Saturday, November 20, 2021

Graceful Transition from Business Ownership When Traditional Options Are Not Attractive

The respected owner of a Bridgeport, Connecticut, manufacturing business sat back in his office chair. He was finally relaxing after a day in which he and the young man who was his restructuring advisor fielded calls from angry unpaid suppliers. The strain of financial challenges facing his high-profile company had been emotionally draining on the owner and his family. He was worn out from the grind, and in his late 60s he was no longer the resilient entrepreneur who built the business from the ground up. The tone was somber, the owner became reflective: “For years now, people have knocked on the door here, asking for advice on how to get in business,” he said, looking up from a notepad, “but no one ever comes here to ask how to get out of business.”

The relevance of that conversation has endured the passage of time, and it finds new meaning in the current environment facing business owners in the printing and graphic communication industry. 
As Covid-relief funds begin to dry up, many owners are once again asking: “Is it worth going forward or is this the time to get out of business?”

The potential of a lucrative M&A sale of business is achievable for some, but not all privately held establishments that dot the landscape of the printing, graphics, packaging, finishing, mailing, and related industries. This pathway for maximizing business value may go through private equity buyers or strategic acquirers, and is well documented in The Target Report, published by my colleague, Mark Hahn of Graphic Arts Advisors, LLC. For others within our industry that do not fit the criteria for a “healthy company M&A transaction,” the options are narrower but the overall need for business transition solutions is far greater, considering the constant struggle to survive that has taken a toll on countless owners.

Owners of companies who had been treading water prior to Covid-19 may turn to unconventional options for business transition. “I never thought I’d be in a position like this,” said the third-generation owner of a printing company while preparing for an upcoming equipment auction; his company already having ceased operations without any M&A transaction. “I always thought I’d ride this thing out and eventually get the prize of a buyer paying me real money for the business. I worked so hard to make this company successful, but I don’t have the same energy at 60 as I did at 40. The time has come to move on.”
  Common Forms of Business Transition in the Printing and Graphic Communication Industry
  1. M&A Sale of Business as Going Concern to Strategic Acquirer
  2. M&A Sale of Intangibles and/or Equipment, followed by Orderly Wind-down of Corporate Entity
  3. Transfer of Ownership Interest to Next Generation by Succession Sale of Business 
  4. Orderly Wind-down of Assets and Liabilities (with or without monetizing intangibles value)
  5. Divest Printing Industry-related Assets and Convert to Real Estate Holding Company

For those owners who have struggled in recent years, here are five questions for consideration in thinking about business transition:

Question 1: What is the time frame based on the life cycle stage and relative health of the business?

Caution: Companies who have been treading water sometimes deteriorate at a more rapid pace than the owner had expected as the end approaches, causing turmoil and pressure to “get out from under” while there’s still something to preserve.

Advice: One tool to assess survivability is to track the ratio of cash receipts to new billings. This means if the business is taking in more cash than it is replacing with new receivables, the liquidation has essentially started before the owner realizes it.

Question 2: Who is making the decision on “whether”, “when” and “how” to get out of business?

Caution: If the company is not paying its bills on time or has more debt than assets, then these critical decisions really belong to the company’s creditors, not the shareholders or partners or members. The concept of maximizing value for creditors comes from the arcane world of bankruptcy and non-bankruptcy debt restructuring, but there does not have to be a bankruptcy case for the legal construct to be applicable.

Advice: If the company is behind in its bills, check whether the company is paying out more in “good faith payments” or partial payments on account or other debt reduction than it is making in profit from new jobs going out the door. If so, the decision on getting out of business has already been made.

Question 3: Where do you stand on the ethical issue of doing right by your customers and employees?

Caution: Beware of unexpected costs of winding down the business such as final employee obligations and customer liabilities. Remember the snowy evening where the night shift operator came to the company despite the blizzard, just so a big job could get out the next morning? You may not, but he/she probably does and will likely remind you about it on the way out the door if the business transition is not implemented with care and compassion. Accounting and planning for wind-down are not the same thing.

Advice: Develop a list of orderly wind-down expenses that go beyond the usual accruals that show up on the company’s balance sheet.

Question 4: Who legally owns the assets and liabilities of the “treading water” company?

Caution: The details on how assets are titled and who is responsible for liabilities is based on careful review of documents are essential inputs in creating the road map for going out of business.

Advice: The press operator would not even think about taking home the press, so why are salespersons and some owners thinking that they can just take the customers with them when they leave the company? Except in cases with specific facts, customer relationships and data files/estimates/job tickets etc. are corporate intangible assets and belong to the equity holder and/or the creditors.

Question 5: Why is non-bankruptcy orderly wind-down usually more attractive than bankruptcy?

Caution: The primary reason why very few companies in the printing and graphic communication industry file for bankruptcy is that the process negatively affects customer relationships. Rather than preserving business value, bankruptcy itself diminishes the value of the intangible assets.

