Description
This abstract tell restore 01 the turnaround magazine advisory.
Enter the CRO
How Chief Restructuring
Officers can transform
an ailing business
Bowing out
When an exit from a market
is inevitable, it is vital to get
the strategy right
Market analysis
Our specialists discuss some
of the key trends driving
restructuring activity in Europe
New players
Is the growing interest of hedge
funds and private equity in
distressed debt a good thing?
Restore 01
The turnaround magazine
ADVI SORY
Economic conditions in Europe have led to
more bank lending and a rise in M&A activity.
Philip Davidson and Tammo Andersch,
Partners at KPMG in the UK and Germany
respectively, discuss how this is affecting
business restructuring internationally.
In the round
In the round
Restore April 2007
What trends are you seeing at the
moment? Are there any sectors
where there is a lot of recovery and
restructuring work taking place?
Philip Davidson: The early part of this
decade was dominated, in restructuring
terms, by technology, telecoms and
power. Specific market discontinuities
caused fall out in these sectors
despite prevailing benign economic
circumstances. Recently the only
sector that has created restructuring
work consistently is automotive.
Tammo Andersch: When you see a
shake out in any particular sector,
the weaker companies – those that
aren’t growing as fast or performing
as well as their competitors – tend
to have problems.
You say that the economic
circumstances are benign and yet
there’s still quite a lot of corporate
recovery work going on. What are
the main factors causing this?
PD: Corporate borrowing has increased
over the last few years. Availability of
liquidity has reduced the cost of
borrowing both financially and in terms
of control. KPMG firms have seen an
increase in highly leveraged transactions
funded on the basis of growth plans and
sometimes these plans have been
difficult to deliver. Typically, given
the wealth of available funding,
underperforming companies can
refinance or reschedule their debts.
Eventually, though underperformance
will need to be fixed. What the industry
is seeing, therefore, is the crystallisation
of some of this underlying
underperformance against promises.
TA: Yes, companies appear to be
increasingly highly leveraged and
that means there is less room for
deviation from the business plan.
Private equity (PE) funds have
emerged as a power in the economic
landscape across Europe and, of
course, many of the highly leveraged
transactions that you talk about will
involve PE houses. What impact are
they having on KPMG firms’ work?
TA: Our firms’ restructuring practices
have a strong relationship with PE
houses, and they are becoming more
and more important. Sometimes when
they invest, they don’t have a clear
exit strategy, and in order to achieve
an exit they will have to turn around a
business. We work with them,
providing services such as cash
management, and that can provide real
value.
PD: One trend we are seeing is banks
selling their debts to parties, such as
PE houses and hedge funds. The debt
market is very liquid at the moment and
that shows no sign of reduction.
Relatively low interest
rates, steady inflation
and generally robust
company earnings have
encouraged many
businesses across Europe to move
into new markets. M&A activity has
been strong, and with banks and funds
eager to lend, finance is readily
available. Meanwhile, private equity
(PE) houses are increasingly making
their presence felt. Flush with cash
from institutional investors, they are
hungry for deals, and few companies
are too big to fall outside the range of
these new ‘kings of capitalism’.
All of this has had an impact on the
restructuring market. High levels of
bank lending have exposed companies
to the risk that if a particular market
sector turns down, servicing debts can
become a real problem. Meanwhile,
turnaround strategies are often high on
the agenda when a PE House buys a
business or backs a management
buyout. This means there is plenty of
corporate restructuring activity going
on, much of it involving some element
of cross-border work.
By launching Restore magazine, we
aim to provide regular intelligence on a
changing restructuring market. In this
issue, we feature a round-table debate
on some of the latest trends in
restructuring, and a look at how to
make a good exit, the role of the Chief
Restructuring Officer, and new players
in distressed debt. Welcome to Issue 1.
Mick McLoughlin
Global Head of Restructuring
KPMG in the UK
[email protected]
Welcome
Contents
2
4
8
11
How is increased bank lending and
M&A activity affecting restructuring?
The importance of a good exit
A look at the role of the Chief
Restructuring Officer
Heike Munro of Deutsche Bank
welcomes private equity firms in
distressed debt
2
In the round
Restore April 2007
How is increased liquidity affecting
companies that are going through
financial distress?
PD: Increased liquidity has created a
rich landscape of diverse investors.
Different types of investor often have
different investment criteria. What
no longer works for one investor
might be right, subject to pricing, for
another. If lenders want to exit a
difficult situation, there will usually be
plenty of others who want to replace
them. For companies in distress, this
can mean a major change of their
financial stakeholders – new faces,
new expectations and, sometimes,
new management.
TA: Another trend is that banks are
taking out insurance policies against
the debt default. A company’s future
could end up in the hands of an
insurance company.
There appears to have been a lot
of cross-border M&A activity lately.
How much of KPMG firms’ work is
international at the moment?
TA: I would say that about half of our
projects have a cross-border element.
That can be challenging, but KPMG
firms make up an international
network which helps give us the
ability to work across jurisdictions.
PD: The countries in the Europe, Middle
East and Africa region (EMA) have as
many different legal and regulatory
approaches to restructuring as you will
find around the rest of the world. It is
vital to work with local professionals
who know what can and can't be done.
TA: Even the range of services that
KPMG member firms offer varies from
country to country. For instance, while
in the UK it is possible to appoint a
Chief Restructuring Officer (CRO) to a
board. We are not permitted to do that
in Germany.
KPMG firms provide restructuring
and recovery services across just
about every sector. In practice, how
does that work? For example, does
a CRO need to be a specialist in a
specific sector, or do they tend to be
generalists who can apply their
skills to any business area?
PD: When our firms work with clients
on a restructuring, we will use a team
of people, and some members of that
team will have skills and experience
that is specific to given sectors.
We have no shortage of sector
specialists in KPMG.
As you’ve said, the economic
circumstances are benign at the
moment. But are there any clouds
on the horizon that could spell
trouble for highly leveraged
businesses in the near future?
TA: I believe that demand for raw
materials will push up prices and that
can trigger financial problems.
PD: Because there is so much
borrowing, any deterioration in the
economic environment may result in
work for KPMG firms in the future.
Philip Davidson
Head of EMA Region Markets and
Services, Restructuring
[email protected]
Tammo Andersch
Head of EMA Region, Restructuring
[email protected]
R
Meet the advisors…
Philip Davidson, a Partner in
the UK firm, helps companies
return to full performance.
He has worked on
assignments across a broad range
of sectors and jurisdictions, from
Europe to the Americas.
Tammo Andersch, a partner at
KPMG in Germany, advises
European companies and their
stakeholders in restructuring.
His work includes cross-border
liquidity investigations, the preparation
and restructuring of plans, and
corporate recovery advice.
3
In October 2006, George Bush signed
an act that outlawed online gambling in
the U.S. Sportingbet sold its U.S.
business for a nominal fee of U.S.$1 to
rival firm, Partygaming, calculating that
its exit from the U.S. market would cost
U.S.$250 million. Legislation changes
like this that force companies out of
markets are thankfully rare, but
businesses should think about how they
are going to make a graceful exit when
it all goes wrong should the need arise.
