Founder: Turnaround Talk
Since I started Turnaround Talk on 10 May 2021, I have learned a few things about business rescue. First, many challenges can place a company in financial distress. Some of these challenges (such as a leadership crisis, gross mismanagement and financial mismanagement) are a result of human error. Other challenges (such as Covid, the Global Supply Chain Crisis, and digitalisation) are external challenges that companies have little control over.
Second, the business rescue process takes a long time; ask South African Airways. Therefore, the earlier a company enters into business rescue, the better.
And third, business rescue is a stressful process. And while the company and business rescue practitioners plot the distressed company’s future, employees and suppliers remain uncertain about their future.
What if points two and three were merged? If a company realises its distress early enough, can it use the informal restructuring process to stave off business rescue? Gregor Böttcher, an Associate Director SA at Deloitte, discussed this at the launch of the 2023 Deloitte Restructuring Survey.
Since formal restructuring mechanisms are either being underused (the case in Nigeria), used too late (the case in Kenya) or used in contexts for which they were not designed (the case in South Africa), the crucial issue is how to combat the storm to preserve jobs and value.
“The respondents to our survey are clear on the answer: informal restructuring mechanisms are seen as most likely to rescue a company. However, two ingredients are needed for an informal restructuring to work: time and stakeholder buy-in,” said Böttcher.
Time
It is two minutes to midnight. The company’s directors believe, but cannot quite prove, that the business is days away from running out of cash. Angry suppliers have begun litigation proceedings. Frustrated lenders are mulling over enforcement action as yet another repayment milestone has been missed.
“For restructuring professionals, this is an all-too-familiar story. It is also the worst possible backdrop for informal restructuring negotiations. For a successful outcome, we need to turn back the clock and ensure intervention occurs months (if not years) earlier by tracking the right indicators of financial distress,” said Böttcher.
The 2023 Deloitte Restructuring Survey shows increasing alignment between stakeholders on which indicators to track. During the pandemic, management teams learnt hard lessons on the importance of building resilience in their organisations. Resilience starts from truly understanding operations and encouraging agility in response to the shifting sands of the market. In this context, it is predictable that operational key performance indicators (“KPIs”) are gaining traction.
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Management teams have also learnt the lesson of putting liquidity first: we were surprised to find the extent of alignment between the areas lenders felt companies should prioritise in the next 12 months and the areas C-Suite said they will prioritise over the same period. This indicates that management teams are trying to do the right thing, namely preserve cash and protect market share. This, in turn, can create the runway needed for informal restructuring activity.
“The operational KPIs flagged by survey respondents also happen to be earlier-stage indicators of distress; appropriate action in response to these signs heading the wrong way can create the runway needed for a less painful, informal restructuring,” said Böttcher.
Stakeholder buy-in
When lenders are first alerted to signs of distress, survey respondents report that the last thing on their minds is the pursuit of enforcement action. Instead, they wish to engage in dialogue with management and better understand the business and its outlook. In other words, lenders’ instinct is for collaboration.
“Interestingly, when we unpack other responses, the emerging theme is lenders are turning to a tool that had, until recently, been in decline: the independent business review. When we consider the volatility of the economic environment and the operational challenges facing many businesses, a “back to basics” approach by lenders makes sense,” said Böttcher.
So how can management teams and restructuring professionals build on lenders’ preference for collaboration to deliver win-win restructuring outcomes?
“Our survey respondents highlight two critical success factors: competence and high-quality, reliable financial information. These two points reinforce each other. When lenders are presented with numbers and a narrative that can stand up to scrutiny, their estimation of the management team’s competence rises. This is a particular differentiator in distressed environments,” said Böttcher.
The relatively low ranking of management proactivity is intriguing and initially appears counterintuitive. However, in the context of competence, it makes sense. A hasty, poorly prepared approach to lenders by providing poor-quality information reveals the quality of the management team itself.
Böttcher added that, to achieve stakeholder buy-in, it is crucial that management first gets their ducks in a row: nobody wants to defend incompetence in a credit committee.
Interestingly, seeking professional advice was ranked last. For most management teams approaching distress, it is likely their first time sitting across the table from highly experienced lender workout teams. The information these stakeholders require is often vastly different from ordinary course board reporting.
“If management must appear competent and provide quality information for lender buy-in, hiring a restructuring professional sooner rather than later is crucial. This allows management to focus on the complex task of running the business while the advisor runs the restructuring process. And lenders responding to our survey appear to agree: when asked what actions companies should take in response to distress, they ranked seeking professional advice as second,” said Böttcher.
Overall, Deloitte sees an alignment of the stars – stakeholders finally agree on immediate priority areas and which KPIs to track. This alignment presents an opportunity for the kind of collaboration needed to deliver less painful, informal restructurings.
But the time to act is now.
“Our C-Suite respondents are clear that once this storm has passed, their focus will return to growing their business. Repaying debt will then be their last priority,” said Böttcher.
Image By: Gerd Altmann via Pixabay
A time for action
Acknowledging that improved restructuring outcomes are achieved when distress is identified early begs the question of why interventions are left too late. Who is responsible for taking action when forecasts slip, headroom squeezes, challenging industry conditions prevail, and deadlines pass? Is it truly management’s job to put their hands up and plead mea culpa? Is this a realistic expectation when management teams back themselves to resolve challenges?
We believe that there is a collective responsibility among all stakeholders to play their part in the early identification of distress and, more importantly, institute actions to address and hopefully reverse financial distress through a successful informal restructuring process.
The best possible chance of success thus calls for both early identifications of financial distress and early collaborative action. This will require all parties to put their emotions aside and address the situation at hand objectively.
