed assets are physical assets and have a life of ... Read Answer >>
  2. What affects an asset's liquidity?

    Learn about what affects an asset's liquidity, including examples of liquid and fixed assets, and how a company's liquidity ... Read Answer >>
  3. Asset-Based Lending Vs. Asset Financing

    Is there an actual difference between asset-based lending and asset financing? Read Answer >>
Trading Center