When it comes to deciding what to do
with unsuccessful parts of the business,
companies usually have three choices:
fix it, sell it or close it. Of course, these
are not isolated components. Failure in a
market might require a combination of
some or all of these elements, with
some assets being sold off, some
relocated and others shut down entirely.
The recently announced exit of Chinese
television maker TCL from much of its
European business, for example,
involves the sale of some assets and
the closure of others as it rationalises its
overseas operations.
Fixing the problem is usually the first
step companies take, but there is now
more pressure to shed loss-making
divisions rather than go through a
lengthy process of patching them up.
Getting a market exit wrong can be very bad
for business. The Economist Intelligence Unit
offers advice on what approach to take.
Don’t let the door hit you
Don’t let the door hit you
Restore April 2007
4
Don’t let the door hit you
Restore April 2007
‘Fail fast, fail cheap’ seems to be
today’s corporate mantra. Sometimes it
makes sense to relocate a division or
manufacturing plant to a site that is less
costly, such as when Dr Martens
Airwair moved its manufacturing arm
from the UK to China. Finally, there is
selling and closing. These can be the
more emotive options and may require
a carefully constructed exit strategy.
The rise of shareholder activism is
forcing senior management to
continually review their portfolio of
businesses. American shareholders
have often been a vocal group, but now
their habits are taking hold in Europe,
too. One reason for this is that there is
a lot more money around. Companies
are constantly being assessed by hedge
funds and private equity firms. “Hedge
funds are increasingly looking for
opportunities to generate value by
buying into equity as well as debt,
particularly where they see the scope
for cost savings,” says Richard Heis, UK
Head of Formal Restructuring at KPMG.
“This can have a positive impact as it
constantly challenges Chief Executives
to justify the status quo and ensure they
realise the savings themselves, before
someone else does.”
Similarly, the drive for innovation
means that product-and-service exits
are likely to increase as their lifecycles
become ever shorter. Companies are
also increasingly experimenting with
different business models to diversify
and spread risk, but this means
products and services will frequently
be scrutinised for profitability.
Multinational companies are also
under pressure to find economies of
scale by consolidating manufacturing
plants, call centres, software
development teams and so on.
Usually when this happens, something
somewhere gets shut down or sold.
And, while this may be less of an issue
in the IT and telecommunications
sectors, for example, it can be a big
issue in manufacturing. A redundant
software developer may well find
work the next day, but a dye maker
or a machinist might have to retrain in
order to get a new job.
The art of the exit
Exits are tricky and fraught with legal,
financial and industrial relations
hazards and there is an art to getting
them right. Unfortunately, many
companies can still make a hash of it,
attracting negative press attention,
damaging their brand, or worse.
“Closing plants in France is becoming
increasingly risky, as the company’s
works council is a critical factor in the
process and can denounce any
perceived irregularity to the courts,”
says Pascal Bonnet, KPMG's Head of
Restructuring in France. “As an
example, a major French company
was required to pay a total of 4.3
million euro to some 270 employees,
around 15,000 euro each, on the
grounds that the rationale for the
closure of a French factory and the
information given on potential
redeployment were inadequate.”
If efforts to resuscitate the failing
division haven’t worked, companies
will next try to sell it off. Only after
that has failed will someone make the
decision to close it down entirely.
Exiting a market is not something that
companies do lightly. Cable & Wireless
operates in a lot of emerging markets
where there are often strict rules on
foreign direct investment that can
make it very difficult to exit. “The
reason that the regulatory authorities
approve local joint ventures is because
they believe that you’re committed to
investing in their home economy over
a long period,” says Mike Barnard,
Director of Marketing and Strategy at
Cable & Wireless, “so to pull out can
be effectively kissing goodbye to being
a significant player in that market
for a long time.”
But when an exit becomes necessary,
companies typically seek to minimise
the pain by selling off whatever assets
they can. Cable & Wireless, for
example, exited the U.S. market in
2004 by selling its business there for
U.S.$155 million to SAVVIS
Communications. A business has to be
severely challenged not to be sold,
because there is currently so much
money chasing after the available
“A French company had to
pay 4.3 million euro to 270
employees on the grounds that
the rationale behind the closure of a
French factory was inadequate”
Pascal Bonnet, Head of Restructuring, KPMG in France
5
Don’t let the door hit you
Restore April 2007
assets, especially with the current
number of private equity (PE) firms
looking to invest their funds. Even
businesses that are not particularly
appealing are being bought rather than
closed, although this may require a
significant reverse premium to be paid,
such as in the recent sale of MFI
Furniture’s retail arm to PE firm,
Merchant Equity Partners (MEP).
Although company directors are under
closer scrutiny by shareholders than
ever before, there are more options
when it comes to deciding what to do
with an unprofitable division nowadays.
The new attitude towards openness
and collaboration means that
companies are more creative with the
way they work, especially with
adjacent players in the value chain.
But sometimes the best option is the
closure of a division and the piecemeal
sale of its assets, as with the sale of
retailer C&A’s stores after leaving the
UK market in 2000. The closure option
should always be considered during
the decision-making process, even if it
is often seen as a last resort, as it will
usually have some advantages. For
example, it may protect any remaining
businesses from additional competition
or produce a better return than a sale.
However, the right preparation is vital
for a closure to be beneficial. “Poor
planning and implementation of a
business closure will lead to delays,
costs getting out of hand and damage
to the remaining business, plus potential
personal liability for shareholders,”
warns Karsten Heilemann, a Director
of KPMG in Germany.
Honesty is the best policy
Whether companies are selling or
closing a division, it is vital to get the
public relations (PR) right. Poor PR can
kill investor and customer confidence.
Clearly, effective PR is going to be
more important for a high-profile
organisation. Marks & Spencer’s exit
from its continental European business,
for example, caused a lot of media
interest, but most of it was negative.
A common PR blunder is talking to the
analyst community before any other
stakeholders. “Make sure your staff
don't read it in the newspapers first,”
says Jim Donaldson, Managing
Director of Corporate Communications
at PR firm Hill & Knowlton.
For companies bound by stock
exchange rules, which dictate that the
investor community needs to be
informed of divestments first, there is
no reason why any communication
cannot be sent to the rest of the
stakeholders a few minutes later. A lot
of corporate communication is focused
on keeping shareholders comfortable,
with less thought given to employees,
suppliers, distributors and others.
What’s more, it is not just divestors
who should be worrying about good
PR; the buyer of the divested
company should be concerned, too.
After all, they need to justify why they
are taking on what is often seen as a
poorly performing unit.
Planning ahead
As companies battle in increasingly
competitive marketplaces, exits are
more than likely to increase, especially
for businesses pursuing a ‘fail fast, fail
cheap’ strategy. Given this, you might
think that there would be more domain
expertise in this area, especially when it
comes to closures. Many people see
exits as being the flip-side of
acquisitions. But while a lot of
companies have built up teams to
specialise in acquisitions, few
companies have formal structures` for
dealing with exits, especially when a
sale cannot be executed and a closure
is required. To use management-speak,
there is a lot of reinventing the wheel.
