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55 Cards in this Set
- Front
- Back
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Corporate failure |
When a company can't achieve a satisfactory return on capital and this is going to lead to an inability of the company to pay its obligations as it becomes due long term. |
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Five core reasons for financial distress |
Revenue failure Cost failure Failure in asset management Failure in liability management Failure in capital management |
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Revenue failure |
Caused by internal or external factors Loss of orders Acceptance of business that didn't lead to growth of shareholder value |
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Cost failure |
Weak cost controls Changes in technology Inappropriate accounting policies Inadvertent or exceptional cost burdens Poor financial management Failure of effective corporate governance |
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Failure in asset management |
Failure to invest properly Failure to invest in appropriate technology Poor working capital management Incorporate write off and reinvestment Poor organisation of available asset |
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Failure in liability management |
Failure to manage relations with money market Weak control of interest rate risks, currency risk or unsuitable credit policies |
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Failure of capital management |
Under/over capitalization Poor relations with capital markets especially debt portfolio No optimisation of cost of capital |
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Non strategic issues that can be fixed by better accounting |
High cost structure (better cost controls) Poor financial controls (Better financial controls and accounting) Failure of large project (improve project management) Poor acquisitions (better business valuation) Poor quality ( quality control systems) |
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Strategic issues for corporate failure |
Adverse changes in total market demand Intensification of competition Weak management Poor marketing efforts |
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How to identify financial distress |
Trends in ratios to identify early on Free cash flow analysis |
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Practical indicators of financial distress in financial statements |
Worsening cash and cash equivalents position shown by cash flow statement Large contingent liabilities Important post balance sheet events Information in chairman's and director's report Information in the media Information about environment or external factors |
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Financial issues indicators of financial distress |
Net liability or net current liability position Necessary borrowing facilities haven't been agreed Fixed term borrowing facilities approaching repayment Major debt repayment falling due where refinancing is necessary Major restructuring of debt Indications of withdrawal of financial support Negative operating cash flows Adverse key financial ratios Substantial operating losses Deterioration in value of assets used for revenue generation Arrears or discontinuance of dividends Inability to pay creditors on due dates Inability to comply with tens of loan agreements Change from credit to cash on delivery on transactions Inability to obtain financing for essential new product development |
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Operating issues indicators of financial distress |
Loss of key management without replacement Loss of key staff without replacement Loss of major market/supplier Labor difficulties Fundamental changes to market or technology to which entity is unable to adapt adequately Excessive dependence on a few product lines where market is distressed Technical developments which render a key product obsolete |
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Other issues leading to corporate failure |
Non compliance with statutory or other requirement Pending legal or regulatory proceedings Change in legislation our government policy |
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Corporate reconstruction of a failing company |
Remain in business rather than go into liquidation Raise new capital Debtors accept alternatives to debt Long term sustainable competitive advantage and opportunities for further finance |
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Why would solvent companies need to go through corporate reconstruction |
To reduce net of tax cost of borrowing To repay borrowing sooner or later To improve security of finance To make security of company more attractive To improve image of company to third parties To tidy up SOFP |
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Reconstruction options for solvent companies |
Conversion of debt to equity Conversion of equity to debt Conversion of equity from one form to another Conversion of debt from one form to another |
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Conversion of debt to equity |
Convertible dementia Improves equity base of a company |
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Conversion of equity to debt |
Preference shares to debentures Dividends on preference shares not seen as interest payments and hence not tax deductible. Reduction in equity capital legally. |
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Conversion of debt from one form to another |
Security (not available with short term facilities) Flexibility (short term loans: less room to maneuver) Cost (secured loans cheaper) |
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Formula in devising a scheme |
Write off fictitious assets and debit balance on p/l account. Revalue assets to current values
Determine how much new capital required
Given size of write off required and account for further finance.