Advice: Bankruptcy is the legal backdrop against which restructuring and non-bankruptcy cases are designed; however, the filing of bankruptcy would require all creditors in certain buckets to be treated equally. In non-bankruptcy, creditors must be treated fairly but not equally. That is a huge difference in making the non-bankruptcy orderly wind-down process more palatable to owners who want to achieve a graceful transition. There is a built-in way to be sure that the local die cutter or free-lance designer is taken care of. That does not mean the owner can arbitrarily pick favorites or pay their friends at the expense of other creditors. There must be a business purpose to the architecture of the plan, rather than random one-off payments.

An earlier version of this article were first published by the Graphic Communications Advisors Group.

Friday, June 4, 2021

Five M&A Takeaways from the Pandemic Front Lines

The one-year anniversary of the outbreak of Covid-19 has passed and the much-anticipated tidal wave of failed businesses never happened. The expected deluge of cash-strapped owners seeking immediate relief in the form of distressed company M&A did not materialize. Rather, the marketplace has been defined by owners accelerating plans for an orderly transition from ownership (sellers) and more aggressive, but reasonable, pursuit of M&A by healthy companies seeking new growth opportunities to make up for lost revenues (buyers). With the backdrop of a debtor-friendly creditor climate and strong cash positions on many balance sheets, the environment is ripe for active deal-making in all sectors of the printing, packaging, graphics, and mailing industries.

Here are five takeaways from the frontlines of M&A in our industry:

PPP loans have extended the life of companies that were already treading water

There is little doubt that the massive influx of money from the United States Small Business Administration (“SBA”) under the Paycheck Protection Program (“PPP”) extended the lifespan of many companies that otherwise would have shut the doors. One can debate the political, social, and economic issues related to the PPP initiative, but without dispute is the practical reality that the PPP money was a welcome shot in the arm for shoring up P&L deficits over the past 15 months. Skeptics would argue the money simply deferred the inevitable demise of treading-water companies, but only time will answer the question more fully.

The single most frequent issue surrounding M&A over the past year has been how to advise clients on PPP debt implications

Many professionals would say that the simplest answer is to treat the PPP debt as just another loan on the balance sheet of the seller. In traditional M&A where the seller, at the time of closing, has sufficient assets to fully satisfy all liabilities, the PPP loans become a topic for planning among the accountants and lawyers. But in the context of unwinding the balance sheet of an acquired company that has more debt than asset values, professional advice surrounding the PPP funds has tended to be especially cloudy, leaving principals with uncomfortable uncertainty.

PPP Loans add complexity to the art and science of structuring non-traditional M&A transactions

The range of PPP loan issues that land on the desk of a restructuring expert includes:

ü  the likelihood of formal SBA forgiveness of PPP debt based on the moving target of guidelines and regulations;

ü  the relative priority status of UCC-1 security interests filed by the bank issuing the PPP loan;

ü  misreading of the implications of “no personal guarantee” that had been eye-catching on the front-end borrowing;

ü  the role and competence of the issuing bank which introduces another variable to the situation;

ü  the timing of M&A transaction closing and formal SBA forgiveness approval; and

ü  the requirement imposed by SBA regulations to escrow funds at the time of M&A transaction closing.

Banks have not lit the proverbial match (yet?)

The Covid-19 climate has not negatively affected the delicate relationship between banks and commercial borrowers. This could change in the months ahead, especially as PPP funds run dry, however in our industry we have not seen a surge in demand letters, requirements to provide 13-week cash budgets, collateral audits, onerous renewal terms, forbearance agreements, or other hallmarks of conflict between banks and business owners. Any change in the banking climate could easily have a cascading effect, given the number of companies that are skating on thin ice due to Covid-19 revenue gaps. Interestingly, the creditor group that has had the biggest impact on Covid-19 has not been the banks, but the leasing companies. In our experience, leasing company creditors got the ball rolling in a favorable way when the pandemic broke out in early 2020. The general willingness to defer payments on equipment debt gave owners a financial cushion as well as a much-needed emotional boost at exactly the right time.

Lower creditor settlements have helped offset the decline in M&A value

Numerous experts have weighed in on the impact of Covid-19 on business valuations; however, very few commentators have explored the relationship between M&A value and creditor settlements in the Covid-19 era, especially in the printing, packaging, graphics, and mailing industries. Distressed companies are faring better in workout negotiations than at any time in recent memory. This is partially due to the sheer volume of problem debts that have exposed shortcomings at institutions who lack seasoned personnel to work on restructuring cases that require focus, expertise, and rapid decision-making. Another factor has been the recognition that the pandemic was beyond the control of the debtor with a resultant more empathic creditor response. The net effect is that overall creditor settlements are lower than they were in 2019 or 2018. During the past 15 months, creditor’s understanding and flexibility has helped some distressed company owners to offset the decline in M&A value.

