has met with company management and received plans for initiatives designed to resolve the problem. After a reasonable amount of time, however, the problem sometimes persists and the financial situation hasn’t improved or has even gotten worse. At that point, the lender will begin to seriously doubt whether the company can stabilize its finances without outside advice or direction.
Consider the following situation. You are the senior secured lender to a mid-market, family-owned and operated consumer products distributor, XYZ Corp. XYZ has operated under the same business model for years. It has sold the same products, performed well historically and maintained sufficient liquidity to operate its business. The business has afforded the owners a very nice lifestyle.
A Struggling Business
Some months ago, however, XYZ lost a significant product line, and sales dropped sharply. XYZ attempted to replace the lost product line’s sales with a competing one, but the sales of the new line are slower than anticipated. Therefore, the initial investment in inventory and marketing costs of the new line have syphoned off liquidity. XYZ’s availability on its line of credit with you has evaporated, and the company is slowing payments to trade and expense vendors. Several months ago, you got an updated field exam that showed some concerns. As a result, you strongly advised XYZ to retain a consultant to review its business model and practices and to look for areas to improve while the replacement product line continues to ramp up.
XYZ reluctantly agreed to seek outside advice from a restructuring consultant, but it didn’t make any of the changes that were recommended. The company preferred to continue doing business as it always had, even though benchmarking studies clearly showed ways to streamline the business and improve cash flow. Now the company has violated one or more of its loan covenants with you and is in default.
What are your next steps to insure your collateral is secure and your loan will be paid in full? What key factors should you consider regarding the level of oversight you now require from the company? Do you require XYZ to re-engage a restructuring consultant as a condition of continuing your support? Or do you require XYZ to retain a chief restructuring officer with the responsibility and authority to make decisions for the benefit of XYZ, you, as the secured lender and the company’s unsecured creditors?
We see situations similar to this many times: a business, family owned or not, that has always worked — until it doesn’t. Its financial performance has declined due to any of a number of reasons. Liquidity has evaporated, and management has not taken steps to stop the losses by restructuring the business and cutting expenses. Perhaps management doesn’t know what to do or is reluctant to make the hard decisions because of the impact on its employees’ lives. Regardless, you, as the lender, have to decide how much pressure you bring to bear on the company to resolve the situation.
What Are the Options?
If company management has a good track record of execution and performance, has historically been open to considering advice and the current problem appears to be the result of a strategic mistake or general market conditions beyond management’s control, a thorough review of the business and advice from an independent restructuring advisor may be sufficient to put the company back on track.
If, however, you have received plans that haven’t generated significant improved results in a reasonable amount of time, you are concerned about the accuracy of the financial information you are receiving or the company routinely misses short term financial projections, you should consider requiring the company to retain a chief restructuring officer (CRO) with the responsibility and authority to change the direction of the business and make decisions that resolve problems by making recommendations that carry the weight of an officer and manager.
A restructuring advisor serves primarily as an observer, analyzer and reporter of the situation and is only able to recommend and influence decisions through his or her negotiating skills. A CRO, on the other hand, exerts more control over the situation, gets to the bottom of the problems and resolves the financial reporting issues so the financial picture is clearer. A CRO can make or guide decisions that have a positive impact on the business.
The benefits of having a company retain a CRO when the situation calls for it are as follows:
- A CRO can design a plan of action and implement it quickly in situations where incumbent management is resistant to change or has failed to identify the problems and develop strategies to overcome them.
- A CRO provides objectivity, credibility and seasoned judgment in difficult situations. These traits are often lacking in distressed companies that are bound by tradition and habit. This will give you, as lender, more confidence that the problems are recognized, being addressed and resolved rather than hidden from view or ignored.
- A CRO will not be influenced by the emotions of family members and incumbent management and therefore will be able to focus on the problems, design strategies to overcome them and make better decisions for the business.
The professionals of Clear Thinking Group have performed numerous restructuring assignments and acted as chief restructuring officers in a number of retail and consumer products businesses. It is our experience that when financial and operating challenges have existed for some time and clients have not been able to resolve them on their own, clients and their lenders are more satisfied with the restructuring process and the results generated when more control is given to a professional with the responsibility and authority of chief restructuring officer.