Troubled Companies

The following text has been prepared by Arthur Lipper III for British Far East Holdings Ltd. and is intended to be part of a book, “Troubled Companies”. No reproduction or publication of these writings is authorized, except with written consent of the author and owner.

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Chapter 7

Financing Businesses in Difficulty

My good friend and partner in our subscription service GIFTED-CHILDREN.COM for parents and teachers of gifted and talented children, Arthur Rosenfield, advises me re writing this book to "get to the heart of the matter quickly" re responding to the prompt of "How are businesses in difficulty financed?".

My immediate response was one of "usually they are not and they perish". Of course, that's too flip and not at all a constructive response.

The issues are, in part, definitional and relate to timing. What consitutes "difficulty" and when is the financing sought?

If difficulty is not adhering to a projection as to revenues and profits then by how much and at what stage of development? At what point does the seeker of financing know the company is in difficulty and how realistic is or can he or she be when assessing the problems, which are always, at first, thought to be temporary, an aberration and not indicative of a trend.

Usually financing takes one of two forms, borrowing or selling equity or a combination of the two. The greater the difficulty or the smaller the enterprise the more likely the form will be primarily that of debt, most frequently debt with collateral. In the case of smaller, privately owned companies the debt is likely to be personally guaranteed by the entrepreneur and often the spouse as well. There are lots of horror stories regarding the personal and family devastation which can be caused by signing personal guarantees. However, lenders are frequently insistent on such surrender of the benefit of the corporate shield and business owners perceive they have no option but to invest all they own, which is what a personal guarantee is, in their businesses. The alternative, they believe is to close the business and recognize a loss of everything already invested or lost in the business.

The sale of control or of all or of parts of the of the business is also a form of financing of the business even if not of the business owner. The sale of the business is frequently not possible as either a buyer cannot be found due to the vision for the business being exclusively that of the proprietor or present owners or of the financial structure already being so "upside down" in that debts outweigh assets to an extent making a possible acquisition unattractive to the buyer, assuming realistically the level and timing of debt payments necessary.

What to do?

Gather assets to the business so that those having capital will be tempted to make it available to the business. Borrowing collateral and acquiring additional elements of a business are ways in which the attraction of a business to prospective new capital providers can be enhanced. Trade off some stock for something which will appeal to those having the capital the business needs.

Think of it as a business, an entity having a life of its own and not as an extension of the present owners. By the time troubled companies are seeking financing the owners should recognize they have already lost the monies invested and not allow the fear of losing money to impact their decision making. The money is gone, finished and the issue is only one of making money from this point forward if new money can be attracted to the business. Viewed in such a light the attitude of the owners of a business can be sufficiently realistic to get a deal done.

Those considering an involvement, any involvement, with a business in trouble should not be expected to have to overcome the added burden of having to deal with an unrealistic valuation of the business or its immediate prospects. They will and should expect the owners and managers of the enterprise to be realistic and to fully understand the causes of the problems and the mitigation anticipated by the additional financing sought.

The most successful financings of troubled companies occur when the new investors are sold on the proposition that they are benefiting from the problems and that the company will be able, in the future, to progress without the problems due to the availability of new capital.

Unfortunately, in most cases, the problems will not have been solved as believed by both the providers and recipients of the new money and the new money providers will suffer a fate similar to that of the earlier investors.

The reason for the murky outlook is the likelihood the managers of the business will be planning for improvement in whatever it was they were doing rather than changing the business. The essential element of wisdom of this book is "Change what is being done. Don't just try to do it better.". In other words, it is likely the approach to the business, the basic vision, is not working, not that it was necessarily pursued badly. Being early or being late to a market can only be afforded by those with capital resources in excess of their current requirement. It takes a lot of money to afford to be early and even a lot of money may not be sufficient to create profit when one is late to a market. Staying power is that which so many developing stage companies lack and therefore being a visionary or pioneer can be a desperately expensive calling.

How to change? Change the product, the customers, the basic nature of the business. Would you do again, today, what you have already done, knowing what you do today? If not, change something basic as doing more of the same is going to continue the pain.

If you were going broke trying to sell apples maybe you'd be better buying apples and processing them. Perhaps you'd be a better customer of your's knowing what you do about the workings of the product than a vendor. As a securities analyst and institutional sales person I always knew that "client" was the job title I wanted most. I believed I would be a better investor than investment advisor, a better lender than borrower, a better buyer than seller.

One of the early lessons pilots are taught in cross country flying is to always know where there are airports which can be used in the event of an emergency. Business owners and managers should perhaps know who they can always turn to, to provide an exit and be aware of what would be the likely terms of such a transaction. Perhaps, as well as a business plan and marketing plan there should also be an updated exit plan available to both the managers and investors.

When a building catches fire survivors leave the building - so they are in a position, should they wish, to rebuild the building or build another building later. The trick is to prevent the fire or at least to have a good idea of when it is likely to occur.

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