Ireland: Focus Spring 2013 - Getting Ahead Of The Game

EDITORIAL

By Paul Wyse

Welcome to our spring edition of Focus. We have hopefully finally seen the back of a very cold and wet winter and welcome the long and bright evenings back. Spring is normally the season for growth.

Ireland Inc has had some good news since our last issue. Europe has extended our debt repayment terms and it has benefited from some rate reductions which will help the country's bottom line and our repayment capacity for when we return to the market. The general government deficit in 2012 was €12.46bn or 7.6% of GDP, well below the 8.6% EU/International Monetary Fund (IMF) target although there were a number of one-off receipts which helped. This is welcome news as Ireland is getting ready to return to the international debt markets.

There are many challenges ahead not least of which is the Croke Park II negotiations which are now dead in the water, and some serious re-negotiation needs to happen if the Government is to achieve the €300m savings in public pay earmarked for the current year budget and the €1bn saving earmarked for 2014.

The IMF is concerned that austerity might be overdone given the weak growth environment and certainly the domestic economy continues to suffer from this in particular. In this issue Liam Dowdall advises those operating in the domestic economy to review strategy and business plans and to take time out to see where the business currently is and how to move it forward. Jonathan Sheahan suggests that a robust well diversified portfolio of assets can minimise risk and benefit investors in the long term, and to check how diversified your portfolio really is. Liz Cahill gives us ten reasons to file our income tax returns early rather than leaving it to the last minute, which can lead to human error, omissions and panic as to where to find the funds to pay the tax due. Joanne Butler sets out some helpful hints on preparing your business for sale, as preparation is critical to achieving the best price and deciding when the best time is to sell.

FIVE-STEP PLAN TO PREPARE YOUR BUSINESS FOR SALE

By Joanne Butler

Preparation is critical to achieving the best price. Once you have decided that it is the right time to sell, undertaking an exit review in advance of putting your company on the market means a smoother and generally quicker disposal process and ultimately a higher valuation.

1) Developing an action plan

Firstly, you must focus on the key drivers that will increase the disposing company's exit price and position it in the most appealing way to potential buyers. A good place to start is to identify any weaknesses that a buyer would highlight during the due diligence process such as the following.

• Quality of books and records.
• Over exposure to a few major clients.
• Quality of customer base and customer contracts.
• Stickiness of sales and customer churn.
• Inadequacy of protection around intellectual property and licensing.
• Over dependence on owner.

Ideally, there should be an incentivised, competent management team that will stay with the business after sale.

Selling a business often includes assets such as goodwill, trade marks or client lists as well as physical assets. Therefore it is important to determine what you are selling and whether this is to be done through an asset or share sale. It is vital that any structure is considered from a tax perspective and advice obtained accordingly.

Once the potential weaknesses are identified, an action plan should be designed to minimise these risks.

2) Execute action plan

The time taken to execute an action plan can vary from three months to a year depending on the actions required though it is advisable that all items identified are achievable and are completed in an efficient manner.

3) Ensure all commercial and financial risks are minimised

A good quality finance team helps give buyers and investors comfort in the business' performance and builds a level of trust. Generally all books and records should be in good order and up to date. Detailed management and financial accounts for the last three years should be available and all liabilities should be reduced as much as possible. In particular, make sure all tax payments are up to date.

On the completion of the action plan, all commercial and financial risks identified in step one should be minimised.

4) Identify potential buyers in the industry

It is helpful if you can identify potential buyers in the industry and try to ensure that your business meets their acquisition criteria. Ultimately a financial adviser should be able to complete a sector and competitor analysis and advise you on how to change the company's positioning to increase its valuation multiple. Other advice would include detailed analysis on current company valuation, an evaluation of growth strategy together with a review of exit options.

5) Appoint experienced financial advisers

Appointing the right adviser is critical to achieving the best price for your business; they should be able to leverage contacts and know how to prepare your business for sale. If possible they should have specific knowledge of your business sector. It is important that you evaluate the whole team that will be advising you and that you ensure you will have access to senior advice at all times and not just for initial negotiations. Any financial adviser should be able to provide references from recent transactions completed if required.

