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Co r p o r a t e F i n a n c i a l Di s t r e s s a n d Re c o v e r y :
T h e U K E v i d e n c e

Meziane Lasfer
Cass Business School, City University, London, UK
and Laxmi S. Remer

We analyse the strategies undertaken by financially-distressed companies and test the
hypothesis that the probability of corporate recovery is positively related to the
adoption of cash based strategies. We show that, companies that recover from
financial distress are focussed, diligent and adopt more cash generating or cash
conserving strategies such as business retrenchment, closures, dividend omissions
and cuts. We follow the financial performance of these companies in the post distress
period and find evidence that corroborates our findings as companies that recover are
better at tightening their cost policies and conserving cash.
Keywords: Financial distress, recovery strategies, financial performance
JEL Classification: G33, K22, G21

Corresponding address: Cass Business School, 106 Bunhill Row, London, EC1Y 8TZ, U.K. Tel.: +44
20 7040 8634; Fax: +44 20 7040 8881; email: (Lasfer),
The usual disclaimer applies
Electronic copy available at:

Co r p o r a t e F i n a n c i a l Di s t r e s s a n d Re c o v e r y :
T h e U K E v i d e n c e

1. Introduction
A number of previous studies view financial distress not only from the cost
perspective but also from its benefits. For example, Kaplan, 1989, Smith, 1990,
Baker & Wruck, 1989, Kaplan & Stein, 1990, show that financial distress often
results in wide ranging comprehensive organizational changes in governance,
management and structure which can create value by improving the use of resources
and improving efficiency. The event of financial distress forces the management to
set up comprehensive organisational changes in management, governance,
operations, and in asset, equity and liability that would not have occurred when the
firm is financially healthy, as, before companies get into a state where private
workouts or legal reorganisations become imminent, they usually undertake
measures that allow them to recover their financial health.
In an extensive study on financial distress and corporate turnaround Loui and
Smith (2007) conclude that previous studies identify the top management change as a
pre-requisite for any successful recovery. The choice of a particular strategy depends
on a number of factors such as the bargaining power of debtholders, blockholders
and managerial shareholders, and the strategies usually follow two-stage approach
incorporating operating/efficiency turnaround stage to stabilize operations and the
entrepreneurial/strategic stage to restore profitability. These two simultaneous
strategies span over both short- and medium-term as they aim at stopping the
situation getting any worst by reducing direct and overhead costs, increasing
revenues and rationalizing assets, and, at the same time, designing a longer term
strategic plan for what the company will look like in the following few years to
maintain or improve production.
The choice and design of
these strategies, together with their effectiveness in allowing companies to regain
financial health, have widely been debated in the literature.
However, there is a controversy as to which strategies are efficient and lead
companies to full recovery. For example, Pearce and Robbins (1993) suggest that
acquisitions which might be undertaken to improve production in case the firm is in
mature or declining markets might be undertaken to promote apparent growth, but
without being sustainable. They also argue that turnaround success or failure depends
more on strategy implementation than on strategy choice. Sudarsanam and Lai
(2001) report that while divestment of assets is the most popular recovery strategy

especially amongst large companies, and may be crucial to regain financial health,
particularly when the level of distress is very high, its importance in achieving
successful recovery is mixed. They also show that the recovery strategies are
relatively similar across recovered and non-recovered firms, results that could be due
to the fact that they did not distinguish between the strategies that are available to
distressed/declining firms and other firms (Ashta and Tolle, 2004). The analysis of
financial distress poses also additional problems. First, given that clear and reliable
information can be particularly difficult to obtain during the period of financial
distress, the valuation of distressed companies can be so complex and the decisions
about potential actions can be debatable. Since different reorganisation policies will
distribute wealth differently, the conflicts in decision making would be inevitable.
According to Kaback (1996) and Dalton and Daily (2001), such conflicts can even
lead to bias or inaccurate data being presented by groups pursuing their own agenda.
Finally, previous studies provide conflicting evidence because of lack of standard
definition of financial distress. For example, Wruck (1990) states that a firm is in
financial distress when it is it is unable to meet current cash obligations, referring to
insolvent on a flow basis, while Altman (1968) refers to insolvency when the firm is
The purpose of this paper is to analyze all the strategies undertaken by a
sample of distressed companies and assess the extent to which some strategies are
efficient. We do this by analysing the appropriate post distress financial
characteristics in the light of these strategies. Unlike most previous studies, we
follow DeAngelo and DeAngelo (1990) and define financially distressed companies
as those that have three consecutive years of negative net income. This definition
allows us to avoid using outcome based definitions like bankruptcy or being taken-
over because, such outcomes are a consequence or resolution/exit paths adopted by
companies that are financially-distressed. We distinguish between companies that
adopt immediate cash conserving and cash generating strategies, those that indulge in
cash depleting strategies, and those that adopt strategies that have nothing to do with
cash at all, or undertake all or varied combinations of these measures to regain
financial health.
To do this, we first select 456 financially distressed companies out of 5,500
UK companies on the basis of a profit immediately before suffering 3 consecutive
years of negative net income, following DeAngelo and DeAngelo (1990) definition.
This selection criterion allows us to focus on initially healthy companies insofar as,

in the year before their initial loss, they had a positive net income, and then carried
on having three consecutive years of losses. We then analyse 8,503 news
announcements made by our sample firms over the period from 1980 to 2004. We
split all the news announcements into 4 main categories and assess the differences in
strategies, as reflected in the types of news announced, between recovered and non-
recovered firms. We focus mainly on cash generating/conserving as opposed to cash
depleting strategies.
We find that our companies adopt many strategies in an attempt to recover
from financial distress without resorting to bankruptcy as an exit route. More
importantly, whilst the recovered and non-recovered companies undertake similar
strategies, the recovered companies are stricter, more efficient and focussed in
implementing the said strategies. Recovered companies also undertake more
financial and cash conserving strategies as opposed to the non-recovered companies,
which undertake more of asset-based and cash depleting strategies.
The rest of the paper is organised as follows: Section 1 presents the
theoretical background and the hypotheses to be tested. Section 2 discusses the data
and methodology. Section 3 discusses the empirical results. The conclusion is
presented in section 4.

1. Theoretical background
Slater and Lovett (1999) provide an extensive review of the generic
turnaround strategies companies in trouble can adopt and outline their essential
ingredients for a successful turnaround. These strategies include crisis stabilisation,
leadership, stakeholder support, strategic focus, organisational change, critical
process improvements and financial restructuring. Operationally, these strategies
emerge from, for example, cost reduction, changing management, redefining
business, investing, downsizing, and raising funds. Consistent with these arguments,
Wruck (1990) document that financial distress is often accompanied by
comprehensive organisational changes in management, governance and structure.
However, in practice, the choice of a particular strategy depends on several factors
including the bargaining power between the management, shareholders and
debtholders. For example, previous studies (e.g., J ohn, Lang and Netter (1992), Ofek
(1993) and Kang and Shivdasani (1997)) argue that leverage is critical to the success
of any restructuring strategy. Grinyer, Mayes and McKiernan (1988) find that one of
the major differences between recovering and non-recovering firms is that the former

make more management changes. They also identify financial restructuring as a
necessary component of any turnaround strategy.
Generically, the strategies adopted by companies could be grouped into short
and long term strategies. Short-term strategies are expected to stop the worsening of
the financial distress situation by reducing direct and overhead costs, increasing
revenues and rationalizing assets. The long-term strategies aim at designing a
strategic plan to signal to investors how the company will look like in the future.
Carapeto (2005) classifies operational and financial restructuring as short term
measures and asset and management restructuring as long term measures. However,
there is no clear reasoning behind this type of classification and in some cases a short
term strategy like dividend cuts (financial restructuring) can be termed as a long term
strategy, as is evidenced in the findings of Benartzi et al (1997), who find that,
dividends cuts are left as a last resort in case of financial distress. Given that
financial distress is likely to driven by the firms cash shortage, an appropriate
classification should be related to turnaround cash management. These strategies are
undertaken mostly to remedy the faltering (cash) status of the financially-distressed
1.1. Generic restructuring strategies
In this paper, we conduct our analysis on the basis of the 4 main generic
restructurings strategies and distinguish between cash generating (CG), cash
conserving (CC) and cash depleting (CD) strategies. The following sections provide
a summary of these strategies that form our fundamental hypotheses.
Operational restructuring
This is generally the first broad strategy undertaken by companies. It includes
measures to boost revenue generation, improve efficiency by reducing operating
assets, reducing investment, spending (capital, R&D) and costs (COGS), retrenching
and increasing focus, shrinkage by laying off employees. Some of these measures
typically either conserve or generate cash. Sudarsanam and Lai (2001) refer to
operating asset reduction strategies as those that involve business unit level sales,
closures, integration of surplus fixed assets such as plant, equipment, offices and
reduction in short term assets such as inventory and debtors. This last point is also
theorised by Bibeault (1982) where he suggests that that there are 4 key factors in

