In today's economic climate, businesses face new challenges and new opportunities. Buyers must be able to act quickly as acquisition opportunities will arise quickly. Sellers may be motivated by a need to reduce debt, short term cash requirements, capital requirements that cannot be met in the current environment, possible covenant defaults, lender and other stakeholder pressures, refinancing concerns, earnings pressures, weakening results or a refocusing on core business opportunities, among other things. The focus is on managing risk in a volatile environment where decisions must be made quickly.
Key Characteristics
The key characteristics of a distressed acquisition relate to timing, the stakeholders involved, structure and control:
- Timing – Often a seller will be motivated to sell quickly, for cash and with few conditions. An early assessment of the critical short term problems facing the distressed business should be made to determine how those issues can be managed, how they may affect the business and its value and what opportunities they present to a purchaser. In almost any case, a successful purchaser will be ready and able to conduct necessary due diligence quickly and efficiently; assess risks and negotiate transaction agreements and documents in relatively few turns. When time is short, preparation is critical.
- Stakeholders – In a distressed environment many stakeholders will be involved. They often include senior and junior lenders, specific asset lenders, key suppliers, customers, landlords, unions, management and equity holders. Understanding the real economic stake, the levers of influence and the interests of each stakeholder group, and particularly the holders of the fulcrum security, is critical. An understanding of stakeholder rights and real interests often dictates structural choices and control options.
- Structure and Process – The need for speed in due
diligence, negotiations, closing and the potentially limited value
of seller representations, warranties and indemnities drives the
acquisition process to one of three basic models:
- an asset sale at an appropriate price with few assumed liabilities completed outside formal proceedings. Often sellers will prefer this option. However, this option sometimes requires significant third party co-operation and therefore may have greater closing risk;
- an asset sale at an appropriate price with few assumed liabilities and effected through formal proceedings (including through the use of the corporation statutes, the Companies' Creditors Arrangement Act , the Bankruptcy and Insolvency Act either alone or in combination with proceedings under the U.S. Bankruptcy Code). Formal proceedings almost invariably require a public competitive sales process, which can create some uncertainty. However, through stalking horse procedures, purchaser protections can be achieved and post-closing purchaser risk in respect of seller liabilities can be minimized;
- the acquisition of all of the equity of the seller and the
"clean up" of liabilities through formal proceedings
(typically through the use of a combination of the
Companies' Creditors Arrangement Act or the
Bankruptcy and Insolvency Act and the relevant corporation
statute). Depending on asset values and the nature of the assets or
business to be acquired, this process can be attractive to a
purchaser.
- Control and Influence – There are a variety of starting points to the acquisition of a distressed business, all of which must be considered and assessed before a choice is made as it can have a determinative effect on the outcome. The options include the acquisition of existing debt (typically all of or an interest in the fulcrum debt), the provision of interim funding, the provision of DIP financing, acting as a plan sponsor, entering into a stalking horse agreement or participating in a competitive sales process.
Execution
Accurate information and execution are critical to the acquisition and divestiture process:
- Evaluate a distressed company's capital structure, stakeholder rights and interests, (including key stakeholder positions and fulcrum debt and security);
- Plan for immediate issues including creditor rights, liquidity issues, forbearance arrangements, amendments to credit agreements, interim financing and engaging investment bankers;
- Understand and consider the governance issues faced by the distressed company's board of directors and management;
- Investigate and assess the peculiarities of the business's assets and liabilities, including impediments to sale and assignment and the risks incidental to acquisition (e.g., tax considerations, labour and pension obligations, no-assignment provisions, termination rights, regulatory and environmental issues);
- Consider acquisition or disposition options including financing, loan to own, plan sponsorship, sales' process issues (both in a domestic and cross-border context), and advising with respect to related insolvency and restructuring issues, including the use of the Companies' Creditors Arrangement Act, the Bankruptcy and Insolvency Act and/or corporation statute proceedings;
- Manage stakeholder consultation and communications to achieve consensus on process and structuring issues;
- Negotiate and manage sales process issues (including ordinary and accelerated sales process models, stalking horse bids, bid protections and over-bid provisions, and auctions); and
- Manage the process to a successful conclusion.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