“When an
overseas
investment is
made, there is
usually a huge
amount of due
diligence conducted
before getting
into that market,
but very little
consideration of the
costs of getting out
if it all goes wrong”
Richard Heis, Partner, KPMG in the UK
Exit checklist
– Consider possible exit strategies when entering a new market. You can’t
know the unknowable, but some plans can be put in place to make the exit
easier if the time comes.
– You can’t pay enough attention to public relations. Mess up the message and
you could do irreparable damage to your brand. The amount of negative
column inches firms accrue is usually inversely proportional to the amount
they communicate.
– When exiting, soften the blow for local stakeholders in order to re-enter the
market at a later date.
– If your company finds itself entering and exiting markets on a fairly regular
basis, consider building and retaining in-house expertise, or at least conduct a
post-exit review so that you have a record of ‘lessons learned’.
– Learn to fail fast. Divestments are seldom popular, but the appearance of
having weak management can be even more devastating.
– Get the valuation right. Don’t undersell.
6
Don’t let the door hit you
Restore April 2007
“When an overseas investment is
made, there is usually a huge amount of
due diligence conducted before getting
into that market, but very little
consideration of the costs of getting out
if it all goes wrong,” says KPMG’s Heis.
Despite the regularity with which some
industries enter and leave markets, few
companies plan their exits in advance.
Exits are nearly always a reaction to
change. When Cable & Wireless, for
example, enters a market, they do so
with an enormous investment in
infrastructure. “Actually pulling out of
those markets is something that we
wouldn't have a plan to dust off at any
moment in time because we would
have ticked off all the risks and
concerns before we invested in the
infrastructure,” says Cable and
Wireless’ Barnard.
If the assets are highly specialised in
some way, it can be difficult to sell
them when the company decides to
close that particular division. Not
enough businesses give thought to
how they structure their assets,
considering which to buy and which to
lease, in the context of potentially
having to exit from them in the future.
Getting this right can save an
enormous amount of money when it
comes to closing shop.
Companies are not closing down
businesses or selling off divisions at a
high rate compared to the speed at
which they are entering new markets.
Many exits happen through gradual
decay and decline, but things are
beginning to change. “As you see a
higher frequency of these exit deals
taking place, I think that companies will
also end up building skill and some
expertise,” says Phanish Puranam,
Assistant Professor of Strategic and
International Management at the
London Business School.
As the market gets more efficient and
as the analysts and shareholder
community exercise more influence on
the portfolio composition of
corporations, the pressure to justify why
any business should be in the portfolio
is likely to continue to increase.
Richard Heis
Partner, KPMG in the UK
[email protected]
Pascal Bonnet
Partner, KPMG in France
[email protected]
Karsten Heilemann
Director, KPMG in Germany
[email protected]
R
“As you see a
higher frequency
of exits taking
place, companies
will also end up
building skill and
some expertise”
Phanish Puranam, Assistant Professor
of Strategic and International
Management at the London
Business School
“Poor
planning
and
implementation
of a business
closure will lead
to delays, costs
getting out of
hand and damage
to the remaining
business”
Karsten Heilemann, Director,
KPMG in Germany
7
Whether called in by lenders and investors
or appointed by the company itself, Chief
Restructuring Officers (CROs) can play a
hugely important role in turning a business
around. John Darlington, Head of CRO
services at KPMG in the UK, explains.
Enter the CRO
Enter the CRO
Restore April 2007
There’s probably never been a better
time for European companies to borrow
money. Not only are banks across the
continent lending more – borrowing
currently exceeds £500 billion – but
they have also tended to soften their
covenants and eased their policies on
borrowing as a multiple of earnings.
With interest rates remaining relatively
low, this has given businesses a chance
to borrow cheaply without many of the
onerous conditions that prevailed in the
early and mid-1990s.
By and large, this has had a positive
impact on the European economy. With
abundant finance available, companies
8
Enter the CRO
Restore April 2007
have been expanding organically and by
acquisition – often across borders –
while private equity (PE) firms have also
taken advantage of the availability of
credit to support their buy-out plans.
However, the willingness of banks to
lend, coupled with softer terms and
conditions, has exposed borrowers –
and indeed creditors, lenders and
investors – to the risk that any financial
problems will be addressed later rather
than sooner. For instance, covenants
impose a certain discipline on
borrowers. If a covenant is breached,
alarm bells ring and the lender demands
action. Soften those covenants, and
potentially fatal financial problems may
not be exposed until much later. What’s
more, the longer a problem is left to
fester, the harder it can be to put right.
As Head of Chief Restructuring Officer
(CRO) services at KPMG in the UK,
John Darlington is well positioned to
assess the consequences of late action.
KPMG in the UK currently provides
CROs at the request of both distressed
companies and stakeholder groups,
such as lenders and investors. As he
observes: “Because of the softer terms,
we’re being called to look at situations
much later,” he says.
This could have unforeseen
consequences for borrowers, as banks
have become increasingly willing to sell
their debt to third parties, rather than
negotiating a turnaround strategy with a
customer. “We’re seeing a lot more
trading of debt, even among banks
that have traditionally been strong
supporters of corporate recovery,” says
Darlington. “One reason is that there is
much more liquidity in the debt market.
It has become much easier to sell debt.”
Indeed, the emergence of both PE and
hedge funds as powers in the economic
landscape have added to the liquidity.
Within both those communities,
distressed company specialists have
been active in buying discounted debt.
This isn’t necessarily a bad thing for the
company in question. PE companies, in
particular, have earned a reputation for
adding value by taking a pro-active
approach to management
and strategy. However, distressed
companies should be aware that both
hedge funds and PE funds will have a
different agenda to the banks.
Indeed, a transfer of discounted debt
may well result in a debt-for-equity
arrangement, which will give the new
owners a direct incentive to build a
successful new business from the
ruins of the old, and ultimately take
a profit on exit.
The role of the CRO
Regardless of who owns the debt, it
is in everyone’s interest that a
distressed company is turned around
as quickly as possible, and in these
circumstances the appointment of a
CRO has become common. As
Darlington admits, this can be a bitter
pill to swallow. “Sometimes it is the
company itself that appoints a CRO, but
often the appointment will be made on
the instruction of the stakeholders,” he
says. “For some companies, the CRO
is a reluctant hire.”
Understandably, the arrival of an
outsider may be greeted with suspicion
by existing staff, and some assignments
John Darlington
John Darlington joined KPMG
in the UK in 2006, bringing with
him a wealth of experience
both as a company director and
a restructuring specialist.
– Between 2003 and 2005, he was
restructuring officer at MyTravel,
playing an active role in planning and
implementing the turnaround of a tour
company that had seen its business
badly hit by the 9/11 disaster. Prior to
that he was a special advisor to drinks
company HP Bulmer at a time when
it was restructuring its business.
– He is Head of Chief Restructuring
Officer services at KPMG in the UK.
are more diplomatically tricky than
others. For instance, if the CRO is there
to strengthen the existing management
team, the initial relationship may be
guarded, but it will most likely be
positive. If, however, the CRO’s arrival
heralds a round of board and senior
management changes, winning hearts
and minds may not be so easy.
But whatever the situation, the CRO
needs to show – and rapidly – that his
presence on the board can add value.
“One of the things I do is try to show
some quick wins,” says Darlington.