Agree scheme with various parties involved. |
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Ordinary Shareholder's requirements for liquidation |
Main burden borne by them
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Preference shareholders requirements in corporate reconstructions |
Give holders preferential rights Agree to forego arrears in dividends for resumption of dividends If reduced nominal value of shares, dividends/stage in equity may have to be higher |
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Debtor's requirements for liquidation |
May agree to a reduction in claim of not expecting to be fully paid on liquidation. May need an equity stake too. |
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Trade creditors requirements for liquidation |
Reduction in debt if company will continue to be their customer |
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Tabular method of assessing impact of reconstruction options |
Set up a table with current forecast earnings and SOFP in the first column Deal with each of the suggested reconstruction options separately Update SOFP figures Update earnings Balance of SOFP by adding whatever is unknown as a balancing figure |
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Earnings tabular method |
Greater interest payments Greater revenue generated through new assets Lower revenue generated since assets are disposed of |
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Unbundling companies |
Selling incidental non core businesses to generate funds, reduce gearing and allow management to focus on chosen core business. |
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Unbundling options |
Demergers Sell offs Management buyouts Liquidation |
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Spin offs |
Ownership of business doesn't change. New company formed by shareholders of the original business. Each separate company has a higher value than the individual companies. |
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Sell offs |
Business sold off to third parties |
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Management buyouts |
Management of business acquires a significant stake in the business they managed |
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Liquidation |
Entire business is closed down, assets sold and proceeds distributed to shareholders |
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Leveraged buyout |
Acquisition is financed by loan capital |
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Management buy in |
Outside management makes the acquisition |
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Spin out |
Similar to buyout but parent company maintains stake in the business |
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Advantages of an mbo vs mbi |
Existing management doesn't need to learn about the business Existing management knows where to cut costs Has better relations with existing employees Parent company finds it easier to continue business relations with them. |
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Drawbacks of an MBO vs MBI |
May lack new ideas to rejuvenate the business Better knowledge than existing team Parent and existing management team may have had disagreements |
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Reasons for buyouts |
Parent in financial distress Subsidiary doesn't fit core business Loss making subsidiary selling to manager cheaper than wind up costs Liquidity and tax factors |
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Advantages of buy outs to the disposing companies |
Sales to management will often be better financially than liquidation and closure costs There is a known buyer Better publicity than redundancies Better for existing management to acquire than competitors |
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Advantages to acquiring management |
It preserves their jobs Offers products of significant equity participation Quicker than starting a business from scratch No longer have to seek approval from head office |
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Issues to be addressed when preparing a buyout proposal |
Do current owners wish to sell Will new business be profitable If loss making can new managers turn it to profitability What will the impact of lots of head office support be What is the quality of the manager team What is the price Is the deal in the best interest of the shareholders |
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Sources of finance for buy outs |
Clearing banks Pension funds Merchant banks Specialist institutions Government agencies and local authorities |
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Different types of finance characteristics for MBOs |
Form of finance Duration of finance Involvement of the institution Ongoing support Syndication Need for financial input from manager team Need for a business plan Other sources of finance |
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BIMBO |
Deal involving both a buy in by outside managers and buy out by current managers |
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Caps floors and collars |
Limits to which interest rate charged in a leveraged buy out can respectively rise fall and range between |
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Junk bonds |
Tradeable high yielding unsecured debt certificates |
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Lemons |
Deals that go wrong |
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Plums |
Successful deals |
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Living dead |
Companies earning just enough cash to pay interest on their borrowings but no more |
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Ratchet arrangement |
Permit managers to allocate a larger share of company equity if venture performs well |
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Assessing viability of buy outs |
Why do current owners wish to sell Does proposed manager team cover all key functions Has a reliable business plan been drawn up Is the proposed purchase price too high Is the financing method viable |
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Concentration of growth and maximization of shareholder value |
Splitting off of non core activities from the rest of the business Businesses may be highly valued in the hands of new managers than previous management Sale of less profitable part of the business Performance of individual business may improve |
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Reduction in complexity and improved managerial efficiency |
Diversified businesses are complex to manage Smaller companies tend to be more flexible and respond more easily to change New company flowing demerger has clearer management structure Improved managerial efficiency results from splitting off of non core business Changes in market may mean benefits of synergy no longer exist |
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Release of financial resources for new investment |
Selling a loss making part of business absorbing funds Reduction in size and complexity of an organization Unbundling generates lump sum proceeds which can be invested in a specific project. |
