Frequently in our practice, we are introduced to potential client companies by lenders who are concerned about the company’s ability to extricate itself from a difficult financial predicament. Usually, the lender has met with the company and received the plans for initiatives designed to resolve the problem. But after a reasonable amount of time, the problem remains and the financial situation does not improve or perhaps has even gotten worse. This leaves the lender to seriously doubt whether the company can stabilize its finances on its own, without outside advice or direction.
Consider the following situation. You are the senior secured lender to a mid-market family-owned and operated consumer products distributor, ‘XYZ Corp’. XYZ has operated under the same business model for years; sold the same products, performed well historically, and maintained sufficient liquidity to operate its business. The business has always ‘worked’, affording the owners a very nice lifestyle. Some months ago, however, XYZ lost a significant product line and sales dropped sharply. XYZ has attempted to replace the lost product line’s sales with a competing one, but the sales of the new line are coming slower than hoped for. Therefore, the initial investment in inventory and marketing costs of the new line has syphoned off liquidity. XYZ’s availability on its line of credit with you has evaporated and the company is slowing payments to trade and expense vendors. Several months ago, you got an updated field exam that showed some concerns. As a result, you strongly suggested XYZ retain a consultant to review its business model and practices to look for areas to improve while the replacement product line continues to ramp up. XYZ reluctantly agreed to seek outside advice from a restructuring consultant, but didn’t make any of the changes that were recommended. The Company preferred to continue to do business as it always has, even though benchmarking studies clearly showed ways to stream line the business and improve cash flow. The Company has recently violated one or more of its loan covenants with you and is now in default.
What are your next steps to insure your collateral is secure and your loan will be paid in full? What key factors should you consider regarding the level of oversight you now require from the Company? Do you require XYZ to re-engage a restructuring consultant as a condition of continuing your support? Or do you require XYZ to retain a Chief Restructuring Officer with the responsibility and authority to make decisions for the benefit of XYZ, you as the secured lender and the Company’s unsecured creditors?
We see situations similar to this in many of our engagements. A business, family owned or not, that has always worked — until it doesn’t. Its financial performance has declined due to any of a number of reasons. Liquidity has evaporated and management has not taken steps to stop the losses by restructuring the business and cutting expenses. Perhaps management doesn’t know what to do or is reluctant to make the hard decisions and take action because of the employees’ lives that will be impacted. Regardless, you as lender have to decide how much pressure you bring to bear on the Company to resolve the situation.
Here are some thoughts…
If Company management has a good track record of execution and performance, has historically been open to considering advice, and the current problem appears to be the result of a strategic mistake or general market conditions beyond management’s control, a thorough review of the business and advice from an independent restructuring advisor may be sufficient to put the company back on track.
If, however, you have received plans that haven’t generated significant improved results in a reasonable amount of time, you are concerned about the accuracy of the financial information you are receiving, or the Company routinely misses short term financial projections, you should consider requiring the Company to retain a Chief Restructuring Officer (CRO) with the responsibility and authority to change the direction of the business by making decisions that resolve problems and by making recommendations that carry the weight of an officer and manager.
A restructuring advisor serves primarily as an observer, analyzer and reporter of the situation and is only able to recommend and influence decisions through his or her negotiating skills. A CRO, on the other hand, will be able to exert more control over the situation, get to the bottom of the problems and resolve the financial reporting issues so the financial picture is clearer. A CRO can make or guide decisions that have a positive impact on the business.
Consider the following benefits of having a company retain a CRO when the situation calls for it:
Clear Thinking Group and our professionals have performed numerous restructuring assignments and acted as Chief Restructuring Officers in a number of retail and consumer products businesses. It is our experience that where financial and operating challenges have existed for some time and clients have not been able to resolve them on their own, clients and their lenders are more satisfied with the restructuring process and the results generated when more control is given to the restructuring professional with the responsibility and authority of Chief Restructuring Officer.