In particular an experienced adviser will prepare an information memorandum which is ultimately a sales document outlining the background of your business, market overview and market position, an overview of the historic financial performance of the business and projected financial performance over the next three to five years.

A professional adviser will assist in setting a fair price. A professional business valuation can be done using a number of valuation methods such as asset based, discounted cash flow or earnings based multiples. Ultimately a valuation carried out by a professional is likely to be regarded favourably by potential buyers.

A professional adviser will manage the sales process, control the due diligence process, help assess heads of terms, offer letters, sale and purchase agreements (along with your legal advisers) and assist generally in negotiations.

Though selling your business can be a long process, taking the time and professional resources to adequately prepare for sale will make the disposal process quicker and easier and maximise the value you will get in return.

TAKING STOCK - NOW IS THE TIME TO BRUSH OFF THE COBWEBS AND BRAINSTORM NEW IDEAS

By Liam Dowdall

In Ireland, 2012 was an enormously challenging year for those engaged in what is classed as the domestic economy, particularly small and medium enterprises (SMEs) who will be happy to still be around. There is guarded optimism that the economy throughout 2013 – although it continues to be challenging – will see some modest uplift, with sectors such as hospitality and retail seeing improvement in sales.

Some reasons for this guarded optimism are as follows.

• Continuing strong foreign direct investment into Ireland which will directly and indirectly benefit the domestic economy.
• Exporting companies recorded net jobs gains of 3,804 in 2012, the highest increase since 2006. Employment losses have stabilised in 2012.
• Business confidence is showing some signs of improvement. Most businesses that have survived the past three years have carried out significant restructuring and right-sizing of their businesses. Any uplift in revenues will have an immediate impact on their profitability and viability.
• The property market, particularly the residential market in Dublin, saw increased sales activity in 2012 and market activity is expected to increase significantly.
• The Government is actively targeting the SME and start- up business sector in 2013 and initiatives such as the credit guarantee scheme and the micro-finance fund will hopefully assist viable SMEs and start-up businesses this year.

This year presents an opportunity for the shareholders/ directors and their management teams to take stock of where they are and how they plan to move their businesses forward, which should include the following.

A strategic review of the business

The directors and key members of the management team should take time out to see where the business currently is and how they can move it forward.

This can be done by having 'away days' in a hotel or conference centre where the management team can avoid the normal day-to-day business interruptions.

The use of an external facilitator can often be of value in these situations. As well as getting clarity on where the business is going, the away days can often re-energise the key members of the management team.

Review of the business plan

Following the strategic review, update your business plan and make it 'fit for purpose'.

Cash flow projections

Remember: 'cash is king', and any business plan needs to be supported by comprehensive cashflows which are prudent and allow headroom for unexpected surprises.

Assessment of the financial and non-financial support available to your business

Enterprise Ireland and the county and city enterprise boards provide considerable financial and non-financial support and guidance to businesses.

Below is a brief listing of some key financial supports available to businesses.

Credit guarantee scheme

The credit guarantee scheme facilitates the lending of a €450m of additional finance to viable SMEs over the next three years. The Government provides the lender with a 75% guarantee for which the borrower pays a 2% premium.

Micro-finance fund

A €90m fund aimed at providing support to start-up, new or growing enterprises with no more than 10 employees.

Seed capital scheme

If you start up and work full-time in your company, you can claim back the income tax you paid in the previous six years to invest equity into the company.

The employment and investment incentive scheme (EIIS)

Company can raise up to €10m in any one company or group of companies subject to a maximum of €2.5m in a 12-month period.

R&D tax credits

A 25% tax credit for qualifying R&D expenditure.