Even then, the CRO will almost
inevitably meet resistance from
someone within the organisation.
Companies find themselves in financial
distress for a whole variety of reasons.
Sometimes it is because the
management team is not as strong as it
should be, but it’s equally common to
find good managers struggling with a
flawed corporate strategy. In these
circumstances, the CRO faces the task
of helping boards recognise that the
company needs to do more than simply
shed staff or tighten up on its cash
flow, and that the only answer is a
change of direction. “What people have
to realise is that the CRO is there to
change the game,” says Darlington.
That can mean a root-and-branch
rethink. For instance, Darlington cites
the example of a company that had
been spending heavily on research and
development, launching new products
into the marketplace. It was an
ambitious strategy, but it was also one
that was harming the company. “The
cash flow simply could not support
business development on this scale,“
Darlington recalls.
To put the company back on track, it
was necessary to take radical steps.
Two thirds of its products were taken
off the shelf, allowing the business
to focus on the lines that were
making money.
In another case, Darlington was
involved in managing a series of asset
9
Enter the CRO
Restore April 2007
disposals to enable a client to escape a
cripplingly expensive mezzanine facility.
Changing the rules of the game,
invariably means ripping up plans that
may have been lovingly nurtured by
Chief Executives and their senior
management colleagues, and in these
instances, the challenge facing the CRO
is to achieve buy-in. To be effective, the
restructuring officer needs more than
tacit backing for a particular course of
action – he or she needs a real mandate
to take action and bring about change.
To achieve this, one of the most
important weapons at the CRO’s
disposal is the ability to communicate
exactly what has gone wrong with a
given company, and win a consensus
on what can be done to put it right.
Sometimes this can be relatively
straightforward.
As Darlington says: “It’s easy to win
support, if it is clear to everyone that
the consequences of not changing
could be disastrous. Once the reasons
for what you’re doing have been clearly
communicated, you find you pick up
supporters in the company quickly.”
However, if agreement isn’t
forthcoming, a good CRO must be
prepared to exercise power, and, if
necessary, face down those that are
reluctant or unwilling to give support.
“You have to speak softly, but carry a
big stick,” says Darlington.
Winning board support may be a big
hurdle, but the immediate prize for the
other directors is that they are free to
get on with the nuts and bolts of running
the company, such as winning clients,
negotiating with suppliers, talking to
investors, while the CRO takes charge
of the corporate recovery plan.
Faith can be rewarded
Nothing is guaranteed of course, and for
banks in particular, calling in a CRO is
something of an act of faith. The choice
they have is stark: instruct the borrower
to bring in a third-party fixer in the hope
and expectation that a successful
turnaround will be achieved, or cut their
losses and sell the debt at a discount.
Increasingly, many banks are choosing
to take advantage of a liquid debt market
and sell, but, as Darlington points out, if
the company in question can be turned
round, those who sell their debt may
well be losing out on the upside. For
instance, when a post 9/11 downturn
in the holiday market triggered a cash
crisis at tour operator MyTravel (formerly
known as Airtours), lenders agreed an
£800 million debt-for-equity swap,
which left existing shareholders with
just 4 percent of the company. Within
six months, the value of shares
allocated under the arrangement had
risen to £1 billion following a successful
recovery operation.
The outcome at MyTravel was a
testament to what can be achieved
when lenders/investors get behind the
restructuring of a troubled company,
with the CRO playing a crucial role in
driving the turnaround. As Darlington
points out: “For some investors, faith in
the company will be rewarded by a
good return.”
It’s not just the banks that stand to
benefit. With increasing numbers of
hedge funds and PE houses buying the
debt of distressed companies and
converting it into equity, CRO’s are
playing an increasingly important and
prominent role creating the
circumstances for a profitable exit.
John Darlington
Head of Chief Restructuring
Officer services at KPMG in the UK
[email protected]
R
“The most
important weapon
at the CRO’s
disposal is the
ability to
communicate
exactly what
has gone wrong
with a given
company and win
a consensus on
what can be done
to put it right”
10
Hedge funds and now also private equity
firms are major players in distressed debt.
No bad thing, says Heike Munro of
Deutsche Bank.
Opinion
Restore April 2007
It's a trend that all of us in
restructuring have seen develop over
the last few years. While banks are
lending more to the corporate sector
(and at higher multiples of earnings
than even a decade ago), they are also
more willing to sell their debt in
struggling companies to third parties,
such as hedge funds and private
equity (PE) houses.
For some directors – especially those
on the boards of underperforming
companies – this may be alarming.
Gone is the old relationship with
traditional lenders. Instead, directors of
an underperforming company are likely
to discover their debt has been bought
up by a hedge fund or specialist PE
investors. What’s more, current
financing structures replace original
simple relationships between lenders
and debtors, often by much more
complex arrangements that will be
more difficult to restructure.
I don't find it surprising that boards
tend initially to be negative about the
arrival of PE investors and hedge
funds due to the negative press they
sometimes receive, but I believe the
high liquidity in the distressed debt
market is no bad thing for the
companies themselves. The PE
houses and their counterparts in
the hedge fund community have
brought money to the table that
wasn’t there before, and this is a
positive development.
Today, there is more opportunity to
restructure the debt, and, as a result,
allow a restructuring of the company
as a whole. Of course, there is also the
fear that the arrival of PE and hedge
fund investors means the exit of staff
after a boardroom shakeout. Not
necessarily. When a company
underperforms or finds itself coping
with a financial crisis, lenders and
investors will look long and hard at the
management team and may demand
changes. But if the management is
strong and the problems the company
faces are caused by external factors,
then there will not necessarily be
pressure to bring in new faces.
Good management teams are valued
by all stakeholders – including PE
houses and hedge funds.
In addition to money, PE funds bring
with them a reputation for extracting
the best value from their investments.
This is where there is a certain amount
of uncertainty over their role as buyers
of distressed debt. Many PE firms
have a well-earned reputation for
making good companies better. It
remains to be seen how they will fare
with severely troubled businesses.
Equally, restructuring a company
successfully is a field where hedge
funds have yet to demonstrate their
expertise – we'll have to see what
happens. But hedge funds can draw on
the expertise of company turnaround
specialists, and there is a high demand
for Chief Restructuring Officers and
interim managers at the moment.
So PE and hedge funds should be
welcomed by underperforming
companies, not least because the
new finance offers new opportunities
and a possible future.
Heike Munro
European Finance Head - Distressed
Products Group
[email protected]
“The private equity
houses and their
counterparts in
the hedge fund
community have
brought money to
the table that
wasn’t there
before, and this
is a positive
development”
New faces
11
R
© 2007 KPMG International. KPMG International is a
Swiss cooperative. Member firms of the KPMG
network of independent firms are affiliated with KPMG
International. KPMG International provides no client
services. No member firm has any authority to obligate
or bind KPMG International or any other member firm
vis-à-vis third parties, nor does KPMG International have
any such authority to obligate or bind any member firm.
All rights reserved. Printed in the UK on recycled paper.
KPMG and the KPMG logo are registered trademarks of
KPMG International, a Swiss cooperative.