achieving a successful turnaround (i) a financially and competitively viable core
operation has to be identified and achieved (if necessary by slimming down
operations); (ii) employee motivation had to be maintained or increased; (iii)
sufficient financing had to be negotiated to sustain in the turnaround period and (iv)
there had to be new, energetic, competent and fully supported management in place.
Others, such as Schendel et al. (1976), and Hofer (1980) have also found similar
corroborating evidence. J ohn et al. (1992) find that the most common responses are
the contraction policies, namely, asset sales, divestitures, spin-offs, employment
reduction, debt reduction, focussing on core business and plant shutdowns. They
show that about 63% of their firms
However, Sudarsanam and Lai (2001) argue that operational strategies may
be a necessary but not sufficient condition for recovery. Zimmerman (1989) finds
that recovered companies are also diligent, disciplined and maintained their costs
low, unlike the unsuccessful companies who tried to increase revenue by focussing
on external expansion, acquisition or financial restructuring. J ohn et al (1992) find
that their recovered companies cut their research and development and advertising
expenses and reduced leverage rapidly. Robbins and Pearces (1993) argue that
successful firms undertake first the efficiency/operating turnaround strategy and then
the entrepreneurial/strategic stage (see also Bibeault (1982) and Slater (1984)).
adopt this focus strategy.
Asset restructuring:
This strategy involves selling off assets through divestments, spin-offs, and
equity carve-outs, merging with another company, and acquiring assets. It typically
generates much needed cash quickly but it is considered to be a drastic option (e.g.,
Robbins and Pearce (1993)). Sudarsanam and Lai (2001) find that, distressed
companies divest non-profit generating assets, non-core assets and even profitable
assets to raise cash to pay off debts and avoid bankruptcy, and make the management
focus on business segments where the company has a comparative advantage. Datta
and Iskandar-Datta (1995) find that financially-distressed companies divest assets
equally both before (69.6%) and after (65.9%) filing for bankruptcy. However,
though a popular measure of raising cash while in distress, asset sales may not be
optimal because financially distressed companies may not get a good price for their
assets (e.g., Gilson et al, 1990, Weiss and Wruck, 1998, Shleifer and Vishny, 1992,
DeAngelo et al, 2002, Hart (1993) and Hart and Moore (1995)), but its popularity is

likely to be driven by the positive market reaction to this announcement of this
strategy (e.g., Brown et al (1994), Lang et al (1994) and Lasfer et al (1996)).
The second strategy in this respect relates to mergers and take-overs to gain
from various types of synergies. Grinyer et al (1988), introduce the theory of sharp
benders (companies that achieve sudden dramatic improvement in performance) and
find that following decline (in relation to competitors), financially-distressed firms
achieve dramatic and sustained improvement and that they do not restrict themselves
to operational cost reduction strategies but shift to long term strategic changes
through diversification, acquisition, and new product market focus. Similarly,
Carapeto (2005) points out that, financially-distressed companies enter into asset
restructuring in the form of investments by forming strategic alliances, joint ventures
and licensing agreements. However, in most cases, they need to find funding to
undertake such strategies because they are typically cash depleting strategies.
Financial restructuring
This strategy typically includes (re) negotiating with banks and other
creditors (CG/CC), issuing new security (CG), cutting/omitting dividends (CC) and
exchanging debt for equity (CC). This type of restructuring involves debt and/or
equity restructuring and can either generate or conserve cash. Gilson (1989, 1990)
defines debt restructuring as a transaction in which existing debt is replaced by a new
contract with one or more of the following characteristics: (i) interest or principal is
reduced (CC) (ii) maturity extended (CC) (iii) debt is swapped for equity (CC). In
about half of all the cases, financially-distressed companies restructure their debt
privately (Gilson et al, 1990). Datta and Iskandar-Datta, (1995) substantiate this
finding and document that nearly 50% of companies that undertake financial
restructuring are successful in renegotiating the terms of their debt contracts. The
most common strategies include covenant modification, maturity extension, interest
rate adjustments, tender offers, and equity/cash for debt swaps. Gilson et al (1990)
conclude that financially-distressed companies with relatively higher going concern
value are likely to opt for private debt restructuring since more value is lost in
Chapter 11 reorganisations. Along the same lines, Ofek (1993) finds that in the case
of short-term financial distress, higher leverage increases the probability of debt
restructuring and the relationship between the two is positive and significant when
the debt is private. Companies that face short term financial distress are less likely to

file for bankruptcy. As such, increased pre-distress leverage gives rise to a higher
probability of operational actions like layoffs, asset and financial restructuring such
as asset sales and dividend cuts. In the UK though, according to Slater (1984), it is
more common to raise additional finance in the form of equity (CG) and new loans
(CG) as opposed to debt restructuring (CC), mostly because, as opposed to UK, in
the US, it is easier for companies to file for protection against creditors (getting an
automatic stay imposed on the creditors) and arrange for new forms of funding.
Franks and Sanzhar (2003), study equity issues by distressed UK companies and find
that, in about one third of all the distressed equity issues, banks swap debt for equity,
forgive debt or extend new loans at below market interest rates. They show that
91.3% of companies that had distressed rights issue paid back their bank debts as
compared to 64.3% of open offers.
Financial restructuring in which private lenders exchange debt for equity
involve added monitoring and reduced agency costs between shareholders and
creditors. A disadvantage of such restructuring is that creditors who receive equity
securities under a debt restructuring plan are more likely to be viewed as corporate
insiders under bankruptcy law. As a result, banks can be forced to return any
consideration received under the restructuring plan as a voidable preference if the
company enters bankruptcy within one year, (Datta and Iskandar-Datta, 1995).
Gertner and Scharfstein (1991), state that, a financially-distressed company does not
issue equity since this implies wealth transfer to public debt holders. Myers (1977)
shows that companies have serious disincentives to finance positive NPV projects if
new equity is required and if part of the value is transferred to existing debt holders.
Both these studies conclude that wealth transfers seriously limit the ability of
financially-distressed firms to raise new equity finance, given its junior seniority.
Financially-distressed companies cut or omit their dividends to conserve
cash, despite their well accepted signalling effect. DeAngelo and DeAngelo (1990)
find that, companies strongly increased dividends in years prior to distress but
tended to materially reduce dividends during the distress period. They note that no
company in the sample raised and consistently maintained its dividends in the period
of distress, dividend cuts are done in steps and occur in the early periods of distress,
and many companies reduced dividends voluntarily despite not having binding debt
covenants. J ohn et al (1992) present similar evidence and DeAngelo et al, (1992)
report that in companies with well established earnings and dividend records, an

annual loss is an essential necessary (but not sufficient) condition that needs to be
satisfied for dividend reductions. These results suggest that dividend cuts are not
solely driven by agency and/or signalling considerations. However, Benartzi et al
(1997), find that companies that cut dividends experience a very large drop in
earnings the year of cuts, suggesting that dividend cuts are left as a last resort and
perhaps are not the most favoured means of conserving cash. Ofek (1993) notes that
leverage significantly increases the probability of dividend cuts in poorly performing
companies and shows that the higher the leverage, the larger the dividend reductions.
Franks and Sanzhar (2003) document that dividend omissions occurred in 95% of the
distressed rights issue cases and 92% of the distressed open offer cases. In other
words, the proportion of companies that omitted their dividends does not depend on
the new issue method used as more than 90% in each sample omit dividends
suggesting that financially-distressed companies do not raise equity to cover their
dividend payments.
Management restructuring
This last, but not least, strategy involves changes in the management of the
company and it does not directly involve cash. Companies enter financial distress as
a result of economic distress, a decline in the companys industry and poor
management, (Wruck, 1990; Campbell and Underdown, 1991). Whitaker (1999)
finds that well managed companies that enter into financial distress as a result of
industry decline would seem less likely to benefit from corrective management
actions than would those that enter due to the effects of poor management. On the
other hand, improvement in industry economic conditions is a significant
determinant of recovery for companies in economic distress but not for those that
were historically poorly managed (see Whitaker, 1999). Wruck (1990) quotes the
example of Massey Fergusson, which exemplifies the management of a deteriorating
company in the absence of financial distress; the management may or may not even
be aware that they are mismanaging the company or that the strategies chosen are
inappropriate. It could also be that managers are reluctant to undertake actions like
layoffs, and discontinuing operations, if there are no immediate cash flows. Ofek,
(1993) argues that the larger the shareholding by managers, the lesser chance of
operational actions being taken, especially if these actions do not generate cash
inflow. In many instances, a successful turnaround means that a management team
committed to a poor strategy is changed. Datta and Iskandar-Datta (1995) find that

