Q&A/Distressed Businesses:
Knowing When to Sell and When to Buy
Nancy A. Ross is an experienced turnaround consultant and crisis manager with High Ridge Partners in Chicago. A Certified Public Accountant and Certified Insolvency and Restructuring Advisor, Nancy has assisted an array of businesses with advice on restructuring, finance, accounting, auditing and operations. She often acts as a fiduciary for creditors in assignments for the benefit of creditors and in Chapter 11 plans. Her experience also encompasses forensic investigations and related expert testimony, acquisition due diligence, pre-bankruptcy planning and out-of-court compositions. Much Shelist spoke to Nancy about how owners of small and midsized businesses can identify opportunities and respond to the financial consequences of a slowing economy.
Much Shelist: We hear that the current economic slowdown is moving from Wall Street to Main Street. Has increased awareness of the state of the economy made it easier for business owners to identify and respond to potential issues within their own companies?
Nancy Ross: Not necessarily. Many smaller and midsized businesses—those with annual revenues ranging from $500,000 to $500 million—are owned by entrepreneurs who are used to exercising a great deal of control over their companies. When a business or the economy starts to falter, there is often a sense of losing control—and a frequent response is for these owners to tighten their grip on the company and resist any change. This is also true of family-owned businesses, which are typically run by a fairly small, close circle of people. When times are bad, the business owner often believes that trying to change anything will make matters worse. The reality is that the financial distress is the signal that change is necessary.
Some business owners also resist taking action because they worry that seeking outside help is too costly. My response to this concern is that you can't afford not to take action. If you want your company to survive in the long run, you must act before costs and other issues spiral out of control.
MS: Are there other common misperceptions held by owners of companies in distress?
NR: Sure. For example, many business owners mistakenly view bankers, creditors, unions—sometimes even their own family members—as adversaries in the process of financial recovery. The truth is that these stakeholders are often just as invested in the success of your company as you are, and are quite willing to help you find a solution. Talk to the other stakeholders—your bankers, your customers, your creditors and your employees. Although "talk is cheap," silence is expensive. Without good communication, your stakeholders will assume the worst.
Another misperception is that current financial distress means that the underlying value of a company is shrinking or has even disappeared. In most cases, however, the value of the business assets, products or intellectual capital remains relatively high. In fact, financial distress provides the business owner the opportunity to take stock of the company's assets and evaluate how they can be most productive. Sometimes the answer is to sell all or part of the assets. Although this may seem counterintuitive (think "buy low, sell high"), selling underperforming assets in a bad economy is better than allowing those assets to be unproductive.
This latter concept actually leads to an interesting point about the current financial crisis: businesses that are in a position of strength may want to keep their eyes open for opportunities to acquire valuable assets. This could mean the outright acquisition of a struggling company; it also might mean purchasing the operational units, product lines or intellectual property of a business that needs to shed what, for the original owner, are underperforming assets. In many cases, these assets can help create added value in the hands of a new owner through increased efficiencies, diversification of product lines or opportunities to penetrate new markets.
MS: What are some warning signs of financial distress that a business owner should look out for?
NR: There are a number of important red flags, including:
- A change in the type or timeliness of financial information. If the financial reports the owner is receiving from the business change in content or format, be alert to the reasons. While it could be innocuous format changes from a software update, owners should make sure they still get information on the key business drivers from any re-formatted reports. And if financial reports are getting progressively later in the cycle, find out why before it's too late.
- Increasing "legacy" or family costs. Are payments to family members or other owners growing or causing the business to take previously unthinkable steps, including laying off employees or delaying payments to vendors, in order to keep the cash flowing to these parties? If so, financial trouble could be brewing.
- Inappropriate or unwise borrowing. A sure sign of a company in distress is when it begins borrowing from its employees. Failing to remit payroll trust fund taxes to the government or 401(k) payroll deferrals to the plan trustee is not only unethical and expensive, but it is also illegal. Deferring or reducing employee wages may be a possible solution, but this option can only be exercised with the full understanding and support of a company's employees or their union.
- Pricing pressures from customers, along with cost pressures from suppliers and labor. Many businesses resist raising prices for their customers out of concern about potential sales losses. Most businesses are also accustomed to dealing with demands for higher wages or benefits from employees and cost increases from suppliers. However, when customers actively press for price reductions at the same time that employees and suppliers are pushing for increases, business owners should take note—problems may be on the horizon.
Other signs of looming financial distress include extended or complex litigation, losses of key members of the family or management team, and—as basic as this may sound—a fear of answering the phone out of concern that the call may be from a banker, creditor, vendor, landlord or someone else with a question about money.
MS: If a business owner thinks that his or her company is in financial distress, what should he or she do?
NR: Do you remember the lifelines on the TV quiz show "Who Wants to Be a Millionaire?" One of those was to "phone a friend." In other words, take action and call on an expert for guidance.
For an owner of a small or midsized business, friends include attorneys, accountants, bankers, investment bankers and business brokers. Turnaround consultants—also known as crisis managers, workout specialists or restructuring advisors—can be valuable advisors in helping the owner identify opportunities to bring the business back into profitability. If selling all or part of the business is the best option, a turnaround consultant can help organize the appropriate resources in order to ensure that the seller receives the highest return possible for the company or its assets.
There are several professional associations that can put a business owner in contact with an experienced, certified turnaround consultant. These include the Association of Insolvency and Restructuring Advisors (AIRA), the Turnaround Management Association (TMA) and the American Bankruptcy Institute (ABI). Each of these organizations offers a national network of highly knowledgeable turnaround consultants that have been extensively trained and certified in the issues and opportunities facing owners and buyers of distressed businesses.
For more information on strategies for distressed businesses, contact Nancy A. Ross at nross@high-ridge.com, or visit www.high-ridge.com.
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