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5 Essential Steps for Securing Capital or Selling in Turbulent Times – Special Situations Transactions

by | Mar 14, 2022 | Articles

In times of uncertainty and economic upheaval it is important for companies to be pro-active in evaluating their strategic alternatives and capital needs.

Below is a brief guide to help you understand what steps and considerations should be taken when considering if pursuing a Special Situations transaction is an appropriate step to help maximize value for the company and its constituents.

Guide for pursuing a Special Situations transaction

  1. Review Loan Covenants and Creditor Relationships
    • In a time of operational or financial distress, creditors are often the catalyst for a company to pursue a sale as they seek to recover as much of the outstanding credit as possible.
    • It is important to start a dialogue with your creditors so that they know a plan is in place and that you are pursuing a professional process to maximize their recovery.
    • Forbes has deep experience creating consensus among the constituents, establishing credibility and creditor support through an accelerated M&A process.
  2. Analyze Cash Needs vs. Balance Sheet Value
    • During periods of distress companies are often burning cash, resulting in negative cash flow. Distressed companies with negative cash flow must often be sold quickly before they run out of money, leaving liquidation as the only available alternative.
    • To generate cash quickly, receivables and inventory are often a company’s most liquid assets (excluding cash and securities), which can be monetized by offering customers special payment terms to ensure they pay quickly or before they decide to manage their own challenges by not paying you. Inventory can be sold at a discount to entice customers to purchase sooner rather than later.   Companies may reach out in the negotiation of commercial contract terms, often trading off short-term payment obligations for favorable pricing and contract terms.
      • Other assets are often sold as part of a liquidation process to provide creditors a recovery; however, a liquidation process does not maximize value relative to an accelerated M&A process.
      • A company may work now to identify larger real property or larger-scale capital assets for potential sale/ leaseback arrangements as a source of liquidity. The timing for negotiation and universe of available investment partners will need to fit a company’s process timing and liquidity requirements.
    • Given the time sensitive environment, a Special Situations M&A advisor must have the capability and experience to provide unbiased guidance on the trade-offs between time and value.
  3. Consider Non-Traditional Alternatives
    • In an effort to continue operations, maintain flexibility, or as part of a long-term restructuring plan, new capital may need to be injected into the company. In many situations, this may require alternative capital sources and structures to account for the risk assumed by the investor(s).
    • There is a broad universe of Special Situation vehicles that seek to invest in atypical situations by employing creative solutions and instruments, including minority and majority recaps, uni-tranche structures, subordinated and equity-linked debt, and/or rescue and project financing.
    • Our professionals have relationships with hundreds of investors who look to inject capital in challenging situations and can move quickly.
  4. Understand Constituents Rights:
    • Companies facing financial challenges must remember that there are a variety of constituents who have a stake in the successful turnaround or sale of the business.
    • As levels of distress become more apparent and the impact on the different unsecured constituents becomes more severe, it is reasonable to assume those constituents are engaging professionals and preparing to preserve their rights:
      • Vendors: If you have extended or stopped payments to a vendor(s) they can form a committee comprised of two other vendors to force you into bankruptcy by signing onto an involuntary petition.
      • Landlord(s):If the company closes a leased facility or office without securing a release from the landlord that obligation can put the business at risk at the expense of other constituents.  Such an action may require the company to seek bankruptcy relief or to pay the landlord rent for some extended period, which could further burden cash and recoveries for the other constituents.
      • Employees:If a company has 100 or more employees it is subject to the terms of the Worker Adjustment and Retraining Notification Act (WARN Act), which requires a 60 calendar-day advance notification of any plant closing or significant reduction in force.  Without sufficient notice a company can be held responsible for paying equivalent wages for the 60-day notice period, and if the company does not have enough cash to make those payments, then the Board and/or the executive officers of the company can be held personally liable.      
    • It’s important for companies facing distress to understand the concept of Fraudulent Transfers. Any transfers from the company to insiders made less than 12 months prior to a bankruptcy filing can be denied by the Court.  The Court views those transfers as monies that could have been used to pay down creditor claims and will take back those transfers.
  5. Engage Specialized Advisors Early
    • In a distressed situation it’s important to seek guidance from experts as soon as possible to help manage this complex and time sensitive period. A delay in engaging formal advisors may impact the ultimate universe of potential counterparties, overall valuation, and control of a process.
    • From an M&A perspective, the sale process is similar to a healthy transaction, in that marketing materials need to be created, distressed buyers contacted, price and terms negotiated, and due diligence managed.
    • While similar to a healthy transaction, Special Situation transaction requires additional specialized knowledge and expertise:
      • Work with all constituents who have a stake in the transaction, including secured creditors, unsecured creditors, shareholders, and non-owner management team.
      • Execute on an accelerated basis (30 to 90 days) to avoid a costly bankruptcy or further disrupting the business and its reputation in the market.
      • If applicable, establish a stalking horse bid and negotiate bid procedures including break-up fees and overbid protections in the event a section 363 sale is required.
      • Highlight the value drivers of the company and effectively communicate a cost-effective path to a return to profitability.
      • Lead and coordinate all other advisors, such as restructuring professionals, M&A/bankruptcy counsel, bank workout officers, bond holders, and other constituents.

For more information on M+A transactions and industry insights, read our blogs.