58.51% of the sample companies experience a change in senior level management in
the pre-filing period and in the post filing period this change is 47.41%. This latter
part of the finding is interpreted as Chapter 11 is soft on management (Bradley and
Rosenzweig, 1992). Brown et al (1994) provide evidence that when proceeds of asset
sales are used to repay debt, the management turnover is less likely, implying that the
creditors exert influence over management decision making. Gilson (1990) finds that
the managers, who depart from a financially-distressed company, do not hold a
senior management position at other listed companies during the following three
years and that senior level management change occurs in 52% of all the sampled
companies during the financial distress period, compared to 19% for healthy firms.
Similar results are documented by Zimmerman (1989) who shows that the chief
turnaround agents were much more experienced in the respective industrial fields
the companies belonged to.
In the UK, ineffective implementation of fiduciary responsibilities results in
non-executive directors regarding their role as primarily advisory rather than
disciplinary. Moreover, neither existing nor new purchasers of large share blocks
exert much disciplining and bidders impose high board turnover after takeovers but
in an unfocussed way. It is only when there is financial distress requiring equity
issues and capital restructuring that disciplining is both significant and focussed on
the management of the poorly performing companies (e.g., Frank, et al (2001)).
1.2. Hypotheses

Overall, previous studies report that cash generation and/or cash conservation
are of paramount importance in the immediate vicinity of financial distress.
According to DeAngelo et al (1992) the magnitude of the losses, not how long the
company suffers from losses, determines the type of strategies it would undertake.
However, it is difficult to assess the level of losses that would trigger a particular
type of restructuring because each companys threshold is specific and depends on its
fundamental factors, such as capital structure, market position, and macroeconomic
factors. In the US, Datta and Iskandar-Datta (1995) find that nearly 3/4
companies undertake asset restructuring (69.63%) and governance restructuring
(71.85%) before filing for bankruptcy while only one-fourth of companies undertake
labour (24.44%) and financial restructuring (28.15%) during this period. In the UK,
the results are still mixed.

The purpose of this paper is to assess the types of restructuring strategies that
allow UK firms to recover from financial distress. Franks and Sussman (2005) have
shown that in the UK, despite the concentration of liquidation rights in the hands of
usually one lender, 75% of the financially-distressed companies recover and one-half
of the companies placed in bankruptcy are actually sold as going concerns. This
implies that the majority of the financially-distressed companies survive because
they undertake immediate and successful (in most cases) strategies that allow them to
regain financial health. The question, however, remains as to what type of strategies
they undertake. We first assess whether financial as opposed to operational strategies
are more efficient mainly because the latter induce some costs. For example, layoffs
are costly and closures and integration of business units can be time and sometimes
resource consuming, leaving cost rationalisation as the only easily implementable
operational restructuring activity in the short run. Spin-offs increase the firms
market value in the short term as markets react positively on the announcement date
but they do not generate cash (e.g., Allen and McConnell (1998)). Although
divestments and equity carve-outs can generate immediate cash, they are time
consuming as they include decisions on which assets to divest, liquidity discounts on
the asset, possible layoffs and problems of finding buyers, especially if the asset is
not deployable. These practicalities would make asset sales relatively difficult to
implement in the short run. On the other hand, financial restructuring strategies, such
as dividend cuts, omissions, rights issues, scrip dividends, debt refinancing and debt
equity swaps are rather easily and quickly implementable. Franks and Sanzhar
(2003) report that these strategies are common practices in the UK. However, they
could result in further decrease in share prices. These arguments suggest that
financial restructuring is likely to be more efficient strategy. Therefore,
Companies that recover are likely to adopt more financial strategies than
operational, asset and governance strategies.
Surviving financial distress does not mean recovering from financial distress,
but simply means that the companies are able to carry on functioning year after year
despite making 3 consecutive losses or being financially distressed. Recovering from
financial distress would mean making profits once again after suffering protracted
periods of losses. To be able to do so, financially-distressed companies must, in
theory, undertake strategies that conserve cash and or generate cash or in some cases
undertake strategies that perhaps immediately deplete cash but in the long run to

allow them to regain their financial health. We also hypothesise that the recovered
companies in our sample will be more active in terms of the cash generating or cash
conserving strategies. More specifically, whilst studying different aspects of financial
distress, previous studies report that companies in distress, adopt in one way or
another, measures to generate or preserve cash (e.g., DeAngelo and DeAngelo
(1990), Shleifer and Vishny (1992), Brown et al (1994), Datta and Iskander-Datta
(1995), Lasfer et al (1996)). We therefore hypothesise as below,
Companies that recover are likely to be more efficient and adopt more cash
generating or cash conserving strategies.
2. Data and methodology
We collect accounting data for over 5500 UK companies from the Company
Analysis database, for the period from 1980 to 2004. We exclude financial and
utility companies because of their specifications and ended up with 2276 companies.
Previous studies provide different definitions for financial distress, including
accounting based measures such as losses (DeAngelo and DeAngelo,1990) or Z
Scores (Altman, 1968; Taffler; 1984), stock market performance based (Gilson,
1989), credit rating based relating to down-grading of debt (Franks and Torous,
1994) and outcome based: Bankruptcy (Wruck, 1983; Datta and Datta, 1995). In our
paper we follow DeAngelo and DeAngelo (1990),
and identify financially distressed
companies as those that make a profit immediately before suffering three consecutive
years of negative net income.
We consider financial distress as a situation where a
company makes losses, and is thus unable to meet its financial obligations, and
therefore, we refrain from identifying insolvent companies as financially-distressed
companies. A negative net income allows us to identify companies that are perhaps
solvent companies (i.e. have been able to meet their debt/financial obligations) but
are financially-distressed because they make net losses. The condition for profit
immediately before three consecutive losses is pertinent, because it allows us to
focus on initially healthy companies insofar as, in the year before their initial loss,
they had a positive net income. We call this definition as +--- where the third year
of loss is year T0, the years preceding T0 are T-1 and T-2 respectively and the year
with positive net income that immediately precedes the 3 consecutive losses is year
Figure 1: Identifying the distress and post distress period
Figure 1 provides a schematic representation of our sample selection.