Published by Crimson Business
Publication name: Restore
Publication number: 306-461
Publication date: April 2007
The information contained herein is of a general nature and is not intended to address the circumstances of any
particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no
guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the
future. No one should act on such information without appropriate professional advice after a thorough examination of
the particular situation.
kpmg.com
doc_709821180.pdf
This abstract tell restore 01 the turnaround magazine advisory.
Enter the CRO
How Chief Restructuring
Officers can transform
an ailing business
Bowing out
When an exit from a market
is inevitable, it is vital to get
the strategy right
Market analysis
Our specialists discuss some
of the key trends driving
restructuring activity in Europe
New players
Is the growing interest of hedge
funds and private equity in
distressed debt a good thing?
Restore 01
The turnaround magazine
ADVI SORY
Economic conditions in Europe have led to
more bank lending and a rise in M&A activity.
Philip Davidson and Tammo Andersch,
Partners at KPMG in the UK and Germany
respectively, discuss how this is affecting
business restructuring internationally.
In the round
In the round
Restore April 2007
What trends are you seeing at the
moment? Are there any sectors
where there is a lot of recovery and
restructuring work taking place?
Philip Davidson: The early part of this
decade was dominated, in restructuring
terms, by technology, telecoms and
power. Specific market discontinuities
caused fall out in these sectors
despite prevailing benign economic
circumstances. Recently the only
sector that has created restructuring
work consistently is automotive.
Tammo Andersch: When you see a
shake out in any particular sector,
the weaker companies – those that
aren’t growing as fast or performing
as well as their competitors – tend
to have problems.
You say that the economic
circumstances are benign and yet
there’s still quite a lot of corporate
recovery work going on. What are
the main factors causing this?
PD: Corporate borrowing has increased
over the last few years. Availability of
liquidity has reduced the cost of
borrowing both financially and in terms
of control. KPMG firms have seen an
increase in highly leveraged transactions
funded on the basis of growth plans and
sometimes these plans have been
difficult to deliver. Typically, given
the wealth of available funding,
underperforming companies can
refinance or reschedule their debts.
Eventually, though underperformance
will need to be fixed. What the industry
is seeing, therefore, is the crystallisation
of some of this underlying
underperformance against promises.
TA: Yes, companies appear to be
increasingly highly leveraged and
that means there is less room for
deviation from the business plan.
Private equity (PE) funds have
emerged as a power in the economic
landscape across Europe and, of
course, many of the highly leveraged
transactions that you talk about will
involve PE houses. What impact are
they having on KPMG firms’ work?
TA: Our firms’ restructuring practices
have a strong relationship with PE
houses, and they are becoming more
and more important. Sometimes when
they invest, they don’t have a clear
exit strategy, and in order to achieve
an exit they will have to turn around a
business. We work with them,
providing services such as cash
management, and that can provide real
value.
PD: One trend we are seeing is banks
selling their debts to parties, such as
PE houses and hedge funds. The debt
market is very liquid at the moment and
that shows no sign of reduction.
Relatively low interest
rates, steady inflation
and generally robust
company earnings have
encouraged many
businesses across Europe to move
into new markets. M&A activity has
been strong, and with banks and funds
eager to lend, finance is readily
available. Meanwhile, private equity
(PE) houses are increasingly making
their presence felt. Flush with cash
from institutional investors, they are
hungry for deals, and few companies
are too big to fall outside the range of
these new ‘kings of capitalism’.
All of this has had an impact on the
restructuring market. High levels of
bank lending have exposed companies
to the risk that if a particular market
sector turns down, servicing debts can
become a real problem. Meanwhile,
turnaround strategies are often high on
the agenda when a PE House buys a
business or backs a management
buyout. This means there is plenty of
corporate restructuring activity going
on, much of it involving some element
of cross-border work.
By launching Restore magazine, we
aim to provide regular intelligence on a
changing restructuring market. In this
issue, we feature a round-table debate
on some of the latest trends in
restructuring, and a look at how to
make a good exit, the role of the Chief
Restructuring Officer, and new players
in distressed debt. Welcome to Issue 1.
Mick McLoughlin
Global Head of Restructuring
KPMG in the UK
[email protected]
Welcome
Contents
2
4
8
11
How is increased bank lending and
M&A activity affecting restructuring?
The importance of a good exit
A look at the role of the Chief
Restructuring Officer
Heike Munro of Deutsche Bank
welcomes private equity firms in
distressed debt
2
In the round
Restore April 2007
How is increased liquidity affecting
companies that are going through
financial distress?
PD: Increased liquidity has created a
rich landscape of diverse investors.
Different types of investor often have
different investment criteria. What
no longer works for one investor
might be right, subject to pricing, for
another. If lenders want to exit a
difficult situation, there will usually be
plenty of others who want to replace
them. For companies in distress, this
can mean a major change of their
financial stakeholders – new faces,
new expectations and, sometimes,
new management.
TA: Another trend is that banks are
taking out insurance policies against
the debt default. A company’s future
could end up in the hands of an
insurance company.
There appears to have been a lot
of cross-border M&A activity lately.
How much of KPMG firms’ work is
international at the moment?
TA: I would say that about half of our
projects have a cross-border element.
That can be challenging, but KPMG
firms make up an international
network which helps give us the
ability to work across jurisdictions.
PD: The countries in the Europe, Middle
East and Africa region (EMA) have as
many different legal and regulatory
approaches to restructuring as you will
find around the rest of the world. It is
vital to work with local professionals
who know what can and can't be done.
TA: Even the range of services that
KPMG member firms offer varies from
country to country. For instance, while
in the UK it is possible to appoint a
Chief Restructuring Officer (CRO) to a
board. We are not permitted to do that
in Germany.
KPMG firms provide restructuring
and recovery services across just
about every sector. In practice, how
does that work? For example, does
a CRO need to be a specialist in a
specific sector, or do they tend to be
generalists who can apply their
skills to any business area?
PD: When our firms work with clients
on a restructuring, we will use a team
of people, and some members of that
team will have skills and experience
that is specific to given sectors.
We have no shortage of sector
specialists in KPMG.
As you’ve said, the economic
circumstances are benign at the
moment. But are there any clouds
on the horizon that could spell
trouble for highly leveraged
businesses in the near future?
TA: I believe that demand for raw
materials will push up prices and that
can trigger financial problems.
PD: Because there is so much
borrowing, any deterioration in the
economic environment may result in
work for KPMG firms in the future.
Philip Davidson
Head of EMA Region Markets and
Services, Restructuring
[email protected]
Tammo Andersch
Head of EMA Region, Restructuring
[email protected]
R
Meet the advisors…
Philip Davidson, a Partner in
the UK firm, helps companies
return to full performance.
He has worked on
assignments across a broad range
of sectors and jurisdictions, from
Europe to the Americas.
Tammo Andersch, a partner at
KPMG in Germany, advises
European companies and their
stakeholders in restructuring.
His work includes cross-border
liquidity investigations, the preparation
and restructuring of plans, and
corporate recovery advice.
3
In October 2006, George Bush signed
an act that outlawed online gambling in
the U.S. Sportingbet sold its U.S.
business for a nominal fee of U.S.$1 to
rival firm, Partygaming, calculating that
its exit from the U.S. market would cost
U.S.$250 million. Legislation changes
like this that force companies out of
markets are thankfully rare, but
businesses should think about how they
are going to make a graceful exit when
it all goes wrong should the need arise.