Address short/medium term working capital needs

• Strengthen credit management procedures.
• Seek to avail of the credit guarantee scheme or the micro-finance fund.
• Seek additional equity investment from shareholders or connected parties.
• Consider availing of the EIIS provision (if you qualify) as a source of equity funding.
• Conventional overdraft facilities will continue to be difficult to secure this year. I suspect it will be 2014 before we see any significant increase in overdraft lending. As the economy continues – hopefully – to improve, the lack of working capital could become a major impediment to enterprise growth. Enterprises should look to alternative sources of working capital such as invoice discounting or stock finance.

Review the current management team

During the past two to three years, businesses have needed lean management teams and workforces. In some instances, managers who have exited the business have not been replaced. Consideration should now be given to whether there are any management deficits in skillsets and whether individuals with relevant expertise in, for example, sales, marketing or finance need to be brought on board.

The appointment of an interim manager may be a possible solution in these circumstances. Interim managers have been very effective, for example, in the retail, hospitality and motor sectors in the last two to three years.

The above steps will greatly improve the chances of businesses surviving and growing this year.

RE-EXAMINING DIVERSIFICATION STRATEGIES - SOPHISTICATED DIVERSIFICATION IN LIGHT OF THE PREVAILING ECONOMY AND MARKET

By Jonathan Sheahan

There is no doubt that a robust, well-diversified portfolio can minimise risk and be extremely beneficial for investors in the long term. Unfortunately, however, a number of investors have suffered significant capital losses on the back of having a strategy that appeared to be diversified, but in fact wasn't diversified at all.

The benefits of a robust diversification strategy are more apparent when volatility picks up or when markets start to fall. Once a market advance has persisted for an extended period as we have been experiencing of late, investors tend to become complacent and often can't be blamed for doing so. This can lead to a dismissive attitude towards the benefits of diversification. Volatility, as measured by the VIX Index, is now at the lowest level in over five years. The S&P 500 has recently touched an all-time high while the German DAX and the UK FTSE 100 are close to five-year highs. Even domestically we can see that Kerry Group and Glanbia are at all-time highs with Ryanair just 30 cents away from its high in 2007.

What is diversification?

Traditionally, a portfolio's diversification strategy was considered to fall under two headings: 'asset class' mix and 'geographic' mix. The simple belief has been that by having your funds invested in separate, distinct asset classes such as domestic equities, international equities, government bonds, corporate bonds, commodities or hedge funds across a wide number of geographies, then you were fully diversified so that in the event of, for example, an equity market correction or a large sector decline, the impact on your portfolio should be minimised.

However, there is very little mutual exclusivity when it comes to these asset classes and geographies. In terms of asset class mix, in recent times we have seen a reclassification of certain asset classes relative to other asset classes and we have seen growing disparities within certain asset classes also.

For example, certain individual corporate bonds are not too dissimilar to high- yielding equities and may even pose a higher risk than certain equities. We have seen within the government bond space that there is an enormous disparity within this asset class e.g. core European Government bonds such as Germany (which are priced as being lower risk than cash deposits in certain economies) versus peripheral European Government bonds such as Greece. In relation to equities, for example, there is a major difference in risk between purchasing a single stock in the emerging markets and investing in a passive exchange traded fund (ETF) in a major developed economy such as the FTSE 100 ETF.

Investors shouldn't discount the impact of globalisation

Just because a company is listed on an exchange in a particular country, does not mean that that company derives their earnings from that particular country. For instance, if an investor believes that by buying shares in the US they are getting direct exposure to the US economy, then all they need to do is look at the geographical exposure of some of these large S&P 500 companies such as Apple, Exxon Mobil, Microsoft and IBM. Even in a small market like the ISEQ in Ireland, most of our largest companies such as CRH and Ryanair earn the vast majority of their revenues from outside of Ireland and all of the companies above in general are continuing to expand their geographical focus.

Thinking outside the mix

Basing a diversification strategy solely on the asset class mix and the geography mix can be misleading and is relatively futile. Investors need to look at the constituents that will populate their portfolios in a fundamentally different way.

Here are five useful measures that investors should employ to improve their portfolio's robustness.