However, the choice of negative earnings as a definition for financial distress
has limitations. For example, DeAngelo and DeAngelo (1991) argue that
management may reduce reported earnings during labour negotiations to strengthen
their bargaining position. However, in general, companies are more likely to increase
than decrease their earnings and to create value through earnings management (e.g.,
Miglo, 2007). Therefore, the fact that a firm reports losses is a manifestation of an
important event, and, as such, the use of a very strict definition of consecutive
negative net income is likely to serve as a suitable proxy for financial distress. Our
more restrictive definition allows us to eliminate a limitation of J ohn et al (1992)
who use only one year of negative earnings followed by 3 consecutive years of
positive net earnings. However, such a company could have had many more years of
negative earnings in the sampled period (of the total sample of 46 companies
analysed in the study, 21 companies have more periods of negative earnings between
1980-87) but only the last year of negative earning followed by positive earnings is
considered. They acknowledge that given the nature of their definition, their results
may not capture the strategies adopted by their firms.
Our definition has resulted in 456 financially distressed companies. In order
to analyse the strategies undertaken by these companies, we need at least 3 years of
post distress data. This has resulted in a final sample of 258 financially distressed
companies. We compare the strategies adopted by the non-recovered companies to
those undertaken by recovered ones defined as those that have at least 2 year of
profits in the 3 years immediately following 3 consecutive losses. This definition
gives a balanced sample of 123 recovered companies and 135 non-recovered
companies. We collect a total of 8,503 news announcements from the Perfect
Analysis database (previously known as Hydra), 4,059 of which are made by the
recovered companies and the remaining 4,444 by the 135 non-recovered firms. We
then classify them into the 4 generic strategies, namely, operational, financial, asset
and management restructuring and then into cash conserving, cash generating, cash
depleting and non-cash strategies. Table 1 reports this two way classification.
[Insert Table 1 here]
T-3 T-2 T-1 T0 T+1 T+2 T+3
Year of
Profi t
Di stress Peri od: 3 Consecuti ve
Years of Negati ve Net Income
Post Di stress Peri od

We include layoff in CC strategy group in the medium-term although in the
immediate short term, layoff is associated with cash outflows as it involves
compensation payouts in majority of the cases. Similarly, closures can be argued to
be CD as well since they involve layoffs but since closures are also closely
associated with immediate asset sales, we include them in the CG strategies.
Management restructuring cannot be classified as any of the cash activities.
We then analyse the intensity of the restructuring strategies by computing the
frequency of each strategy by computing the cumulative number of occurrences. For
instance, if a company announces cost cuts and layoffs then operation restructuring
for this company in this year is 2. By getting a cumulative number of each of the sub-
headings of each of the four main restructuring activities, we are able to weigh the
respective strategies and this allows us to determine the intensity of restructuring
activities undertaken.
Finally, we compare these frequencies across the recovered and non-
recovered firms and then run a set of logit regressions to stratify between the two
samples. The dependent variable is dichotomous and is 1 for recovered companies
and 0 for non-recovered companies. The independent variables are the restructuring
variables. All the restructuring variables are therefore dichotomous variables taking
the value of 0 or 1 depending on whether or not a particular strategy has been
adopted by the company. The following regression model is tested:
i m i j
it it it it
it it it it
it it it it
it it it it
Year Industry Costs Efficiency Management
placements Outsider placements Insider pts OutsiderAp ts InsiderApp
essChange Bu MBOs Disposal n Acquisitio
RaiseDebt e RightsIssu missions DividendOm ts DividendCu
ess nofBu Integratio Layoffs alisation CostRation ered Non

+ + +
+ + + +
+ + + +
+ + + +
+ + + + =
17 16
15 14 13 12
11 10 9 8
7 6 5 4
3 2 1
Re Re
sin cov Re ) (

In the case of Operational restructuring, we exclude Closures from the
regression because it is highly correlated (79%) with layoffs. We control for size,
industry and years by using the requisite dummy variables. The level of Total Assets
in T-3 (the year before the losses set in) is used to construct the size dummy. We find
that 88 firms (34%) are from the cyclical services, which include General retailers,
Leisure and hotel, Media and entertainment, Support services, and Transport. In
contrast, in the resources sector, there are only 12 firms (5%). The remaining sectors
are evenly represented. We also control for Management Efficiency and Costs using
Sales/Total Assets and Cost of Goods Sold/ Sales.

3. Empirical Results
3.1. Univariate analysis
Table 2 presents an overview of the news releases for both the recovered and
non-recovered companies. In both cases, the number of news released during the
distress period is much higher as compared to those released in the post distress
period. It is interesting to see that, the recovered companies have more operational,
financial and asset restructuring news announcements whilst the non-recovered
companies have higher proportion of management announcements. Panel C indicates
that apart from financial restructuring news, on the whole, each of the 3 restructuring
news is significantly different from each other for the recovered and non-recovered
companies at 1% and proportion of financial restructuring news releases are
significantly different at 5%. The results indicate that the recovered companies have
higher number of operational and asset restructuring news but lower financial, board
and other restructuring news compared to the non-recovered companies.
[Insert Table 2 here]
Table 3 presents a summary of the different strategies undertaken by both sets
of firms during the distress period. Panel A. indicates that while the operating
restructuring strategies are relatively the same across the two samples, recovered
companies have undertaken significantly more financial restructuring than non-
recovered firms. In contrast, in terms of asset and board restructuring, non-recovered
firms are more active. Similar results appear when cash strategies are analysed in
Panel B. The results show that while cash generating strategies are relatively
homogeneous across the two groups, recovered firms have significantly higher cash
conserving strategies but lower cash depleting strategies. Overall, recovered firms
have significantly more cash generating and cash conserving strategies (86% vs. 68%
for non-recovered firms). However, this superiority is related more to cash
conserving than to cash generating strategies. Finally, Panel C. reveals that recovered
companies are on average larger, generate lower losses, and have higher leverage
than non-recovered firms. These results indicate that the recovery is likely to be
driven by the differences in these fundamental factors, although when we looked at
the means (not reported for space considerations), we find that only return on assets
is statistically significant (-0.18 vs. -0.28, p =0.08) while the two samples are similar
in their total assets (142m vs. 123m, p =0.652) and leverage (0.34 for both sets of

firms, p =0.90). The differences in mean and median efficiency as measured by costs
of goods sold over sales are not significant, suggesting that the two sets of firms have
the same operating performance, thus probably similar business risk.
[Insert Table 3 here]
3.2. Regression analysis
In order to study whether or not a particular strategy has a significant effect
on whether a company recovers or not, we run logit regressions with a binary
dependent variable which is 1 for recovered companies and 0 for non-recovered
companies. We employ the restructuring variables summarised over the distress
period, after controlling for size, efficiency, industry differences. We also include
year dummies. We first present Table 4 presents the correlations between the
variables. As expected the results indicate strong correlations between the strategies
indicating that companies do not take only one strategy at a time but a combination
of them. For example, the correlation between layoffs and cost rationalisation is 0.4
suggesting that these two strategies are taken together. However, some other
strategies appear to be unrelated. For example, dividend cuts are not strongly
associated with costs rationalisation, layoffs, MBO/spin-offs, and insider
appointment/replacement. In the regression results, we control for the resulting
[Insert Table 4 here]
Table 5 reports the logit regression results where the dependent variable is
equal to 1 if the company recovers and zero otherwise. Amongst the operational
restructuring variables, only Layoff is significant (at 1%) and has negative
coefficient. This implies that higher the layoffs more likely the company will not
recover. It can be argued that in the immediate near term layoffs are expensive given
that the usual immediate associated action along with layoff is compensation to the
laid off personnel. The regression results show that lesser the layoffs higher the
chances of recovery implying that in this case layoffs are indeed cash depleting
strategies in the near term. However, intuitively layoffs still remain cash conserving
strategies as opposed to cash depleting strategies. Cost cuts and integration of
business units are not significant. It has been seen that, the recovered companies do
undertake operational measures but this is much less as compared to the non-

recovered companies. In the past, corporate performance decline has been generally
attributed to managerial inertia, delayed timing and lack of focus and proper
implementation (Schendel et al, 1976; Hofer, 1980; Hambrick and Schecter, 1983;
Weitzel and J onsson, 1989; Barker and Mone, 1994). Sudarsanam and Lai (2001)
note that operational restructuring (we use the same 4 categories that they use to
identify operational restructuring) is designed to primarily to generate cash flow in
the short term and that it is of fire fighting nature and differs from restructuring
aimed at longer term performance of the company. They conclude that, operating
restructuring may be a necessary but not sufficient condition to recover.
When we regress only the operational restructuring variables as independent
variables to see just how these on their own affect the recovery or non-recovery of a
company, we find that cost rationalisation is negative and significant at 10% whilst
layoffs is highly significant and is negative too. Integration of business in the distress
period is highly significant and is positive. This implies that, on its own, integrating
business in the distress furthers recovery to some extent. This also implies that,
whilst layoffs is strongly significant in explaining recovery/ non-recovery, to borrow
the term used by Sudarsanam and Lai (2001), cost rationalisation is only strongly
suggestive in this case.
All the financial restructuring variables are significant. Dividend cuts and
Omissions and Raising Debt in the distress period are all positive and significant at
1%, whilst Rights issue is negative and significant at 5%. This implies that, the
increased undertaking of dividend cuts, omission and raising debt in the distress
period increases the chances of recovery whilst increased equity issues in the distress
period reduces the chances of recovery. It has been seen before that, dividend cuts
and omissions along with rights issues are the most popularly reported strategies
undertaken by our sample of companies. Sudarsanam and Lai (2001) suggest that
non-recovered companies may be forced to cut or omit dividends or restructure debt
more intensively in the years following distress (in their case distress is based on z-
score) because of their failure to recover in the initial years of distress. They
therefore, comment that dividend cuts or debt restructuring may merely contribute to
survival and that they may be necessary but not sufficient conditions to recover.
In this case, it can be seen that the proportion of such strategies being
implemented in case of the non-recovered companies is less compared to the

