Standing up a newly divested company is an intricate and challenging process. When a business unit is separated from its parent company, it must rapidly establish its own independent operations, including information technology, human resources, finance, and other critical functions. This change is often governed by a Transition Services Agreement (TSA), which sets a deadline for the divested entity to become fully independent. Unfortunately, far too many stand-ups fail. In this article, I’ll lay out what’s at risk if you don’t stand up the new organization within the TSA timeline, explain why many leaders choose to add transformational scope before exiting RemainCo, reveal the under-appreciated complexities that often emerge, and guide you on what you should do instead. Just a hint, refer to the title.

What’s at risk

Simply stated, the risks are incredibly high. Significant capital has been put in play to make an investment thesis come to fruition but that’s all reliant on a successful stand-up (i.e., NewCo must be able to take orders, bill and collect) and TSA exit. Consequences of a delayed TSA exit can be existential, ranging from no longer being able to operate to incurring significant penalties and strained relationships with the parent company, capital investors and banks.

Why take on this risk

Given the enormity of what is at risk, what could possibly motivate someone to do anything more than what is absolutely necessary to stand up NewCo and exit the TSA? As a new leader, you believe this could never happen to you. After all, with new leadership comes a sense of optimism and a fresh perspective, promising positive changes and improvements within an organization. You’re likely eager to make your mark by implementing new strategies and processes to drive progress. You’re probably incentivized with stock conditioned on increasing revenue and EBITDA. However, in the zeal to effect all this change and get those incentives, leadership frequently introduces complexities and disruptions that can overwhelm the existing systems and staff. Leadership is often tempted to add additional scope because they envision an organization that is not only efficient but also technically advanced, ensuring it remains highly competitive in the market and attains that EBITDA. You understand that by integrating advanced technologies and streamlining processes, you will create a more agile and responsive organization. This drive for efficiency and competitiveness motivates you to undertake comprehensive transformations, believing that an all-encompassing approach will yield the most significant benefits, secure the competitive edge, and ultimately increase that EBITDA. Shoot, you have no choice but to take on that additional scope, so it seems.

Furthermore, leaders recognize that the organization will inevitably experience some level of trauma as it undergoes separation from RemainCo. Knowing that this transition will be disruptive, you reason that it is more pragmatic to address multiple transformative goals simultaneously rather than staggering them over time. By merging the transformation required for the exit with the transformation needed to enhance efficiency, you aim to ‘rip off the band-aid’ only once. This approach, you believe, minimizes the overall disruption and allows the organization to emerge stronger and more cohesive, rather than subjecting it to multiple phases of upheaval.

In addition to these factors, you might be encouraged by a perceived low resistance to additional change within the organization. With a workforce and other stakeholders already braced for significant changes due to the separation from RemainCo, you see this as an opportune moment to introduce broader scope initiatives. Everyone is already in a mindset of adaptation and transition, so as the leader, you feel that there is less resistance to further changes, making it an ideal time to implement comprehensive process improvements and technological upgrades. This window of lower resistance is tempting, as it presents a unique chance to effect substantial and far-reaching changes without facing the usual pushback.

Considering these factors, it’s no wonder you’re tempted to expand the transformational scope. You’re aiming to create a more efficient, competitive organization while minimizing the frequency and intensity of disruptions, capitalizing on a rare period of openness to change, and accelerating increased EBITDA. Unfortunately, the increased complexity you’re taking on will now prevent you from being able to exit the TSA on time with a functioning company.

The increased complexity is greater than you think

Time pressure 

TSAs typically have strict timelines, often ranging from 6 to 18 months. This limited timeframe forces the new company to rapidly establish all necessary functions and systems. The pressure is intense because failing to meet the deadline can result in significant financial penalties or operational disruptions. Every day counts, and the company must prioritize and execute multiple complex tasks simultaneously.

Limited workforce

When a business unit is divested, it faces a significant challenge: the limited transfer of its workforce. Not all employees from the original business unit move to the new entity, and often, those with critical knowledge and expertise choose to stay with the parent company or leave entirely. This leaves the newly formed company starting with a lean team, lacking depth in essential areas. Imagine trying to build a house with only half the necessary builders - every delay and misstep becomes magnified. The limited workforce not only slows progress but also places immense pressure on the remaining employees to rapidly develop expertise in unfamiliar roles. This precarious situation demands extraordinary effort and resourcefulness to ensure the divested entity can stand on its own.

