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Irrespective of the health of the underlying business, if the operating cash flow cannot finance the debt and equity obligations, a company will remain fatally wounded. In these circumstances, the only solution is a financial restructuring.
Financial restructuring is the process of reshuffling or reorganizing the financial structure of a business. It usually involves changing the existing capital structure and/ or raising additional finance through borrowing or asset reduction.
While financial restructuring can be challenging, it’s an effective catalyst in improving a business’ performance and sustainable growth.
Financial issues foreshadowing turnaround
Companies needing turnaround typically suffer from one or more of the following:
- Cash-flow problems – Insufficient future funding or an inability to pay debts as and when they fall due
- Excessive gearing – A larger proportion of debt than equity
- Inappropriate debt structure – For example,excessive short-term/on-demand borrowing and insufficient long-term debt
- Balance-sheet insolvency – When a company’s total liabilities outweigh its total assets
Financial restructuring can help tackle and resolve these issues.
The first steps in financial restructuring
The first step in financial restructuring is to make a quick but thorough assessment of the businesses short-term cash requirements (typically 13 weeks).
The second step is to identify and map all relevant stakeholders, such as lenders and shareholders, to understand their agendas and tailor communications to secure agreement for the restructuring. See our previous blog in the series on stakeholder support.
The objectives of any financial restructuring are to:
- Restore the business to solvency on both cash-flow and balance-sheet bases
- Align the capital structure with the level of projected operating cash flow
- Ensure sufficient financing in the form of existing and new money is available to finance the implementation of the turnaround plan
Entering a standstill agreement
When restructuring is considered over an insolvency appointment, it’s a good idea for the business to enter into a standstill agreement.
A standstill agreement is a formal agreement between a company and its creditors. The agreement prevents creditors from taking legal action for any losses while the restructuring is planned, providing much-needed breathing space.
The benefit of a standstill agreement is that relationships are preserved and the stakeholders have the prospect of the business paying off its debts and liabilities and become a profitable paying client again, rather than a bad debt.
Often the creditor parties must be convinced that the standstill agreement is the best option for both parties, which involves expert negotiation.
Exploring value options
To address a company’s financial issues, capital restructuring and asset reduction options should be explored. This includes considering the advantages and disadvantages of each.
An independent financial broker should be brought in to create a plan for the restructuring. They can offer expert financial guidance on the best options for the business. They’ll also be on the businesses side and save them time and money.
Capital restructuring
Capital restructuring involves changing the mix of the debt and equity in a company’s capital structure.
It usually involves an agreement between the ailing firm and its creditors (usually the banks) to reschedule and sometimes convert interest and principal payments into other negotiable financial instruments.
The raising of new funding may involve additional debt, typically from the existing lenders, who may be persuaded that the best prospect of recovering their existing lending is via the provision of further lending.
The provision of new equity from existing shareholders via a rights issue or from outside investors (vulture funds, etc.) frequently accompanies new bank lending.
Existing funders may accept a financial restructuring even if progress in the other key turnaround strategies isn’t good because they believe restructuring represents the best option for recovery of their investment.
To attract new money from new investors, there must be a convincing plan and a real prospect of appropriate returns in the restructured company.
Asset reduction
If a company is far from its breakeven point, asset reduction, or asset sale, is a good way to bring things in line by quickly reducing debt and injecting cash flow.
Assets and the business should be valued to determine their value – or the fair value market value of the business’ total assets deducting liabilities.
The key is to identify assets that are surplus to requirements and dispose of them at the highest possible value. How they are sold depends on the assets. For example, equipment can be sold on the second-hand market, while selling a part of the business may be more difficult and requires expert negotiation.
The process of asset valuation may also mean you can borrow more against an asset where its value has increased or additional equity has been generated by paying down a debt previously.
Undertaking financial restructuring
Even the most experienced, capable business leaders typically need additional support to address the significant challenges of financial restructuring.
A turnaround expert can determine the extent and urgency of the liquidity issues and identify appropriate restructuring options. They can also help the business execute the restructure in an efficient, effective way. Plus, they’ll monitor its progress once in place.
That’s turnaround strategies ticked
And that’s a wrap on this seven-part blog series on turnaround strategies – we hope you’ve found it informative.
While some strategies naturally follow on from another, it’s important to note that they can be employed in any order, depending on the individual situation of the business.
If you missed any of the strategies, you can find links to the previous blogs in the series below.
If you have a client facing financial difficulties and needs to turn things around, contact us today to set up a meeting. We’re experts in financial restructuring and in the other turnaround strategies needed to get a business back on track.