recovered companies from the outset, i.e. recovered companies are more aggressive
in implementing dividend cuts or omissions and raising debts in the distress period.
Non-recovered companies distinctly implement the said restructuring activities much
later in the distress, post distress period. This former finding is in line with that of
Sudarsanam and Lai (2001). They find that a higher proportion of the recovered
companies undertake dividend cuts/omissions in the two years following a year of
negative z-score. The sample of companies identified as financially-distressed by the
aforementioned study, suffers from more severe form of financial distress and in this
case we have discovered that our companies suffer from protracted performance
decline which is serious, but, perhaps not so severe as evidenced by the fact that
these companies carry on surviving (of course, we have only included companies
with 3 years post distress information in this sample creating survival bias in the first
place, but nevertheless, these companies exhibit distress, undertake measures to
rectify them and carry on living).
Whilst agreeing in principle with Sudarsanam and Lai (2001) that dividend
cuts and omissions are merely contributory survival measures, one would argue that
these are very important immediate steps a faltering company needs to undertake in
order to improve its chances of recovery along with other cash generating and
conserving methods. One also sees that, the coefficient signs for the cash conserving
variables, namely, dividend cuts and omissions are positive. On the other hand, the
two cash generating strategies (from financial restructuring) namely rights issue and
raising debts have negative and positive signs respectively.
It has been also seen earlier that, recovered and non-recovered do not differ
so much in terms of cash generation but do differ in terms of cash conservation.
Moreover, the results suggest is that, raising more cash in form of debt in the distress
period increases the chances of recovery whilst raising cash in the form of equity
issue does not. Given that our sample of companies do not have huge debts to begin
with, raising debt would seem like an immediate option and the negative sign of
rights issue and the positive sign of raising debt also validate the Pecking Order
theory. When we introduce just the financial restructuring variables in the logit
regression to explain recovery/non-recovery, the significant variables are dividend
cuts, omissions and raising all positive and highly significant. Rights issue and debt
refinance are not significant in this case.

MBOs/Spin-offs and Change of business are not significant asset
restructuring activities. Acquisitions are significant (at 5%) and have negative
coefficient whilst Disposals are highly significant (at 1%) and bear a positive sign.
This implies that, lesser acquisitions in the distress period have a greater chance of
recovery. In other words, organic growth in the distress period and not growth by
acquisition increases the chances of recovery. Disposal of non-core businesses and
assets (retrenching) is positive implying higher the retrenching, higher the chances of
recovery. Acquisitions, a cash depleting measure has a negative coefficient.
Therefore, higher levels of acquisition in the distress period increase the chances of
non-recovery in our sample. Slatter (1984, pg. 96) states that companies with poor
financial performance but not yet in severe distress often undertake acquisitions to
accelerate growth. But these need to be selected and managed carefully to achieve
and sustain successful turnaround according to Grinyer et al (1988, pg. 98). When
only asset restructuring variables are regressed as independent variables to explain
recovery/ non-recovery, we find that acquisition is negative and highly significant,
Disposals are positive and highly significant whilst Change in Business is negative
and significant at 5%.
In case of management restructuring the significant strategies are Insider
Appointment (negative and significant at 1%), Insider replacement negative and
significant at 5% and Outsider replacement positive and significant at 5%. This
implies that increased fresh perspectives and new ideas coming from outsiders
translate into recovery. According to Nystrom & Starbuck (1984) and Slatter and
Lovett (1999), in companies facing performance decline, the turnaround process is
usually set in motion with the removal of top managers. Barker et al, (2001) study
organisational causes and the strategic consequences of the extent of top
management team replacement in the turnaround context, and suggest that,
replacements, especially outsider replacements are likely to have new outlook and
fresher perspectives given their differing knowledge and experience. When
recovery/non-recovery is regressed on by only board change variables, we find that
only insider appointments are significant (at 1%) and bear the negative sign. None of
the other board change variables are significant. This implies that insider
appointments do affect recovery negatively and fresh blood is required to ensure
recovery. In summary therefore, we find that the recovery is explained by cash
generating or cash conserving strategies as opposed to cash depleting strategies.

[Insert Table 5 here]

Monetary impact of strategies undertaken
In this section, we discuss the observable changes in the recovered and non-
recovered companies, in line with the J ohn et al (1992) paper. We focus on the core
changes that the recovered and non-recovered sets of companies go through in
monetary terms given their financial situations. The companies in our sample, it has
been seen before, carry on undertaking different restructuring measures in the post
distress period too with the recovered companies focussing more on asset
restructuring and the non-recovered being rather unfocussed. According to Martin
Arnold, Private Equity Correspondent at the FT, Speed is critical in turnaround
situations, as negotiations with banks, customers, suppliers, the taxman and others
can be distracting for the management and damaging for the business. Similar theory
is also advocated by Weiss and Wruck (1998). The most relevant period to observe
any change in the financial variables of the sample companies therefore would be the
period from year T0 to T+1. Whilst we discuss this immediate post distress period in
the following sections, we discuss the other periods too and provide an overall
change from T0 to T+3 in the each case. However, once again the only period of
interest in this case is the immediate post distress period for this part of the analysis.
Table 6 presents the results. In line with the J ohn et al (1992) study, we
measure changes in the size of a company in terms of percentage change in total
assets, sales and employment. Therefore, year T+1 change reflects the change from
T0 to T+1 and so on. The results show that there is no significant change for the
recovered companies from year 0 to 1. Along the lines of the said paper, we find
that, total assets increase significantly from year 1 to 2 (6%) and from year 2 to 3
(6%) for the recovered set of companies. In case of non-recovered companies, there
is a significant decline in TA from year 0 to year 1 (-7%) and there is no significant
change in total assets from year 1 to 2, but there is a significant decline from year 2
to year 3 (-9%). Increase in TA in this case, can be considered as an asset
restructuring measure, given that it has been seen from the news releases, majority of
the companies are increasing focus and retrenching, asset growth can be considered
as vertical integration. This also implies that, while in the distress period, the
recovered companies are more inclined to cash generating and cash conserving

measures in the post distress period they are focussed more on expansionary
Similarly, the recovered company sales growth is not statistically significant
in the period from year 0 to 1 (though the figure is an improvement over the previous
years change), but show a significant increase from year 1 to 2 (13%) with a slight
fall from year 2 to 3 though remaining positive at 10%. However, in case of non-
recovered companies, sales fall in year 0 to 1 (not significant) and there is no change
in sales from year 1 to 2, but there is a significant rise in sales from year 2 to 3 (5%).
J ohn et al (1992) study 46 large companies and find that their sample of companies
that face performance decline show a median increase in assets (3.6% from year 0 to
3) and sales (8.54% - from year 0 to 3).
The sample used by J ohn et al (1992) is by definition a recovered sample
since they use companies which have a years negative income followed by at least 3
years of positive earnings. The corresponding findings are Total Assets increase by
16% and Sales increase by 21% from year 0 to 3 (significant at 1%). These are
higher numbers as compared to those found by J ohn et al (1992), but mostly because
the samples and sample periods differ, as also the fact that the figures are not
adjusted for inflation. However, in line with the said paper, despite facing
performance decline, recovered companies do not reduce their scale of operations as
opposed to the non-recovered companies.
Employment for the recovered companies falls significantly from year 0 to 1
and then increases significantly from year 1 to 2 and remains the same from year 2 to
3 as opposed to the non-recovered companies which have no change in employment
at all. Thus it can be seen that employment reduction (in line with the findings of
J ohn et al (1992) is done rapidly after the period of negative earnings in case of
recovered companies. Bhagat et al (1990) found employment cuts of 5.7% in the
aftermath of successful hostile takeovers and we find that in the immediate post
distress period, the employment cut in our case was slightly higher at 8%.