When it comes to deciding what to do
with unsuccessful parts of the business,
companies usually have three choices:
fix it, sell it or close it. Of course, these
are not isolated components. Failure in a
market might require a combination of
some or all of these elements, with
some assets being sold off, some
relocated and others shut down entirely.
The recently announced exit of Chinese
television maker TCL from much of its
European business, for example,
involves the sale of some assets and
the closure of others as it rationalises its
overseas operations.
Fixing the problem is usually the first
step companies take, but there is now
more pressure to shed loss-making
divisions rather than go through a
lengthy process of patching them up.
Getting a market exit wrong can be very bad
for business. The Economist Intelligence Unit
offers advice on what approach to take.
Don’t let the door hit you
Don’t let the door hit you
Restore April 2007
4
Don’t let the door hit you
Restore April 2007
‘Fail fast, fail cheap’ seems to be
today’s corporate mantra. Sometimes it
makes sense to relocate a division or
manufacturing plant to a site that is less
costly, such as when Dr Martens
Airwair moved its manufacturing arm
from the UK to China. Finally, there is
selling and closing. These can be the
more emotive options and may require
a carefully constructed exit strategy.
The rise of shareholder activism is
forcing senior management to
continually review their portfolio of
businesses. American shareholders
have often been a vocal group, but now
their habits are taking hold in Europe,
too. One reason for this is that there is
a lot more money around. Companies
are constantly being assessed by hedge
funds and private equity firms. “Hedge
funds are increasingly looking for
opportunities to generate value by
buying into equity as well as debt,
particularly where they see the scope
for cost savings,” says Richard Heis, UK
Head of Formal Restructuring at KPMG.
“This can have a positive impact as it
constantly challenges Chief Executives
to justify the status quo and ensure they
realise the savings themselves, before
someone else does.”
Similarly, the drive for innovation
means that product-and-service exits
are likely to increase as their lifecycles
become ever shorter. Companies are
also increasingly experimenting with
different business models to diversify
and spread risk, but this means
products and services will frequently
be scrutinised for profitability.
Multinational companies are also
under pressure to find economies of
scale by consolidating manufacturing
plants, call centres, software
development teams and so on.
Usually when this happens, something
somewhere gets shut down or sold.
And, while this may be less of an issue
in the IT and telecommunications
sectors, for example, it can be a big
issue in manufacturing. A redundant
software developer may well find
work the next day, but a dye maker
or a machinist might have to retrain in
order to get a new job.
The art of the exit
Exits are tricky and fraught with legal,
financial and industrial relations
hazards and there is an art to getting
them right. Unfortunately, many
companies can still make a hash of it,
attracting negative press attention,
damaging their brand, or worse.
“Closing plants in France is becoming
increasingly risky, as the company’s
works council is a critical factor in the
process and can denounce any
perceived irregularity to the courts,”
says Pascal Bonnet, KPMG's Head of
Restructuring in France. “As an
example, a major French company
was required to pay a total of 4.3
million euro to some 270 employees,
around 15,000 euro each, on the
grounds that the rationale for the
closure of a French factory and the
information given on potential
redeployment were inadequate.”
If efforts to resuscitate the failing
division haven’t worked, companies
will next try to sell it off. Only after
that has failed will someone make the
decision to close it down entirely.
Exiting a market is not something that
companies do lightly. Cable & Wireless
operates in a lot of emerging markets
where there are often strict rules on
foreign direct investment that can
make it very difficult to exit. “The
reason that the regulatory authorities
approve local joint ventures is because
they believe that you’re committed to
investing in their home economy over
a long period,” says Mike Barnard,
Director of Marketing and Strategy at
Cable & Wireless, “so to pull out can
be effectively kissing goodbye to being
a significant player in that market
for a long time.”
But when an exit becomes necessary,
companies typically seek to minimise
the pain by selling off whatever assets
they can. Cable & Wireless, for
example, exited the U.S. market in
2004 by selling its business there for
U.S.$155 million to SAVVIS
Communications. A business has to be
severely challenged not to be sold,
because there is currently so much
money chasing after the available
“A French company had to
pay 4.3 million euro to 270
employees on the grounds that
the rationale behind the closure of a
French factory was inadequate”
Pascal Bonnet, Head of Restructuring, KPMG in France
5
Don’t let the door hit you
Restore April 2007
assets, especially with the current
number of private equity (PE) firms
looking to invest their funds. Even
businesses that are not particularly
appealing are being bought rather than
closed, although this may require a
significant reverse premium to be paid,
such as in the recent sale of MFI
Furniture’s retail arm to PE firm,
Merchant Equity Partners (MEP).
Although company directors are under
closer scrutiny by shareholders than
ever before, there are more options
when it comes to deciding what to do
with an unprofitable division nowadays.
The new attitude towards openness
and collaboration means that
companies are more creative with the
way they work, especially with
adjacent players in the value chain.
But sometimes the best option is the
closure of a division and the piecemeal
sale of its assets, as with the sale of
retailer C&A’s stores after leaving the
UK market in 2000. The closure option
should always be considered during
the decision-making process, even if it
is often seen as a last resort, as it will
usually have some advantages. For
example, it may protect any remaining
businesses from additional competition
or produce a better return than a sale.
However, the right preparation is vital
for a closure to be beneficial. “Poor
planning and implementation of a
business closure will lead to delays,
costs getting out of hand and damage
to the remaining business, plus potential
personal liability for shareholders,”
warns Karsten Heilemann, a Director
of KPMG in Germany.
Honesty is the best policy
Whether companies are selling or
closing a division, it is vital to get the
public relations (PR) right. Poor PR can
kill investor and customer confidence.
Clearly, effective PR is going to be
more important for a high-profile
organisation. Marks & Spencer’s exit
from its continental European business,
for example, caused a lot of media
interest, but most of it was negative.
A common PR blunder is talking to the
analyst community before any other
stakeholders. “Make sure your staff
don't read it in the newspapers first,”
says Jim Donaldson, Managing
Director of Corporate Communications
at PR firm Hill & Knowlton.
For companies bound by stock
exchange rules, which dictate that the
investor community needs to be
informed of divestments first, there is
no reason why any communication
cannot be sent to the rest of the
stakeholders a few minutes later. A lot
of corporate communication is focused
on keeping shareholders comfortable,
with less thought given to employees,
suppliers, distributors and others.
What’s more, it is not just divestors
who should be worrying about good
PR; the buyer of the divested
company should be concerned, too.
After all, they need to justify why they
are taking on what is often seen as a
poorly performing unit.
Planning ahead
As companies battle in increasingly
competitive marketplaces, exits are
more than likely to increase, especially
for businesses pursuing a ‘fail fast, fail
cheap’ strategy. Given this, you might
think that there would be more domain
expertise in this area, especially when it
comes to closures. Many people see
exits as being the flip-side of
acquisitions. But while a lot of
companies have built up teams to
specialise in acquisitions, few
companies have formal structures` for
dealing with exits, especially when a
sale cannot be executed and a closure
is required. To use management-speak,
there is a lot of reinventing the wheel.
