Carve-out transactions introduce a level of complexity often underestimated by seasoned deal teams and differ from a typical merger and acquisition (M&A) deal. Carve-outs involve the intricate work of disaggregating systems, operations, financials, staff, and customers from a parent company that didn’t design these elements to stand by themselves.
When value erosion happens in these deals, it rarely comes from market forces. Instead, it stems from avoidable carve-out mistakes and planning errors. To help you navigate these challenges, we’ve compiled the most common pitfalls and actionable insights to help avoid them early in the process.
Top Seven Carve-Out Issues & Strategies to Address Them
Below is a breakdown of frequent errors that can occur during a private equity carve-out transaction.
1. Underestimating Standalone Costs
One of the most significant carve-out pitfalls is the failure to accurately project what it costs to run the business independently. Often, there isn’t a full financial statement for a carve-out entity. While direct revenues and costs might be clear, indirect costs are not directly assignable. Buyers can miss critical expenses because they don’t see the full picture of the parent company’s support. Buyers sometimes start with “a blank piece of paper” and can undercount corporate overhead, unallocated costs, or critical parent-run functions because these costs are hidden within the larger parent organization’s structure.
Rigorous standalone cost modeling can help alleviate this issue. Look beyond direct costs and determine exactly what is needed to support the business post-close:
- Identify overhead: Determine which employees and overhead costs are required to run the company effectively.
- Build a defensible model: Map out costs across personnel, facilities, insurance, marketing, audit, tax, IT, and shared services early in the process.
2. A Vague or Incomplete Transition Services Agreement (TSA)
TSA mistakes are common when critical functions needed to stand up a business on its own without parent company support are not identified. Teams may not list essential services, leaving the new company stranded without support for vital operations like billing or HR. If TSA scoping is rushed, deal teams may miss essential services such as payroll, billing, enterprise resource planning (ERP) access, IT security, compliance, and customer support. To help avoid this issue, treat TSAs as a critical bridge to independence:
- Identify critical services: Specifically, look for functions like billing, HR, and payroll that the company cannot function without.
- Define the details: Develop the TSA scope with clear boundaries. This includes setting service levels, cost structures, timelines, performance metrics, pricing methodology, and a governance cadence.
- Plan the exit: Don’t just plan for the TSA; plan the TSA exit road map to help ensure you aren’t reliant on the seller indefinitely.
3. Delayed IT Separation Planning
IT carve-out issues are often the most complex part of the separation. IT support for the business unit is frequently deeply intertwined with the parent company, making it unclear exactly what needs to be separated. IT often seems behind the scenes or secondary to commercial concerns. However, in carve-outs, it can become the biggest bottleneck because systems, licenses, and data architecture are shared. Consider the following strategies to help mitigate these challenges:
- Map systems early: From the sell-side perspective, understand the IT operating expenses and capital expenditures for the business unit.
- Identify opportunities: From the buy-side perspective, determine if there are opportunities to use other systems or run IT more cost-effectively than the parent company did.
- Manage the details: From both the buy- and sell-side perspectives, identify which systems are involved with the deal, determine data migration needs, quantify partial full-time equivalent (FTE) support, and review licensing and termination fees.
4. Lack of a Customer Continuity & Communication Plan
Failing to protect the customer experience during the transition is a major error. Commercial teams often assume customers won’t feel the separation. However, even small hiccups like billing delays or support gaps can trigger churn. To lessen the risks:
- Identify top accounts: Know who your most critical customers are.
- Communicate proactively: Publish clear, customer-facing questions that may potentially be asked and communicate continuity plans early.
- Maintain service levels: Make sure pre-close service levels are maintained so the customer feels little to no disruption.
5. Supply Chain or Manufacturing Gaps
A common operational issue arises when a carved-out product is manufactured in a facility that is not included in the deal. Plants, equipment, or supplier contracts often stay with the seller. This leaves the carved-out business legally owned by the buyer, but physically unable to produce or ship its product. To help avoid this:
- Bridge the gap: Arrange for the seller to continue manufacturing while a new facility is built or sourced.
- Have a use agreement in place: This requires a solid manufacturing services agreement (MSA).