Panel B of Table 6 reports the results for changes in investments and
financing characteristics. In addition to the cost of goods sold and labour costs
used in the J ohn et al study (1992), we use changes in selling, general and
administrative expenses, staff and wages (labour) costs to proxy for changes in
costs. Year 0 to 1 shows significant fall in the cost of good sold (-4%), selling,
general and administrative costs (-9%), staff costs (-6%) and labour costs (-6%)
for the recovered companies. In contrast, the year 0 to 1 for the non-recovered
companies shows no significant change in any of the cost measures. Rapid cost
cuts are thus introduced by recovered set of companies as opposed to the non-
recovered companies. In the period from year 1 to 2, recovered companies show
an increase in the SGA costs which is significant and non-recovered companies
show significant rise both in the SGA and labour costs (at 10% level). From year
2 to 3 non-recovered companies show a fall in labour costs. Overall, it seems
like the non-recovered companies do not incorporate rapid costs cuts as
compared to their recovered counterparts.
J ohn et al (1992) report that in the short run the recovered companies
reduced their costs and from year 0 to year 3 median COGS/Sales fell by 1.63%
and median labour costs/Sales fell by 4.24% our commensurate figures are -5%
and -10% respectively. Again in line with their paper, we find that the
companies that recovered cut costs rapidly and immediately. Overall, from year
T0 to year T+3 it is seen that the recovered companies show significant and
quick costs cuts in all the cost categories whilst in case of the non-recovered
companies none of the median cost changes are statistically different from zero.
In case of the non-recovered companies, the sales do not show
improvement, irrespective of the costs cuts and reduced labour forces. In this
case, reducing costs without increased revenues translates into inefficiency. In
the immediate post distress period, recovered companies show increased sales
(not significant) and non-recovered companies show falling sales (not
significant) and on the whole whilst both the recovered and non-recovered
companies show increased sales and falling employment, the higher proportion
of these in case of the recovered companies point towards higher degree of
In case of investments characteristics, we digress from the J ohn et al (1992)
study. They use investments in R&D and Advertising as proxies for investments.

Whilst these are not entirely incorrect, R&D expenses predominantly figure in
pharmaceutical and related industry and advertising though omnipresent is much
more prevalent in the service industry. Given the different industries included in our
sample, we therefore use capital expenditure to proxy for investments. We present
both scaled and un-scaled measures for robustness checks. Capital expenditure rises
from year 0 to 1 and rises even further in year 1 to 2 in case of the recovered
companies. In case of non-recovered companies, the capital expenditure falls from
year 0 to 1 (though not significant) and then rises in year 1 to 2. At 15% it is however
half as compared to the capital expenditure made by the recovered companies at
30%. In the period from year 2 to 3, there is a slight fall in case of capital
expenditure in case of the recovered companies which is still significant and positive.
In the commensurate case of the non-recovered companies, we find that the capital
expenditure falls and is not significant.
Capital expenditure scaled by Total assets for the recovered companies show
significant increase in the period from 0 to 1 and from 1 to 2 with a slight fall in year
2 to 3 though remaining positive. This is in contrast to the non-recovered companies
which have a fall in year 0 to 1 (not statistically significant) followed by a rise once
again not statistically significant and then in the period from year 2 to 3 they have
show a fall which is significant at 10%. Capital expenditure, according Schendel et
al (1976) and Hambrick and Schecter (1983) is usually designed to achieve
efficiency/productivity improvement, for instance building/acquiring new plants
and/or equipment. Sudarsanam and Lai (2001) point out that since such expenditure
involves cash outflow, firms in decline can only undertake it so long as it ensures and
promotes their recovery. They also state that such expenditure complements rather
than conflicts with efficiency driven operational restructuring. We find that, in the
immediate post distress period the recovered companies show a significant increase
in capital expenditure whilst the non-recovered companies show a fall (though not
significant). In fact, in the overall post distress period the non-recovered companies
show only a very small increase in capital expenditure as opposed to the recovered,
who seem to undertake such expenditure at full throttle.
Andrade and Kaplan (1998) report that the highly leveraged companies in
their sample that do not suffer adverse economic shock show an increased capital
expenditure /sales ratio of 9.4% in the post resolution period (first year after distress
resolution) as compared to the -13.4% in the pre resolution period. Overall, from T0

to T+3, the capital expenditure investments by the recovered companies at 57% are
much higher than those made by the non-recovered companies at 5%. When scaled
by TA, the capital expenditure for recovered companies is a 33% increase
(significant at 1%) overall from year T0 to T+3 and -10% (not significant) fall for
non-recovered companies.
Working capital for both the recovered and non-recovered companies falls in
the period from year 0 to 1 with non-recovered companies falling much more as
compared to recovered companies. The fall implies an increase of trade creditors,
accruals, other creditors, cash in advance etc. or a fall in raw material stocks, work in
progress, finished goods stocks, trade debtors, other debtors, prepayments etc. In the
year from 1 to 2, recovered companies show increase in working capital as opposed
to non-recovered companies. Finally, from year 2 to 3 we see that, working capital
for both the sets drops significantly, once again with non-recovered companies
falling much more at -36% as compared to the recovered at -11%. This implies that
the recovered companies build up their stocks, renegotiate with suppliers etc. much
more rapidly as compared to the non-recovered companies. Non-recovered
companies seem to be unable to build up stocks and show heavy depletion and/or
seem to be unable to re-negotiate terms with suppliers. This is intuitive in many
ways, since suppliers would be unwilling to extend credit terms to a company facing
decline. Perhaps, the fact that the non-recovered companies do not spend much on
capital expenditure as opposed to the recovered companies, also affects the
Asset liquidity allows managers to counter the problem of immediate cash
flow by allowing them extra room for raising additional liquidity to meet short term
obligations. Managers of companies with highly liquid asset structures would
therefore be more inclined to liquidate their working capital (liquid assets) thereby
postponing the inevitable decline. Managers also indulge in systematic asset
stripping as documented by Weiss and Wruck (1998) which once again proves to be
a very expensive endeavour for the creditors. This is apparent from the earlier
finding that the non-recovered companies show significant falls in their total assets.
On the whole, from T0 to T+3, the working capital fall at -59% (significant at 1%) is
much greater for the non-recovered companies as opposed to the recovered
companies at -28% (significant at 10%). Altman (2000) describes Working
Capital/Total Assets as the net liquid assets of a company relative to the total

capitalisation. This ratio forms the first variable in the z-score model and a negative
sign indicates liquidity problems. The high cash piles in case of the non-recovered
companies and yet a very low Working Capital /Total Assets ratio implies depleting
inventory, falling receivables etc. which once again points towards longer and
perhaps unhealthy credit terms or could mean that the non-recovered companies are
squeezing out whatever they can to free cash.
In terms of changes in financial policies, in line with the J ohn et al (1992)
study, we report the percentage change in the Debt to total asset ratio along with
percentage change in actual dividends paid. Along with these we also report on
changes in Cash scaled by TA. In line with J ohn et al (1992), we find that, the
recovered companies cut their debt levels rapidly and immediately. Dividends show
a significant fall in case of the recovered companies from year 0 to 1. From year 1 to
2 there is a significant rise in dividends and this falls but remains positive from year
2 to 3. In case of the non-recovered companies, the fall in dividends (-62%) is much
higher than those of the recovered companies (-21%) in year 0 to 1. In year 1 to 2,
the dividends carry on falling but not as much in the pervious time period. So, some
non-recovered also resume their dividend payments. In the final period, however the
dividends once again fall considerably. On the whole, the recovered companies show
a significant rise in dividends from year T0 to T+3 as opposed the non-recovered
companies which show a significant fall of almost 100%.
Cash scaled by total assets rises significantly for the recovered companies in
year 0 to 1 and from year 1 to 2. In case of non-recovered companies, cash rises
considerably and significantly in year 0 to 1 and then fall significantly in the period
from year 1 to 2. This could be due to initial sales of business and surplus assets
(manifest from falling total assets) followed by increased acquisitions. It falls even
further in the period from year 2 to 3 in case of the non-recovered companies. Cash
for the recovered companies also falls during this final period, but is not significant.
On the whole, both recovered and non-recovered companies show significant
increase in cash but in case of the non-recovered companies the increase is a 32% as
opposed to the 1% increase in case of the recovered companies.
Interestingly, the ratio of debt to total assets decreases by 18% in case of
recovered companies in the period from year 0 to 1. Non-recovered companies show
a fall too but this is not significant. In all other following periods, there is no

