Business Turnarounds

Business Turnarounds ICTF International Credit Professionals Symposium in Europe Barcelona - 13th May 2014 David Bryan – Bryan, Mansell & Tilley LLP

Content Background Bad Debts and Insolvency Turnarounds & consensual restructuring Legal developments in Europe Dealing with turnarounds Conclusions Q&A

The Decline Curve Underperformance Distress Crisis Failure

The Decline Curve Underperformance Distress Crisis Zone of Insolvency Failure Insolvency

Bad Debts • When it all goes wrong! • Customer payments take longer and longer • Eventually unable to pay • Customer files for insolvency • You have a bad debt subject to: • Reclaim of VAT • Credit insurance if covered • May get a return from the insolvency process • Not a good outcome

Insolvency • In principle, similar in most European jurisdictions • Handled by a liquidator, receiver, administrator, insolvency practitioner according to jurisdiction • A statutory process whereby the assets are realisedand distributed to creditors and shareholders in a prescribed order of priority • It is a necessary tool to deal with the failings of capitalism but often produces a poor return for stakeholders

Typical Insolvency Value Break

Why are returns so low? • Process takes too long and is fee intensive • Goodwill of business damaged • Customers lost or potentially lost • Good employees leave / hired by competitors • Assets sold on a fire sale basis • Typically minimal warranties on sale • Potential difficulties with credit etc post sale and general stigma • Unsecured creditors often get a poor return • Process works but there must be a better alternative

The Turnaround Underperformance Distress Crisis Recovery Crisis Management Stabilisation Zone of Insolvency Insolvency

Evolution of turnaround • 1979 US bankruptcy code created “debtor in possession”. • 1980’s / 90’s saw the rise of turnaround managers and the role of the Chief Restructuring Officer (CRO) in the US • “Company Doctor” arose as a term to distinguish from those that manage insolvency processes • Influx of American boutiques and banks has seen US terminology gradually take hold

Evolution of turnaround • No legal definition of turnaround or CRO in most jurisdictions • No formal training procedures until now. Recent move to replicate US Certified Turnaround Professional (CTP) with EACTP • Membership organisations exist such as the Turnaround Management Association (TMA) with almost 10,000 members worldwide • Not every business can be turned round. There are pre-requisites for a successful turnaround

Prerequisites for a successful turnaround Available short term liquidity

Prerequisites for a successful turnaround Viable core business Available short term liquidity

Prerequisites for a successful turnaround Credible management team Viable core business Available short term liquidity

Prerequisites for a successful turnaround Fundable business plan Credible management team Viable core business Available short term liquidity

Elements of a turnaround Operational: • Cash flow management and improvement • Cost reduction • Revenue improvement • Product / Service portfolio changes • Closure or sale of non-core businesses • Management changes • Dealing with unions, landlords, pensions etc • What should the business look like?

Elements of a turnaround Operational: • Cash flow management and improvement • Cost reduction • Revenue improvement • Product / Service portfolio changes • Closure or sale of non-core businesses • Management changes • Dealing with unions, landlords, pensions etc • What should the business look like? Financial: • Business valuation & liquidation outcome • Re-financing / new debt • Debt / Equity swaps to reduce debt (existing equity diluted) • Debt forgiveness (“Hair Cuts”) • New equity injection • Compromise agreements with trade creditors (payment plans, possible hair cuts etc) • What capital structure does the business need and can support?

Consensual Financial Restructuring

Turnaround vs Insolvency • Business value is enhanced • Process is normally quicker • Operational + Financial turnaround should leave the business able to not just survive but thrive • Avoids a potential “Chapter 22” • The ultimate objective is to preserve value for all stakeholders

Turnaround – Legal Status • Originated with Chapter 11 protection in the USA • For many years no statutory protection in any European jurisdiction • Always a risk that any one creditor could take action and effectively cause the turnaround to collapse • Practitioners became very adept at persuading creditors of the merits of the approach and avoiding problems but often like herding cats • Recently the law has started to change to provide protected pre-insolvency procedures

Changing Laws • Many countries have updated their insolvency laws in the last few years • Some have changed their laws to introduce some form of pre-insolvency process, eg: • France – Mandate ad hoc / Conciliation / Sauveguard • Italy – ConcordataPreventivo / Article 182 bis • Recent EU proposal in March 2014 to formalise pre-insolvency process across Europe

EU Proposal • Notes that 200,000 businesses become insolvent in the EU every year • Notes that “insolvency frameworks in many EU countries currently channel viable enterprises in financial difficulties towards liquidation rather than restructuring” • Suggests that honest entrepreneurs need to be allowed to learn and try again • Recommends member states put in place measures within one year to effect five aims

EU Proposal – Five Aims • Facilitate restructuring at early stage before insolvency without lengthy or costly procedures • Allow debtors to restructure without need to formally open court procedures • Allow businesses to request a temporary stay of up to four months (extendable) to restructure before creditors can launch enforcement proceedings • Facilitate the process for restructuring keeping in mind the interests of debtors and creditors • Reduce negative effects of bankruptcy in particular by discharging debts within three years

EU Proposal • Will it be adopted? How long will it take? • The trend towards turnaround is there, seen in practice and increasingly in law • What does it mean for the credit management industry and you?

Implications for Credit Managers • Recognise it is a negotiation and you get what you negotiate • Trade creditors normally numerous and don’t act together • Typically the 80/20 rule applies • Likely to see trade creditors getting together with a committee run by the larger creditors and the smaller just tagging along • Where substantial amounts at stake committee will appoint advisers and share cost and among all

Implications for Credit Managers • Much more engagement between creditors and the debtor • Understand big picture. Why has this happened? How does the whole restructuring work? Why is it better than insolvency? Who is taking the pain? • Are unsecured creditors being treated equally and fairly? • Can a better deal be negotiated? • Need to understand the detail or have advisers do so on the creditors behalf

Implications for Credit Managers • Are the issues that got the debtor into trouble being addressed? Don’t want a “Chapter 22” • How much headroom is there in the plan going forward? Is there sufficient margin for missing the plan before payments to creditors are at risk? • Can payments be accelerated if performance is better than plan? Make it a condition? • Are adequate safeguards in place to prevent excess bonuses, dividends, capex, management fees etc? • Will credit insurance be available? • Negotiate to get the best deal!

Conclusion • Businesses get into distress more rapidly than management ever expects • If the requirements for a successful turnaround can be met, a live business is worth more than a dead one • Consensual restructurings will become more common and legal changes will likely support that • Trade creditors will need to work together and engage with the debtor • Understand the big picture and the detail, take advice and negotiate the best deal possible

THANK YOU! Questions please

Business Turnarounds