When your best option is an orderly wind down of the business
By Dave Driscoll
Business value is determined by three dominate factors: the free cash flow created by the enterprise, historical and forecasted performance, and the underlying market value of the tangible assets used to create cash flow and performance.
When all three factors are strong, a business is likely to survive. However, any disruption in these components can cause distress that, if not rectified, may cause the business irreparable damage.
In most cases, the cause of distress is cash flow dropping below what is necessary to sustain the business. If cash flow is not adequate to cover operating and borrowing expenses, the business is considered distressed and the value becomes dependent on the tangible assets.
Owners have two options when a business is in distress: inject enough cash into the company to cover operating expenses or begin an orderly wind down of the business.
Putting in additional cash sounds like the easiest solution, but should only be considered after an honest assessment of what the future looks like weighed against the associated risk. Be careful not to take on additional risk just to avoid facing the emotional reality of dealing with the issue now. Be wise in your analysis rather than digging yourself deeper into debt.
Liabilities are classified as secured and unsecured. “Secured” means that the lender has placed liens on specific assets and recorded them with the state. Title to those assets cannot pass to a buyer without the secured parties’ release of lien.
Unsecured liabilities are debts that are owed to vendors on open credit. In most cases, the vendor has no security interest in the goods; their only comfort is the hope of a continued supplier relationship with the business.
To begin the wind down process, work with your business broker to create a plan to cover the business’ liabilities. The first step is to determine what amount of cash is needed to liquidate liabilities orderly and pay associated professional fees. Secured and unsecured liabilities plus fees should be calculated, and a negotiating margin added to determine the asking price for the business.
It is mandatory that you discuss this plan and process with your lenders and only initiate with their full knowledge and cooperation.
The sales process varies depending on the industry, but the typical approach is to define a specific period (commonly six months) to offer the business for sale. Unlike traditional sales, the listing is usually “public,” meaning that the identity of the seller in not confidential. The objective is to get traction as quickly as possible in the market to locate prospective buyers. Before detailed financial information is disclosed, prospective buyers sign a non-disclosure agreement and confirm they have the financial resources to consummate an acquisition.
Offers are fielded for as long as the business can operate. If an interested buyer is identified, all efforts should be made to negotiate a price that covers costs, with the hope of avoiding shuttering the business or foreclosure.
In months three through four, the business may run out of cash and the selling price would be reduced to cover only secured lenders and selling fees.
For the fifth and sixth months, the selling price is reduced yet again with the objective to recover as much as possible, based on the knowledge gained by lenders and advisors during the first four months of the listing.
If necessary, secured lenders and professional advisors may need to accept less than they are owed given the realities of the situation and the market reaction.
The process of selling a distressed business is complex and time sensitive. The overall objective is to get as much as possible for the business as quickly as possible, with all stakeholders being flexible and realistic regarding the total recovery.
An orderly wind down is essentially an “one check liquidation.” If an appropriate buyer is not found, the only option left is to auction the business’ individual assets.
Dave Driscoll is president of Metro Business Advisors, a mergers & acquisitions, valuation and exit/succession planning firm helping owners of companies with revenue up to $20 million sell their most valuable asset. Reach Dave at DDriscoll@MetroBusinessAdvisors.com or (314) 303-5600. www.MetroBusinessAdvisors.com