significant change in debt in either set of companies. The same pattern is followed
when we look at percentage change in debt itself (not scaled by total assets).
Recovered companies therefore cut their debts rapidly as opposed their non-
recovered counterparts. On the whole, it is again interesting to see that the recovered
companies show a significant fall of 30% as compared to a negligible and
insignificant fall in case of the non-recovered companies. Immediate reduction in
dividends and increase in cash is manifest in both the sets of companies. Given that
the non-recovered companies carry on making losses in the post distress period, most
of them do not pay dividends which explains the fall in dividends. The increased
cash levels in case of non-recovered companies combined with falling total assets,
low capital expenditure and greater fall in working cap implies that the companies
are undertaking assets sales and generating cash.
However, the use of the cash pile is questionable since the levels of debts do
not fall nor does the level of dividends paid out increases. This implies that the cash
is retained within the company to help undertake new recovery measures. It therefore
needs to be acknowledged that it is not simply cash generation that will aid recovery
but it is also the use of such cash. However this does not diminish the importance of
generating cash. Moreover, as seen in Table 3 above, both the recovered and non-
recovered companies adopt similar proportions of cash generating strategies. This
finding combined with the large cash piles of non-recovered companies mostly
points towards retention of cash in the non- recovered company. It is also seen that
cash generating and conserving variables in the distress period are associated with
recovery. When all these findings are out together, one can see that the combination
of cash generating and conserving strategies during the distress period guide a
company towards recovery.
[Insert Table 6 here]
In sum, our results indicate that, in line with our expectations, the recovered
companies are more active in cash generating and cash conserving restructuring as
opposed to any other restructurings in the distress period. Also, more number of
recovered companies is active in financial restructuring (7 out of 8 possible financial
restructuring activities are related to either generating or conserving cash) in the
distress period as compared to the non-recovered companies. The intensity of the
restructuring in the distressed period also points towards financial restructuring in

case of the recovered companies. In case of the non-recovered sub sample, we see
that, the focus is more on operational and not financial. In the post distress period
too, the non-recovered companies show a distinct lack of focus in implementation of
the strategies. Moreover, the regression results of show that 4 out of the 8 financial
restructuring variables (each of which is either cash generating or cash conserving)
are significant in explaining recovery as compared to 2 (one cash generating and one
cash depleting) of the 7 asset, 1 (cash conserving) of the 3 operational and 3 of the 4
board restructuring variables included in the model.
Given that the companies undertake cash generating and cash conserving
strategies, we also examine the effects of such strategies on the post distress financial
variables in line with the J ohn et al (1992) study. Our findings confirm their findings,
in that, the recovered companies implement immediate and rapid cost cuts, conserve
and raise cash in conjunction with increased capital expenditure whilst increasing
their sales and assets in the short run. Summarising the above findings, we find
support for our hypothesis that after controlling for size, industry, time, cost and
efficiency factors, companies that recover are likely to adopt more financial
strategies than the companies that did not; and that these strategies are more likely to
be cash generating or cash conserving strategies.
5. Conclusions
In line with Sudarsanam and Lai (2001), we find that, our sample of
recovered and non-recovered companies adopts similar strategies on the onset of
losses but non-recovered companies are more sluggish in implementation in the
beginning. They also differ from the recovered companies, in that they undertake
operational restructuring more aggressively as opposed to financial restructuring as
in seen in the case of recovered companies. In other words, we find that companies
that recover tend to undertake higher proportion of financial strategies as opposed to
non-recovered companies providing corroborating evidence for our first
hypothesis. We also see that, in the immediate post distress period, recovered
companies show significant cost cuts and non-recovered companies do not. This
implies that the recovered companies are more effective when it comes to
We also find that, whilst both sets of companies undertake similar
proportions of cash generating strategies companies that recover undertake a higher

proportion of cash conserving strategies; this implies that recovered companies are
more efficient and tighter in their monetary policies while the non-recovered
companies burn cash more easily. Therefore, we find corroborating evidence for our
second hypothesis which states that companies that recover are more likely to
undertake cash generating or cash conserving strategies. In line with Zimmerman
(1989), we find that the recovered companies were also successful because they
maintained their low costs, unlike the unsuccessful companies who tried to increase
revenue by selling into new markets or acquiring other companies. The recovered
sub-sample seems to be more diligent and disciplined in the implementation of cost
reduction programs. In other words, to quote Zimmerman, we find that our
recovered companies tended to have a flair for handling money conservatively, and
they also spend less on selling, general and administrative and other expenses.
It is seen, from all of the above that, recovery of a company is not a function
of one particular strategy but is a combination of varying degrees of all of the 4 main
restructuring activities. The recovered companies cut costs, generate and conserve
cash, bring in outside management people on its board, increase capital expenditure
whilst, non-recovered companies do the same but have far lower degrees of stringent
implementation in each of these activities. Moreover, given that the non-recovered
companies stay in the red in the post distress period, they are more unfocussed in the
post distress period giving importance to different strategies in each of the three
years. In the post distress period, the recovered companies consistently prioritise
operational efficiencies and forward looking expansionary measures while the non-
recovered companies are still trying out different means to recover. The lack of
focus, the varying intensity in implementation, the inability to decrease cash burn (as
compared to the recovered companies) costs the non-recovered companies dearly. In
the post distress period, we find that the non-recovered companies also prioritise
asset restructuring (forward looking and expansionary measures), but, once again it is
ridden with lack of focus. Whilst causality cannot be argued, one does see that
despite adopting similar measures the non-recovered carry on being non-recovered. It
would be interesting to study how companies in a specific industry or a specific
period react to similar type of distress and whether changing the definition of distress
itself, could indicate differences in the results.

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Table 1: Categorising the 4 generic strategies into CG, CC, CD and NC strategies
This table presents the generic strategies classified into cash generating, conserving, depleting and non-cash
strategies. For instance, in case of operational restructuring, cost rationalisation is classified as a CC activity since
costs cuts involve spending less. CG- Cash generating, CC Cash conserving, CD Cash Depleting and NC
Non-cash strategies, MBO Management Buyouts
Cash Generating
Cash Conserving
Cash Depleting
Non-cash (NC)
Integration of
Business Units

Raising Debt
Debt Refinancing
Rights Issue
Debt Equity Swap
Dividend Cuts
Scrip Dividends
Share Repurchase
Disposal of Non
Core Business
Disposal of
Surplus Assets
MBOs, Equity
Carve outs
Sale and Lease