- Plan for inventory: Build inventory buffers and map supplier obligations in advance to prevent stockouts.
6. Overreliance on “Synergies” in Valuation
Buyers are often required to pay for systems that already exist within their infrastructure, or they overestimate their value. Consider the following strategies:
- Find the “common-sense” answer: Determine where the practical answer lies for add-ons where the buyer already has infrastructure.
- Separate costs from benefits: Distinctly separate “required standalone cost” from the “synergy benefit.”
- Don’t overpay: Don’t use synergies to justify paying more or forecasting too aggressively.
7. Incomplete Day 1 Operating Readiness
The final mistake is arriving at Day 1 unprepared to operate. Deal teams focus heavily on the transaction closing (signing the papers and transferring funds) and underestimate how many operational details must work correctly on the very first day of independence. To help ensure a smooth Day 1, consider all critical functions: payroll, billing, customer support, IT access, cybersecurity, order fulfillment, and financial reporting.
Real-World Examples
To illustrate these carve-out challenges, here are two case examples derived from real transactions.
Example A: The Billing System That Didn’t Transfer
A tech company sold a cloud storage business to a smaller startup. The startup did not have a customer support center, billing system, or IT infrastructure. The buyer lacked billing capability on Day 1, which would have created a cash collection freeze.
- Resolution: A TSA was signed for the selling tech company to keep running these systems for six months while the startup built its own capability.
Example B: Manufacturing That Didn’t Convey the Deal
In this case, the manufacturing equipment was being used to manufacture multiple products for the parent company. The facility itself was not included in the deal.
- Resolution: This required emergency negotiations on how to stand up a new manufacturing facility for the company, taking on the capability, utilizing MSAs to bridge the production gap.
M&A Carve-Out Readiness Checklist
Consider the following M&A carve-out checklist to help ensure you are prepared for separation:
- Standalone cost model completed: Understand how the selling company determines cost allocation and exactly what is included.
- TSA scope validated with all functions: Identify critical services needed for business continuity post-close (billing, HR, payroll).
- Manufacturing and supply dependencies mapped: Determine if the seller has competitive advantages (like bulk buying power) that you will lose.
- IT systems separation plan drafted: Have a clear plan for separating intertwined systems.
- Data migration plan approved: Know how and when data moves.
- Cybersecurity controls ready for Day 1: Make sure security isn’t compromised during the handoff.
- Customer communication drafted: Have your communication plan and scripts ready.
- Day 1 operating model confirmed: Make sure that key operations are functioning.
- TSA exit plan defined: Know the plan in advance.
Carve-Out Frequently Asked Questions (FAQs)
What is one of the biggest mistakes in a carve-out?
One of the biggest pitfalls can be underestimating how much a carve-out relies on the parent company, especially regarding IT and shared services.
How long does a carve-out separation typically take?
Depending on IT complexity and TSA length, six to 18 months is common.
What usually causes TSA cost overruns?
Vague scoping, unclear service level agreements (SLAs), and extended reliance on parent IT and services often lead to higher costs.
Why do customers churn after a carve-out?
Churn is usually triggered by poor communication, inconsistent service, billing errors, or delayed support transitions during the handover.
What does Day 1 readiness require?
Being fully operational on Day 1 requires functional payroll, billing, IT access, cybersecurity controls, customer support, and operating continuity from the moment the deal closes.
Which function is the hardest to separate in a carve-out?
IT is almost always the hardest, due to hidden interdependencies, licensing issues, identity management, and complex data migration requirements.
How Forvis Mazars Can Help
Carve-outs succeed when teams anticipate complexity early. By avoiding errors and planning for Day 1 readiness, IT independence, and customer stability, deal teams can preserve value, lessen risks, and accelerate the path to a fully independent business. Our Private Equity team spans multiple service lines and can help private equity firms, investment funds, and their portfolio companies meet their needs in a fast-paced market. By working alongside you and understanding you, our assurance, tax, and consulting services are meticulously tailored to meet your unique needs. If you have any questions or need assistance, reach out to a professional at Forvis Mazars.
Watch our archived webinar on demand, “From Separation to Strength – How to Thrive in Carve-Out Acquisitions,” for more information on these topics.