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.

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