Divest into non
core business
Change of



Table 2: Period wise distribution of restructuring news releases
This table presents an overview of the news releases for both the recovered and non-recovered companies. This
table presents the number of news releases in each of the periods for the 258 companies. The total number of
news releases is 8503, comprising of 4059 news releases made by 123 recovered companies and 4444 news
releases made by 135 non-recovered companies. The figures in the brackets are percentages (in each period).
Therefore, in T-2, of all the 4 restructuring announcements made by the recovered companies, Operational
restructuring forms 5% and so on. T-2 is the first year of loss, T-1 is the 2 consecutive year of loss, T0 is the third
consecutive year of loss, T+1 is the first year after three consecutive losses and so on. Panel present the news
releases for recovered companies, Panel B for Non-recovered companies and Panel C gives the z statistic. ***, **
and * are significant at 1%, 5% and 10% respectively.
Panel A - 123 Recovered Companies
Recovered Companies T-2 T-1 T0 T+1 T+2 T+3
Operational Restructuring 41 (5%) 30 (3%) 23 (3%) 30 (4%) 42 (10%) 28 (7%)
Financial Restructuring 248 (30%) 285 (32%) 242 (30%) 220 (31%) 196 (45%) 145 (36%)
Asset Restructuring 28 (3%) 33 (4%) 65 (8%) 64 (9%) 42 (10%) 52 (13%)
Board Restructuring 56 (7%) 45 (5%) 35 (4%) 19 (3%) 27 (6%) 21 (5%)
Others 451 (55%) 486 (55%) 441 (55%) 378 (53%) 128 (29%) 158 (39%)
Periodic Total 824 879 806 711 435 404
Panel B - 134 Non-recovered Companies
T-2 T-1 T0 T+1 T+2 T+3
Operational Restructuring 49 (4%) 15 (2%) 16 (2%) 7 (1%) 10 (2%) 6 (2%)
Financial Restructuring 289 (25%) 251 (27%) 274 (28%) 239 (38%) 193 (37%) 112 (42%)
Asset Restructuring 63 (6%) 33 (4%) 52 (5%) 23 (4%) 14 (3%) 5 (2%)
Board Restructuring 80 (7%) 78 (8%) 68 (7%) 38 (6%) 33 (6%) 11 (4%)
Others 657 (58%) 541 (59%) 568 (58%) 315 (51%) 272 (52%) 132 (50%)
Periodic Total 1138 918 978 622 522 266
Panel C - Proportion test
Restructuring Total
Recovered Non-recovered z stat
Operational Restructuring 194 103 6.18***
Financial Restructuring 1336 1358 2.33**
Asset Restructuring 284 190 5.46***
Board Restructuring 203 308 -3.74***
Others 2042 2485 -5.18***


Table 3: Differences in proportion of the strategies undertaken by the financially distressed
companies during the distress period
Panel A presents the proportion statistics for the generic restructuring strategies whilst Panel B presents the cash
based strategies. The figures in the brackets are the number of recovered and non-recovered companies
respectively. ***, ** and * are significant at 1%, 5% and 10% respectively.
Distress Period Recovered (123) Non-Recovered (135) z-stat
Panel A: Differences in types of strategies
Operational Restructuring 11% 15% -1.215
Financial Restructuring 68%*** 47% 4.875
Asset Restructuring 13%*** 23% -2.918
Board Restructuring 8%*** 15% -2.703
Panel B: Differences in cash strategies
Cash Generating Strategies 37% 36% 0.214
Cash Conserving Strategies 49%*** 32% 4.13
Cash Depleting Strategies 5%*** 15% -3.76
Total Cash Generating and Cash
86%*** 68% 4.96
Panel C. Median Differences in fundamentals (last column Mann Whitney p-value)
Total Assets m 23*** 10 0.00
Return on Assets -0.04*** -0.10 0.00
Leverage 0.30** 0.27 0.05
Cost of Goods Sold/ Sales 0.77 0.74 0.16

Table 4: Correlation matrix of strategies
This matrix shows thepair wisecorrelation between thestrategy variables. Thedependent variableis recovered =1 and non-recovered =0; Ratl. is rationalisation, Intgr. is integration, Appts. is appointments and
Repl. is replacements.
Intgr. of
Acquisition Disposal
MBO Spin-
Layoffs 0.4 1
Integration of
0.23 0.2 1
Dividend Cuts 0.08 0.07 0.15 1
0.22 0.17 0.13 0.22 1
Rights Issue 0.04 -0.05 0.08 -0.12 0.03 1
RaiseDebt 0.24 0.16 0.12 -0.05 0.08 0.07 1
Acquisition 0.1 0.14 -0.05 -0.12 -0.07 0.12 0.15 1
Disposal 0.4 0.32 0.16 0.05 0.13 0.04 -0.01 0.39 1
MBO Spin-offs 0.16 0.14 -0.02 0.02 0.06 0.05 0.19 0.08 0.17 1
Business Change 0.2 0.29 -0.03 0.07 0.01 -0.05 -0.03 0.17 0.42 0.2 1
0.24 0.1 0.08 -0.02 0.08 0 -0.04 0.19 0.25 0.13 0.17 1
0.24 0.37 0.17 -0.05 0.07 -0.01 0.04 0.25 0.34 -0.03 0.05 0.28 1
0.38 0.26 0.08 0.02 0.12 0.07 0.15 -0.03 0.2 0.13 0.17 0.09 0.14 1
0.19 0.08 0.06 -0.02 0.09 0.17 0.21 0.38 0.42 0.11 0.05 0.27 0.23 0.27 1

Table 5: Logit regression of the main cash related strategies
This table presents the logit regression output. The regression is pooled over the distress period. The dependent
variable is recovered =1 and non-recovered =0; Control variables are, Industry dummies, Size dummies, Year
dummies, Efficiency is Sales/Total Assets and Costs is Cost of Goods Sold/Sales. ***, ** and * are significant at
1%, 5% and 10% respectively.
Restructuring in Distress Period Coefficient
Cost Rationalisation 0.13
Layoffs -2.65***
Integration of Business 0.54
Dividend Cuts 0.61***
Dividend Omissions 0.89***
Rights Issue -0.46**
Raise Debt 2.75***
Acquisition -1.22**
Disposal 1.83***
MBO Spin-offs 1.95
Business Change -7.15
Insider Appointments -3.43***
Outsider Appointments 1.28**
Insider Replacements -1.90**
Outsider Replacements -0.02
Efficiency 0.27**
Costs -7.1*
Constant -0.46
Cox & Snell R sq 0.255
Nagelkerke R Square 0.341

Table 6: Changes in fundamental variables in the post distress period
This tableshow thepercentagechangein median size, to seethemonetary effect of thestrategies undertaken. Thesechanges aremeasured in thepost distress period. Thefinal column show theoverall change
fromT0 to T+3
Variables T+1 T+2 T+3 T0 to T+3
Recovered Non-recovered Recovered Non-recovered Recovered Non-recovered Recovered Non-recovered
Panel A. Change in size characteristics
Total Assets


Panel B. Change in investments, and financing characteristics


Staff Costs/Sales


Capital Exp.

Capital Exp./Total Assets

Working Capital

Working Capital/TA


Cash/Total Assets

Debt/Total Assets


The management changes may include organisational shifts (e.g., centralizing vs.
decentralizing) and recruitment of new management team. Governance measures
relate predominantly to changes in the board structures and block ownership.
Operational strategies include any activities that increase revenues and reduce costs.
Reorganizations of financial claims include exchange offers, share repurchases, dual
class recapitalization, financial reorganization, liquidation leverage recapitalization.
Assets structures incorporate mergers and acquisitions, joint ventures and asset sales.
A company is defined as suffering from performance decline if it suffers at least
one year of negative earnings between 1980 -87 followed by 3 years of positive
Franks, Mayer and Renneboog (2001) find that the disciplinary role of UK boards
is confined mainly to the very worse performing firms where the managerial turnover
rate is high. They conclude that insider ownership is used to entrench managers.
Mikkelson and Partch (1997) report an inverse relationship between the stake of
directors and officers in the firm and the turnover of directors and top-officers.
Yermack (1997) reports a negative relationship between the CEO stock ownership
and the probability that the CEO is replaced. Denis and Denis (1994) find that the
rate of top-managers' turnover is about one half in case of majority-owned, as
opposed to widely held, firms. These arguments suggest that the structure and the
monitoring role of the board are likely to be shaped by managerial share ownership,
and that under the agency context, high managerial ownership will be associated with
a board that is less likely to monitor.
DeAngelo and DeAngelo (1990) identify financially-distressed companies as those
that have negative net income for 3 years in a span of five years they call it
protracted period of financial distress.
Kahl (2002) uses a completely different way to define financial distress and finds
that the median time spent by company in financial distress 35 months (almost 3
years). This is line with our definition of 3 consecutive years of losses to identify
financial distress.

A contract that
specifies periodic
payments by the
firm to its
creditors. If
these payments
are not made on

Here even
though the claim
holders have
expectations of
receiving current
payouts fromthe
firm in addition

Source: John
and John (1992)


We consider the possibility that the positive year T-3 might be an outlier and find
that 65 companies have a negative T-4. We therefore go back one more year,
wherever available, and check for the year T-5. If a company has T-3 positive
preceded by both T-4 and T-5 as negative, we consider such a company as an outlier.
We find 24 such outlier companies. Exclusion/Inclusion of these companies does not
change the results significantly and hence we do not exclude these companies from
the sample set. Moreover, excluding such companies would only impose a much
stricter version of already strict our definition, which is unnecessary.