How to Sell a Distressed Business?

An emergency sale before or instead of bankruptcy can save the company and most of its employed positions and requires speed in preparing documents and addressing investors. An experienced M&A advisor with a large network and good relationships with investors increases the chances of a successful sale of the company.

Post-COVID Prediction

Impending liquidity bottlenecks will lead to bankruptcies in the coming months.

The slump in sales and incoming orders triggered by the COVID-19 crisis caused significant liquidity bottlenecks for many small and medium-sized businesses, which were not resolved by the end of the shutdown. In particular, companies that are active in the automotive sector (e.g., suppliers), the hotel and restaurant industry, and in trade will not recover from three months or more of lost revenue. The global recession resulting from 2020 will hurt sales for a long time after the shutdown ends.

In turn, bankruptcies will also lead to liquidity problems due to payment defaults for companies that are still profitable today. We, therefore, assume that there will be a wave of bankruptcies which, in turn, will lead to significant problems in supply chains and liquidity for all companies that yet have a financial cushion. Companies that act with foresight are already preparing for this situation by optimizing working capital, taking out loans, and securing new investors for additional equity.

All companies for which these measures no longer work should now quickly start an M&A process for an emergency sale.

Related: COVID-19 and Exit Planning. 

Special Case: Emergency Sale

If the survival of a company post-pandemic is no longer possible through its own efforts or bank financing, then the sale of the company is often its last chance to survive. The main buyers are then strategic investors or financial investors who also intervene operationally and undertake restructuring measures.

Selling a company in distress can be an attractive option instead of bankruptcy or liquidation. In addition to the social benefit of securing jobs, the realignment can also be financially interesting for an entrepreneur–for example, through a stake back–especially because both liquidation and bankruptcy, due to payment obligations and liability issues, have far-reaching consequences.

In the event of an emergency sale during a crisis, a share sale must be implemented as quickly as possible. Every day counts!

In the corporate finance industry, an emergency sale is also referred to as “distressed M&A.” In contrast to a normal M&A process, an emergency sale takes place under considerable time pressure. Classic M&A processes for a company sale now take between six and 18 months; a distressed M&A process shortens the time from four weeks to three months. In the corporate finance industry, there are a large number of investors who focus exclusively on companies in “special situations,” such as an emergency sale or distressed M&A. Such investors include private equity companies, which are set up in such a way that financing with outside capital can be implemented in a few weeks.

The better the M&A advisor’s contacts to such private equity companies, the better the negotiating position of the seller will be, despite the urgent need to sell. Nevertheless, the seller should assume that an emergency sale will always take place below the market value of the company. For this reason, shareholders should participate in the future increase in value through debtor warrants and earn-out regulations as well as through the remaining shares in the company.

Characteristic of a distressed M&A process is short due diligence and non-comprehensive due diligence. Private equity companies and family businesses, therefore, run a significantly higher risk if they take over company shares in an emergency sale and/or finance them with additional debt capital.

Emergency Sale Step-by-Step

What steps should be taken when selling a company in a crisis and what should be considered?

The threat of bankruptcy quickly gets around among employees, suppliers, and customers. This leads to the termination of important employees and managers, the shortening of payment terms for suppliers, or even to prepayments for new orders. Existing loans and lines of credit with banks are also at risk as soon as the bank learns of the impending insolvency. Last but not least, managing directors and entrepreneurs face legal consequences if bankruptcy is delayed.

Review the data and figure out what’s feasible.

After the assignment, the M&A consultant checks which measures are possible to optimize working capital in the short term and which possibilities are feasible in the short term when restructuring the liabilities side. At the same time, the M&A consultant creates a teaser that shows the company’s basic data and sends the teaser to relevant “distressed” investors as soon as possible. The decisive factor here is direct contact between the M&A advisor and the largest possible number of potential investors in the area of distressed M&A.

Set a realistic valuation on the company.

As with capital markets, there is a movement within corporate sales and acquisitions even in times of crisis. It is precisely then that many financially strong investors see attractive entry opportunities in companies that are otherwise very highly valued.

Understand the buyer’s increased risk.

With every corporate acquisition, the buyer evaluates the company to be taken over based on existing financial figures and future planning. If there is great uncertainty about future sales, this risk is factored into the valuation.

Take advantage of the seller’s expertise in that business niche.

Especially in uncertain times, one approach to bridging valuation differences, as well as a popular control mechanism, focuses on setting purchase price components that take future developments into account. With an earn-out model, for example, the seller participates in the future positive development of the company. Since an entrepreneur knows his company best and has usually already mastered prior times of crisis with it, these mechanisms often offer a solution satisfactory for both sides.

Preparation of all relevant documents and perform due diligence with several investors simultaneously.

In the shortest time possible, the M&A consultant prepares all documents relevant to an investor with regard to the business model, the financial situation before the crisis, and the financial and liquidity planning in the current situation. Furthermore, a restructuring concept is worked out so that the investor can identify and assess the necessary financing requirements and a strategy for a trend reversal and positive development.

The M&A consultant creates a schedule which he sends to all potential investors and imposes the pressure of a deadline. For quick implementation, the M&A consultant prepares all available documents at short notice in a shared digital environment with the company, so that the due diligence can be started and completed in the shortest possible time.

Based on the documents sent by the M&A advisor to interested “distressed” investors, the M&A advisor will obtain an indicative offer from them. An emergency sale aims to proceed with due diligence with really interested investors who have submitted indicative offers.

The Buyer’s Perspective

Times of crisis present exciting opportunities for investors. Lower valuations often provide attractive entry opportunities with less competition from risk-averse buyer groups who otherwise drive valuations in boom times.

A buyer should carefully analyze whether the slump in the company’s sales and profits is due to the crisis or whether there are other reasons for emergency sale. This is the only way to determine how a company is positioned and whether an upward trend can be expected after the crisis ends.

Close cooperation with the seller should be clearly regulated through incentives such as earn-out models and within the framework of an employment contract.

Opportunity from Crisis

A company sale or company acquisition in times of crisis offers attractive opportunities and possibilities, depending on the initial situation and perspective. While some companies benefit from a crisis and increase in value, the opposite is usually the case with companies that are suffering from the crisis. Especially for companies in distress, the sale of a company presents an opportunity for continued existence and saving jobs. These sales also serve as good entry opportunities for investors. With suitable models, both sellers and buyers can benefit.

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Author Summary

Dan Doran

Dan Doran

Is the Founder of Value Scout, Quantive and the 2019 Exit Planner of the Year. He is a recognized expert and speaks frequently about M&A, valuations, and developing more deliberate value creation strategies.

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