1. Diversification in terms of inflation

A well-diversified portfolio will contain assets that will perform well in a deflationary environment, such as long-dated conventional bonds, and assets that will out-perform in an inflationary environment, such as certain commodities and inflation-linked bonds. At this point in time, because of the abundance of quantitative easing by central banks, the risks of inflation over the medium to long term are now very significant so portfolios should be weighted more towards hedging this particular risk as opposed to deflationary risk.

2. Diversification by active versus passive

Many investors believe that they should have their entire equity portfolio in passive investments through ETFs to avoid paying for active management. While it is true that passive ETFs are useful to provide low cost and transparent exposure to certain asset classes or geographies, this passive nature means that they do not react when markets sell off and the performance is completely pegged to the underlying index. Further, there are a number of active funds that have consistently outperformed their benchmark index on an annual basis so investors need to consider the opportunity cost of not having exposure to these funds. There are merits in using ETFs, but from a diversification point of view investors may be better advised to have the appropriate mix between passive ETFs and actively managed individual securities and funds.

3. Diversification by fund manager

Investors would also be well-advised to use a number of different active funds to fill that allocation as opposed to one individual fund. In the absolute return and hedge fund space, for example, the performance is often predominantly down to the skill of the individuals who are running the fund, meaning that investors will be very dependent on the performance of one particular individual's view of markets. Using a number of third party active funds will significantly reduce this risk.

4. Diversification by market timing

When an investor has a lump sum to invest, it should never be done all at once and instead should be phased into the market on a gradual basis to take advantage of opportune times to buy assets and to reduce entry risk. A well-diversified portfolio will only contain liquid assets so that it is in a position to react and benefit from economic newsflow and changes in market prices.

5. Diversification by sector and size

Investors should always be aware of the underlying sectors that their investments are allocated to and they will therefore be able to tell if they are over-reliant on any one particular sector. Shares within particular sectors are often more correlated with each other than shares within the same geography; a good example of this is the big correction in the Technology Sector in 2000 and construction and banking sectors in 2007 / 2008. Furthermore, having a healthy mix between large-cap and medium-cap companies within Equity and Corporate Bond Portfolios is also important.

Investors need to carry out a deeper analysis of their diversification strategy to ensure that they fully understand the level of risk in their portfolios and to mitigate losses in the event of future market downturns.

2012/13 INCOME TAX DEADLINES - TEN REASONS FOR FILING EARLY

By Liz Cahill

We Irish tend to leave things to the last minute but there are many advantages to filing your tax return early...

Self-assessed taxpayers are required to pay and file by 31 October 2013, or by 14 November 2013 if you use the Revenue's online service (ROS). Here are ten reasons why you should act now and not wait until October.

1. Minimise stress: unnecessary panicking leads to human errors, and omissions. The earlier you know your liability the better, as you can consider your cashflow and avoid incurring interest on loans taken out to meet it.
2. Reduced fees: many firms offer fee discounts for early filers. Tax agents may be contracted to pay employees overtime for extra work around the tax deadline and this cost is passed on to the relevant clients.
3. You can receive your tax refund now (if due). So why wait?
4. Information is to hand: your 2013 accounts information should be available. You've just received your P60 form and you have your medical receipts, so don't file them away; give them to your tax agent now.
5. File now and pay later: You still have until 31 October 2013 (or 14 November 2013 if you're using ROS), to pay your liability if you file early.
6. Reduce the risk of submitting an incomplete return and attracting a Revenue audit by not filing on time.
7. Avoid interest and penalties: Revenue reserves the right to charge interest on late or underpaid tax, and issue penalties for late submissions where liabilities arise.
8. Put your best foot forward: allow yourself time to explore opportunities to manage your tax bill (such as making pension contributions) or to seek a second opinion for your current or subsequent returns.
9. Facilitate the identification of other tax obligations: remember gift/inheritance tax returns are also due to be submitted by 31 October.
10. Optimise the service/advice and value for money from your tax agent: your tax agent is likely to be less busy now and therefore able to give you more time if you complete your return early. Once the rush of the tax return season begins and the deadline approaches, tax agents are under severe pressure to meet the deadline for all of their clients.

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.