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Living to Fight Another Day
by Michael Collins
 

The recent state of business failures highlights the need for companies to take action to help weather the storm. I’m going to help companies who have questions as to how to do this through a series of articles. The first type of action is undertaking a capital event or similar transaction. In the next installment, we will cover methods of increasing revenues and, in the final installment, ways to cut costs.

A Real Look at Cash Flow
The first critical step that companies facing financial challenges should take is to make an honest assessment of the ability of their cash flow to allow them to continue to pay their bills in a timely manner. It is advisable to be as open as possible about the situation with key managers in order to solicit their full support of the company’s efforts to remain competitive. 

The financial transaction most frequently associated with troubled companies is, of course, filing for protection under the bankruptcy code. We will not spend any time analyzing that potential method of dealing with financial distress. Instead, we will focus on the variety of other options that are available to challenged companies who act in time. 

The first instinct of business owners who find themselves at the helm of a troubled company is to go to the bank to increase the existing amount of bank debt. At that point, the old adage often becomes true as companies find they are unable to secure additional lending because they need it too badly.

When traditional bank lending falls short, there is an often overlooked method of raising capital open to business owners—factoring accounts receivable. In the past this was viewed as a sign of a poorly managed company. This is no longer the case. Entrepreneurs now understand that there are times when a company would be well served to give up a portion of its sales in exchange for more rapid payment. Factoring accounts receivable allows a company to receive the majority of the proceeds from its pending accounts receivable in one upfront amount without the negative effects of cutting terms to customers. The amount that the factoring company is willing to pay for a given company’s accounts receivable is a function of their view of the risk of non-payment of the receivables. As the factored receivables are collected, the funds are sent directly to the factoring company. 

Facility Capital
Companies that own their land and real estate have access to another potential source of capital. In many cases, companies have spent many years in the same facility, which may have increased significantly in value. There are specialized investment funds that undertake nothing but transactions involving the sale and leaseback of commercial and industrial facilities. For example, if a company sold its building and real estate in a sale-leaseback transaction and the amount of the real estate purchase was $4 million, the company would receive an immediate injection of that amount. The company would be obligated to pay the sale-leaseback fund monthly rent on the land and building, all of which would be an expense for income tax purposes.

Another option for generating capital is a full or partial sale of a company. This could be accomplished through a private equity fund (many of whom specialize in buying troubled companies), a competitor, an employee stock ownership plan or a management buyout. Any of these strategies bring about the desired injection of capital or the complete cessation of an owner’s obligations to their company. It is critical, though, to begin such processes as early as possible. In conducting due diligence on a company, buyers will learn whether a company is still viable or must be sold to avoid bankruptcy. In the latter case, aggressive buyers may learn enough about the company being sold to decide that they would rather let it “hit the rocks” and then compete for its customer in the open market. For this reason, selecting the right buyer for a troubled company is perhaps even more critical than in the sale of a more profitable company.

In summary, there are a wide variety of options available to help companies raise capital and survive the challenges of today’s market environment. It is critical, though, to take early action in order to have as many options as possible.

DWM
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