“When an
overseas
investment is
made, there is
usually a huge
amount of due
diligence conducted
before getting
into that market,
but very little
consideration of the
costs of getting out
if it all goes wrong”
Richard Heis, Partner, KPMG in the UK
Exit checklist
– Consider possible exit strategies when entering a new market. You can’t
know the unknowable, but some plans can be put in place to make the exit
easier if the time comes.
– You can’t pay enough attention to public relations. Mess up the message and
you could do irreparable damage to your brand. The amount of negative
column inches firms accrue is usually inversely proportional to the amount
they communicate.
– When exiting, soften the blow for local stakeholders in order to re-enter the
market at a later date.
– If your company finds itself entering and exiting markets on a fairly regular
basis, consider building and retaining in-house expertise, or at least conduct a
post-exit review so that you have a record of ‘lessons learned’.
– Learn to fail fast. Divestments are seldom popular, but the appearance of
having weak management can be even more devastating.
– Get the valuation right. Don’t undersell.
6
Don’t let the door hit you
Restore April 2007
“When an overseas investment is
made, there is usually a huge amount of
due diligence conducted before getting
into that market, but very little
consideration of the costs of getting out
if it all goes wrong,” says KPMG’s Heis.
Despite the regularity with which some
industries enter and leave markets, few
companies plan their exits in advance.
Exits are nearly always a reaction to
change. When Cable & Wireless, for
example, enters a market, they do so
with an enormous investment in
infrastructure. “Actually pulling out of
those markets is something that we
wouldn't have a plan to dust off at any
moment in time because we would
have ticked off all the risks and
concerns before we invested in the
infrastructure,” says Cable and
Wireless’ Barnard.
If the assets are highly specialised in
some way, it can be difficult to sell
them when the company decides to
close that particular division. Not
enough businesses give thought to
how they structure their assets,
considering which to buy and which to
lease, in the context of potentially
having to exit from them in the future.
Getting this right can save an
enormous amount of money when it
comes to closing shop.
Companies are not closing down
businesses or selling off divisions at a
high rate compared to the speed at
which they are entering new markets.
Many exits happen through gradual
decay and decline, but things are
beginning to change. “As you see a
higher frequency of these exit deals
taking place, I think that companies will
also end up building skill and some
expertise,” says Phanish Puranam,
Assistant Professor of Strategic and
International Management at the
London Business School.
As the market gets more efficient and
as the analysts and shareholder
community exercise more influence on
the portfolio composition of
corporations, the pressure to justify why
any business should be in the portfolio
is likely to continue to increase.
Richard Heis
Partner, KPMG in the UK
[email protected]
Pascal Bonnet
Partner, KPMG in France
[email protected]
Karsten Heilemann
Director, KPMG in Germany
[email protected]
R
“As you see a
higher frequency
of exits taking
place, companies
will also end up
building skill and
some expertise”
Phanish Puranam, Assistant Professor
of Strategic and International
Management at the London
Business School
“Poor
planning
and
implementation
of a business
closure will lead
to delays, costs
getting out of
hand and damage
to the remaining
business”
Karsten Heilemann, Director,
KPMG in Germany
7
Whether called in by lenders and investors
or appointed by the company itself, Chief
Restructuring Officers (CROs) can play a
hugely important role in turning a business
around. John Darlington, Head of CRO
services at KPMG in the UK, explains.
Enter the CRO
Enter the CRO
Restore April 2007
There’s probably never been a better
time for European companies to borrow
money. Not only are banks across the
continent lending more – borrowing
currently exceeds £500 billion – but
they have also tended to soften their
covenants and eased their policies on
borrowing as a multiple of earnings.
With interest rates remaining relatively
low, this has given businesses a chance
to borrow cheaply without many of the
onerous conditions that prevailed in the
early and mid-1990s.
By and large, this has had a positive
impact on the European economy. With
abundant finance available, companies
8
Enter the CRO
Restore April 2007
have been expanding organically and by
acquisition – often across borders –
while private equity (PE) firms have also
taken advantage of the availability of
credit to support their buy-out plans.
However, the willingness of banks to
lend, coupled with softer terms and
conditions, has exposed borrowers –
and indeed creditors, lenders and
investors – to the risk that any financial
problems will be addressed later rather
than sooner. For instance, covenants
impose a certain discipline on
borrowers. If a covenant is breached,
alarm bells ring and the lender demands
action. Soften those covenants, and
potentially fatal financial problems may
not be exposed until much later. What’s
more, the longer a problem is left to
fester, the harder it can be to put right.
As Head of Chief Restructuring Officer
(CRO) services at KPMG in the UK,
John Darlington is well positioned to
assess the consequences of late action.
KPMG in the UK currently provides
CROs at the request of both distressed
companies and stakeholder groups,
such as lenders and investors. As he
observes: “Because of the softer terms,
we’re being called to look at situations
much later,” he says.
This could have unforeseen
consequences for borrowers, as banks
have become increasingly willing to sell
their debt to third parties, rather than
negotiating a turnaround strategy with a
customer. “We’re seeing a lot more
trading of debt, even among banks
that have traditionally been strong
supporters of corporate recovery,” says
Darlington. “One reason is that there is
much more liquidity in the debt market.
It has become much easier to sell debt.”
Indeed, the emergence of both PE and
hedge funds as powers in the economic
landscape have added to the liquidity.
Within both those communities,
distressed company specialists have
been active in buying discounted debt.
This isn’t necessarily a bad thing for the
company in question. PE companies, in
particular, have earned a reputation for
adding value by taking a pro-active
approach to management
and strategy. However, distressed
companies should be aware that both
hedge funds and PE funds will have a
different agenda to the banks.
Indeed, a transfer of discounted debt
may well result in a debt-for-equity
arrangement, which will give the new
owners a direct incentive to build a
successful new business from the
ruins of the old, and ultimately take
a profit on exit.
The role of the CRO
Regardless of who owns the debt, it
is in everyone’s interest that a
distressed company is turned around
as quickly as possible, and in these
circumstances the appointment of a
CRO has become common. As
Darlington admits, this can be a bitter
pill to swallow. “Sometimes it is the
company itself that appoints a CRO, but
often the appointment will be made on
the instruction of the stakeholders,” he
says. “For some companies, the CRO
is a reluctant hire.”
Understandably, the arrival of an
outsider may be greeted with suspicion
by existing staff, and some assignments
John Darlington
John Darlington joined KPMG
in the UK in 2006, bringing with
him a wealth of experience
both as a company director and
a restructuring specialist.
– Between 2003 and 2005, he was
restructuring officer at MyTravel,
playing an active role in planning and
implementing the turnaround of a tour
company that had seen its business
badly hit by the 9/11 disaster. Prior to
that he was a special advisor to drinks
company HP Bulmer at a time when
it was restructuring its business.
– He is Head of Chief Restructuring
Officer services at KPMG in the UK.
are more diplomatically tricky than
others. For instance, if the CRO is there
to strengthen the existing management
team, the initial relationship may be
guarded, but it will most likely be
positive. If, however, the CRO’s arrival
heralds a round of board and senior
management changes, winning hearts
and minds may not be so easy.