Sunday, January 17, 2021

Are Losses Draining Your Energy and Finances?

Muddy Waters
  • Cash is always tight, scrambling to meet payroll and pay suppliers.
  • Hard work does not seem to be helping; you’re going nowhere fast.
  • Relationships with close family, favorite trade suppliers, and good employees are strained and near the breaking point.
  • Company resources are going down the drain and there is no way to plug the flow.
  • Every effort to plug the continued losses has failed and it is time to face the reality that your company may not be able to stay in business.
The finality of it all stands in stark contrast to the “better days ahead” optimism that was the coping mechanism for yesterday’s challenges. Realizing that the dream of continuing to operate as an independent company is rapidly slipping away, thoughts turn to shutting the doors, filing for bankruptcy, or selling everything to get out from under.

Time is Not Your Friend; Act Sooner Than Later

It is counter-intuitive, but the great majority of owners who eventually get through the painful process of winding up their company come out the other side healthier, happier, and with renewed vigor. For these individuals, the transition from business ownership while under duress serves as a life changing experience. Frequent remarks are:
  • “I should have done this sooner.”
  • “I didn’t realize what it would be like to get my life back.”
  • “I was sadly misinformed, not realizing that there were more graceful alternatives than filing bankruptcy or walking away.”
No one ever chooses to be in this situation; regardless of whether the underlying cause of business demise was Covid-19, the credit crunch of the Great Recession or the tragedy of the 911 attacks. The universal truth from many cases is that there can be light at the end of the tunnel, and that light is not an oncoming train!

The starting point out from the tunnel of darkness has nothing to do with financial statements or traditional advice from accountants or lawyers. It has to do with self-assessment of your emotional mind-set.

Do any of the following four comments resonate with you?
  • “I am done. It is time to get out from under and do what is right for me. I want to take care of my employees and customers. I want creditors to be treated fairly. But it’s time to move on.”
  • “I have no time for thoughtful planning; I am too busy chasing money and keeping the wolves at bay.”
  • “My lawyer and accountant tell me I am nuts to keep throwing money at it, but I’m not 100% convinced.”
  • “I am not giving up, if there is a way to preserve what I have, I will find it. But if it is not realistic, I can be at peace knowing I did everything I could, and I transitioned from ownership in an ethical, legal, and compassionate way.”
When an owner acknowledges to himself/herself that staying in business is no longer an option, there is often a sense of relief in knowing that the focus has shifted from “whether to stay in business” to “what are my options, when do I make the move, and how do I go about this?”

The Survival Clock is Ticking

Once an owner acknowledges the inevitable, “what are my options” should not be the very next question. Think of this as an emergency room scenario. The patient checks in and is in distress. If the distress is acute and death is imminent, extreme immediate measures may be warranted. It’s open heart surgery time. Long term options such as a change of diet and an exercise regimen won’t solve the problem. It may be too late for planned elective surgery as a safer alternative. Time remaining on the proverbial clock defines the universe of options. Does the patient have years? months? weeks? days? hours? I call this the “survival clock” – this drives the subsequent decisions.

The most common answer is “a few months” and, using the medical metaphor, the owner can plan elective surgery to save significant elements of value with a softer landing for shareholders, employees, creditors, and customers. Indicative conditions would include:
  • Available credit is maxed out and/or the company’s lender has cut the line of credit to avoid more exposure.
  • Accounts receivable collections exceed new billings to customers over an extended time period.
  • Suppliers are tightening up their credit terms.
  • The company keeps losing more customers than it gains new customers.
  • Good employees are leaving or planning to depart.
If more than three of the following six warning signs of extreme danger are present, the survival clock is probably measured in a few weeks, maybe a month or two (but not many months), and rapid progress is advised to avoid a total loss of value and a hard landing for constituents:
  1. Bounced checks are becoming normal.
  2. The company is unable to pay complete payroll and is only funding net payroll, deferring IRS payroll taxes and other trust deductions in an effort to preserve cash.
  3. Utility bills are not paid in full each month and there is an expanding accrual of 30 days or longer on electric, gas, phone, and internet.
  4. Premature invoices are issued to create receivables for presentation purposes to lender or other stakeholders.
  5. Financial problems are regularly affecting customers and key employees; they are losing patience.
  6. Critical suppliers of paper, ink, toner, and maintenance have cut off new orders or have imposed onerous requirements to continue conducting business with the company.
Time to Pull the Plug?

A word of caution about owners doing their own self-assessment of time frame. Owners often misread how much time is left on the survival clock. Just like water going down the drain, the rate of business deterioration goes faster near the end. It appears slow at first, almost imperceptible. Let some time elapse and what happens? At some point, the losses are clearly visible, the water is circling. Finally, the last bit of water disappears in an accelerating spin that cannot be stopped.