May 5, 2020
As the world adjusts to prevailing economic conditions, we find the pace of mergers acquisitions (M&A) slowing as many acquirers review their strategy, optimise cost structures, and preserve cash. The COVID-19 pandemic is a black swan event with businesses and markets in significant fallout.
Trading challenges and low valuations are the result of uncertainty and the lack of liquidity in debt and capital markets. Shareholders should consider selling armed with a comprehensive evaluation of performance scenarios, including a plan of restructuring. Divisions that were on the path to profitability in FY21 are now going to take more time and funding than originally estimated. Strategic discussion should focus on the implications of divesting a non-core or underperforming division to boost the valuation of the whole, or, selling the whole is a better option than continuing to incur debts.
In our work on special situation transactions for companies in financial stress, we view these M&A processes through a different lens. Preparation is the key, and in addition to reducing, eliminating, or assigning exit costs through a sale as opposed to a shut-down, executed properly, the M&A process preserves corporate value during disruptive events.
How do board members assess whether selling is an option for consideration?
Scenario planning must consider liquidity issues in the in base-case and best-case. Further, balance sheet strength or recapitalisation support must be evident to continue trading the business or support a restructuring.
Are there buyers?
Given uncertainty and the associated risk to profitability, companies choosing to focus on the existing core business, and the lack of funding from debt and equity markets are all limitations to deal volumes. Depending on the sector, strategic buyers with strong balance sheets will consider an acquisition to consolidate market share, eliminate a competitor, gain geographical coverage or expand via vertical or horizontal integration.
A few questions you should be clear of before heading down this path as a seller:
- Do you want to recapitalise or are you committed to selling?
Special situations M&A is not a fire sale. It requires preparation, investment in time and resources, just like any other sale process, so you need to commit to this path to maximise the outcome.
- Are you clear on what you are trying to achieve as a seller in a restructuring M&A process?
The key objectives you want to achieve for the shareholders and the company are:
- To avoid further investment, especially when there is not a sound path for a return to profitability
- Reduce or eliminate all exit costs, i.e. balance sheet liabilities such as lease liabilities and employee costs of the division or company to be sold
- Ensure continuity of employment for as many personnel as possible and ensure continuity for the company in a stable home
- Do you have the liquidity to explore this option?
The seller needs at least six to 12 months of liquidity. It is important that the business position does not deteriorate during the process. For instance, ensuring retention of key staff is vital.
- How do you “value” an offer in these circumstances?
Your valuation is a combination of liabilities assumed and cash consideration.
- What are the challenges associated with a restructuring M&A process?
These processes can span from being short and sharp to long games of attrition. Credible buyers with strong balance sheets will be few. It is quite hard to create competitive tension in these processes and hence, to be able to hold the price, you need to know your walkaway parameters.
A successful special situations M&A deal can achieve the best possible outcome for the shareholders, lenders, staff and the brand. The seller can preserve corporate value and cashflows during disruptive times and facilitate continuity of business while eliminating liabilities and avoiding the costs and stigma attached with a shutdown or hard exit. Businesses may thrive in a different ownership environment whether it be under a management buyout (MBO), management buy-in (MBI) or as part of a vertically or horizontally integrated group.