But whatever the situation, the CRO
needs to show – and rapidly – that his
presence on the board can add value.
“One of the things I do is try to show
some quick wins,” says Darlington.
Even then, the CRO will almost
inevitably meet resistance from
someone within the organisation.
Companies find themselves in financial
distress for a whole variety of reasons.
Sometimes it is because the
management team is not as strong as it
should be, but it’s equally common to
find good managers struggling with a
flawed corporate strategy. In these
circumstances, the CRO faces the task
of helping boards recognise that the
company needs to do more than simply
shed staff or tighten up on its cash
flow, and that the only answer is a
change of direction. “What people have
to realise is that the CRO is there to
change the game,” says Darlington.
That can mean a root-and-branch
rethink. For instance, Darlington cites
the example of a company that had
been spending heavily on research and
development, launching new products
into the marketplace. It was an
ambitious strategy, but it was also one
that was harming the company. “The
cash flow simply could not support
business development on this scale,“
Darlington recalls.
To put the company back on track, it
was necessary to take radical steps.
Two thirds of its products were taken
off the shelf, allowing the business
to focus on the lines that were
making money.
In another case, Darlington was
involved in managing a series of asset
9
Enter the CRO
Restore April 2007
disposals to enable a client to escape a
cripplingly expensive mezzanine facility.
Changing the rules of the game,
invariably means ripping up plans that
may have been lovingly nurtured by
Chief Executives and their senior
management colleagues, and in these
instances, the challenge facing the CRO
is to achieve buy-in. To be effective, the
restructuring officer needs more than
tacit backing for a particular course of
action – he or she needs a real mandate
to take action and bring about change.
To achieve this, one of the most
important weapons at the CRO’s
disposal is the ability to communicate
exactly what has gone wrong with a
given company, and win a consensus
on what can be done to put it right.
Sometimes this can be relatively
straightforward.
As Darlington says: “It’s easy to win
support, if it is clear to everyone that
the consequences of not changing
could be disastrous. Once the reasons
for what you’re doing have been clearly
communicated, you find you pick up
supporters in the company quickly.”
However, if agreement isn’t
forthcoming, a good CRO must be
prepared to exercise power, and, if
necessary, face down those that are
reluctant or unwilling to give support.
“You have to speak softly, but carry a
big stick,” says Darlington.
Winning board support may be a big
hurdle, but the immediate prize for the
other directors is that they are free to
get on with the nuts and bolts of running
the company, such as winning clients,
negotiating with suppliers, talking to
investors, while the CRO takes charge
of the corporate recovery plan.
Faith can be rewarded
Nothing is guaranteed of course, and for
banks in particular, calling in a CRO is
something of an act of faith. The choice
they have is stark: instruct the borrower
to bring in a third-party fixer in the hope
and expectation that a successful
turnaround will be achieved, or cut their
losses and sell the debt at a discount.
Increasingly, many banks are choosing
to take advantage of a liquid debt market
and sell, but, as Darlington points out, if
the company in question can be turned
round, those who sell their debt may
well be losing out on the upside. For
instance, when a post 9/11 downturn
in the holiday market triggered a cash
crisis at tour operator MyTravel (formerly
known as Airtours), lenders agreed an
£800 million debt-for-equity swap,
which left existing shareholders with
just 4 percent of the company. Within
six months, the value of shares
allocated under the arrangement had
risen to £1 billion following a successful
recovery operation.
The outcome at MyTravel was a
testament to what can be achieved
when lenders/investors get behind the
restructuring of a troubled company,
with the CRO playing a crucial role in
driving the turnaround. As Darlington
points out: “For some investors, faith in
the company will be rewarded by a
good return.”
It’s not just the banks that stand to
benefit. With increasing numbers of
hedge funds and PE houses buying the
debt of distressed companies and
converting it into equity, CRO’s are
playing an increasingly important and
prominent role creating the
circumstances for a profitable exit.
John Darlington
Head of Chief Restructuring
Officer services at KPMG in the UK
[email protected]
R
“The most
important weapon
at the CRO’s
disposal is the
ability to
communicate
exactly what
has gone wrong
with a given
company and win
a consensus on
what can be done
to put it right”
10
Hedge funds and now also private equity
firms are major players in distressed debt.
No bad thing, says Heike Munro of
Deutsche Bank.
Opinion
Restore April 2007
It's a trend that all of us in
restructuring have seen develop over
the last few years. While banks are
lending more to the corporate sector
(and at higher multiples of earnings
than even a decade ago), they are also
more willing to sell their debt in
struggling companies to third parties,
such as hedge funds and private
equity (PE) houses.
For some directors – especially those
on the boards of underperforming
companies – this may be alarming.
Gone is the old relationship with
traditional lenders. Instead, directors of
an underperforming company are likely
to discover their debt has been bought
up by a hedge fund or specialist PE
investors. What’s more, current
financing structures replace original
simple relationships between lenders
and debtors, often by much more
complex arrangements that will be
more difficult to restructure.
I don't find it surprising that boards
tend initially to be negative about the
arrival of PE investors and hedge
funds due to the negative press they
sometimes receive, but I believe the
high liquidity in the distressed debt
market is no bad thing for the
companies themselves. The PE
houses and their counterparts in
the hedge fund community have
brought money to the table that
wasn’t there before, and this is a
positive development.
Today, there is more opportunity to
restructure the debt, and, as a result,
allow a restructuring of the company
as a whole. Of course, there is also the
fear that the arrival of PE and hedge
fund investors means the exit of staff
after a boardroom shakeout. Not
necessarily. When a company
underperforms or finds itself coping
with a financial crisis, lenders and
investors will look long and hard at the
management team and may demand
changes. But if the management is
strong and the problems the company
faces are caused by external factors,
then there will not necessarily be
pressure to bring in new faces.
Good management teams are valued
by all stakeholders – including PE
houses and hedge funds.
In addition to money, PE funds bring
with them a reputation for extracting
the best value from their investments.
This is where there is a certain amount
of uncertainty over their role as buyers
of distressed debt. Many PE firms
have a well-earned reputation for
making good companies better. It
remains to be seen how they will fare
with severely troubled businesses.
Equally, restructuring a company
successfully is a field where hedge
funds have yet to demonstrate their
expertise – we'll have to see what
happens. But hedge funds can draw on
the expertise of company turnaround
specialists, and there is a high demand
for Chief Restructuring Officers and
interim managers at the moment.
So PE and hedge funds should be
welcomed by underperforming
companies, not least because the
new finance offers new opportunities
and a possible future.
Heike Munro
European Finance Head - Distressed
Products Group
[email protected]
“The private equity
houses and their
counterparts in
the hedge fund
community have
brought money to
the table that
wasn’t there
before, and this
is a positive
development”
New faces
11
R
© 2007 KPMG International. KPMG International is a
Swiss cooperative. Member firms of the KPMG
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All rights reserved. Printed in the UK on recycled paper.
KPMG and the KPMG logo are registered trademarks of
KPMG International, a Swiss cooperative.
Published by Crimson Business
Publication name: Restore
Publication number: 306-461
Publication date: April 2007
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