Skill gaps

Specialized skills in critical areas such as IT, finance, HR, and legal are often underrepresented, leaving the new entity vulnerable. The transferred workforce may find themselves suddenly responsible for functions they’ve never handled before, previously managed by shared services at the parent company. This lack of experience can lead to missteps and delays, jeopardizing the new business’s ability to take orders, deliver products, and collect payments. It’s like asking a skilled chef to perform a complex surgery – they have the expertise, but not in the areas crucial for the new mission. Addressing these skill gaps quickly and effectively becomes a race against time to ensure the new entity can stand strong and independent.

Inexperience with the divestiture process 

A critical aspect often overlooked is the inexperience of the transferred workforce in managing the unique challenges of a divestiture. Inexperience with the divestiture process significantly complicates the transition for the transferred workforce. Most employees have never navigated the unique challenges of a divestiture, adding another layer of complexity to the already strained resources. They often fail to grasp the urgency and intricacies of exiting a TSA. While they excel in their day-to-day roles, which is necessary for maintaining current operations, they lack the expertise in establishing new business processes or systems. This inexperience leads to a focus on maintaining current operations rather than building new capabilities, causing teams to underestimate the time and effort required for transition tasks. The result is a precarious situation where the team’s inexperience threatens the entire divestiture’s success.

Operational continuity

The business must maintain day-to-day operations while simultaneously building new infrastructure and processes. Maintaining business-as-usual operations while undergoing a major transition is akin to changing an airplane's engine mid-flight. The company must ensure that customers continue to receive products or services, suppliers are paid, and employees are managed effectively. This requires careful planning and execution to prevent disruptions that could damage the company's reputation or financial performance.

Data migration

Transferring and securing sensitive data is both critical and complex. This process involves more than just transferring files. It includes:

• Identifying and segregating relevant data from the parent company's systems

• Ensuring data integrity and security during the transfer

• Complying with data protection regulations

• Setting up new databases and ensuring compatibility with new systems

• Training staff on new data management processes

• The complexity increases with the volume and sensitivity of the data involved

Regulatory compliance

The new entity must ensure it meets all relevant industry and governmental regulations independently. While regulatory compliance is significantly influenced by an entity's industry, an area of compliance that is always a concern is being audit-ready after exit. Having traceability back to legacy data is often an overlooked requirement, especially if there was significant transformation from old to new. 

Scope creep and timelines 

Scope creep and timeline extensions are interrelated risks that can significantly jeopardize a divestiture process, especially when attempting major transformations like switching from a large ERP system to a more agile one. These transformations are often pitched by system integrators as a quick win for newly divested companies. Rarely are these transformations quick or a win. These integrators frequently present aggressive estimates, promising a swift implementation that aligns with TSA deadlines. However, such estimates often fail to account for the true scope and complexity of the transition.

The reality is that moving from one foundational system to another involves far more than a simple data migration. It often requires:

• Business process reengineering to align with the new system’s capabilities

• Data cleansing and restructuring to fit the new system

• Integration with other business-critical systems

• Extensive testing across all business functions

• User training and change management

As the project progresses, additional requirements often emerge. For instance, teams might realize they need custom modules to replicate critical legacy system functionality not native to the new system. Or they may discover that certain data structures in the legacy system don't have direct equivalents in the new system, necessitating complex workarounds.

Each of these discoveries expands the project scope, pushing timelines further. What was initially proposed as a 6-month implementation can easily balloon into a 12-18 month project or longer. This extended timeline not only puts TSA exit dates at risk but also significantly increases costs, both in terms of the implementation itself and potential TSA extension fees.

Moreover, the longer the project runs, the more likely it is to be affected by other business changes or external factors, further complicating the transition. For example, if the project extends across fiscal year boundaries, it may need to accommodate new regulatory requirements or reporting standards.

What should be done instead

Understanding how you might be biased given your motivations, your incentives and potentially your lack of prior experience going through this exact process is an important first step. Next, newly divested companies should prioritize a "lift and shift" approach, replicating existing processes and systems to ensure a timely TSA exit, i.e. do the absolute minimum required to stand-up and exit the TSA. Once independent operations are established and the TSA is exited, the company can then, and only then, undertake carefully planned improvement initiatives with reduced time pressure and risk. The one and only commandment for the program team charged with standing up the new entity should be, “THOU SHALL DO ONLY WHAT IS NECESSARY TO EXIT THE TSA.” Honor the commandment and you won’t have to seek reconciliation from the board.

About us: mXa, on the 20+ year foundation of Method360, was founded to intentionally serve fast-growth companies and the unique challenges they face. We understand that inorganic and organic growth provokes change, ambiguity, and uncertainty that can deeply burden the organizations involved. By seeking to understand the human element in M&A and fast growth environments, mXa embraces a unique, contrarian approach in advising clients that seeks to realize maximum value for them in alignment with business objectives.

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