Corporate Financial Strategy

4th edition
Dr Ruth Bender
Chapter 17

Restructuring a company

Corporate Financial Strategy

Restructuring a company: contents

 Learning objectives
 Reasons for restructuring, and possible approaches
 Some warning signs
 Debt equity swap
 Determining the shortfall for creditors
 Stakeholders have choices
 Tips for those planning a distressed acquisition
 Spin-offs
 Carve-outs
 Some reasons why demergers can add value

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Learning objectives

1. Diagnose when a company is in trouble, and identify ways in which its

cash flow can be improved to stave off a cash crisis.
2. Identify potential sources of finance for a troubled company, and
evaluate how appropriate they are.
3. Understand some of the regulatory mechanisms underlying company
rescue or liquidation.
4. Explain what spin-offs and carve-outs are, and how they differ.

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Reasons for a restructuring, and possible approaches

Wrong Wrong
financial business
strategy strategy

Too little debt Too much debt

Pay a special Improve Change strategy

dividend operating
Undertake a efficiency
buy-back Sell assets
Invest Raise new
finance
Restructure
existing debt

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Some warning signs

 The company is trading close to the limit on its bank facilities.

 Monthly management accounts continually show negative variances on
sales and profits.
 There are no monthly management accounts, or they arrive late, with
inadequate explanation.
 Several key people leave the company in a short period of time.
 Loss of several customers.
 Poor relationships with suppliers.

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Debt –equity swap

Before After

Debt

Debt
Equity held by
previous Debt
holders

Equity Equity
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Determining the shortfall for creditors

Assets are insufficient to meet Claims on the company

all claims

Unsecured creditors

Shortfall to creditors
Shortfall on charged assets

Amounts loaned under a floating VALUE BREAK

charge (value restricted to the
value of those charged assets)

Realizable value of Amounts loaned under a fixed

business / assets charge (value restricted to the
value of those charged assets)
(whichever is greater)
Costs of restructuring
(professional fees)

Based on: ICAEW Corporate Finance Faculty, Best-practice Guideline – Turnarounds

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Stakeholders have choices

 Ordinary shares  Creditors (unsecured)

− Put in more money − Write off part of the debt
− Accept dilution − Negotiate payment terms
− Take equity
 Debt
− Put in more money  Employees
− Swap to equity − Trade-off between jobs and pay
− Write-offs
− Note that all the different lenders
will have different views on what  Management
should happen − Fight to be part of the deal?
Payoff?

 Other stakeholders??

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 Tips for those planning a distressed acquisition

 Use advisers with previous experience of distressed acquisitions

 Be prepared to undertake an accelerated due-diligence exercise, but on limited
information
 Clarify and resolve the legal position regarding charges on the company’s assets, and
retention of title clauses
 Determine which contracts with customers, suppliers, and landlords include an
automatic termination clause in the event of insolvency, and resolve this
 Ensure you have the funding in place so that you can move quickly
 Incorporate the new business to ring-fence the assets and make sure that if things don’t
work out it doesn’t threaten your existing business.

When a management with a reputation for brilliance tackles a business with a reputation
for poor fundamental economics, it is the reputation of the business that remains intact.
Warren Buffett

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Spin-offs

Owned by existing
shareholders

Company A
Pre-transaction

Owned by existing Owned by existing

shareholders shareholders
Company B
Company A spun off
Post-transaction division of
Company A

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Carve-outs

Owned by existing
shareholders

Company A
Pre-transaction

Owned by new
Owned by existing shareholders and by
shareholders Company A

Company C
Company A spun off
Post-transaction division of
Company A

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Some reasons why demergers can add value

 Separation into clearly defined business segments leads to market

transparency and greater understanding.
 Raise money by taking advantage of the market pricing one particular
sector very highly.
 The different businesses can follow financial strategies more appropriate
to their activities.
 Improvements in corporate governance and efficiencies arise in
companies which were subsidiaries but are now separately accountable
to the markets.
 Incentive structures can be put in place that link management
performance directly to the unit’s share price.
 Removal of the ‘conglomerate discount’.

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