8 phút đọc 2 thg 6 2020
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COVID-19: How to approach impaired asset investments

Tác giả Brian Salsberg

EY Global Buy and Integrate Leader

Passionate acquisition and merger integration leader and aficionado of all things deal-related. Global citizen. World traveler. Husband. Father of two.

8 phút đọc 2 thg 6 2020

Hiển thị văn bản

  • Investing in assets and businesses impaired by COVID-19 (pdf)

COVID-19 will mean a remaking of the business landscape. For firms considering acquisitions and investments, this is what you need to know.

As unprecedented as are the events currently unfolding, the COVID-19 global pandemic will eventually pass. In the aftermath, some organizations will have been negatively affected by the course of the crisis; others will be aiming to move strategically to reshape their operations.

Recessions generally create more of an opportunity for transactions because companies are motivated to focus on their core business and divest non-core activities. Not only does the bid–ask spread often narrow, but also more sellers find it necessary to transact due to capital and performance constraints

According to a recent EY survey, CEOs expect to be transacting as part of their strategy to reshape their businesses. When we look back to the global financial crisis, it is clear that moving with speed and certainty is key to maximizing value. However, doing so comes with some degree of risk, particularly in the post COVID-19 environment.  

We’ve developed a framework for investors who are thinking of transacting within the next two years, which will enable them to better understand the underlying risks and opportunities of investing in distressed and impaired assets.

Hiển thị văn bản

  • Investing in assets and businesses impaired by COVID-19

Distressed asset opportunities

Acquisitions can present the following additional opportunities when compared to transactions in more normal macro times:

  • Growing market share: by expanding geographic or product footprint and generating new revenue streams, as competitors urgently seek consolidation strategies.
  • Liability management: via certain acquisition strategies that afford the ability to void loss-making contracts (possibly as a result of COVID-19) and counterparty inability to perform.
  • Above-average returns: often achieved as sellers reduce price expectations on impaired assets and businesses, or are forced to sell due to capital constraints.
  • Embedded leverage: Impaired or distressed assets often feature significant levels of embedded debt financing, which may remain through the transaction and be valuable to the buyer in a tight credit market.
  • Defensive positioning: Impaired asset acquisitions can be a defensive measure, preventing customers, market share or proprietary technology and processes from falling into competitors’ hands.
  • Productivity lift: Impaired assets often have an unmotivated workforce. New leadership and purpose can lead to an immediate productivity gain and performance improvement. 

Distressed asset challenges

Of course, by their very definition, distressed and impaired assets can also be risky investments. Key areas to assess before progressing are:

  • Degree of familiarity: 
    Unfamiliarity with acquiring impaired assets and market outlook could cause the acquirer to overpay. Most target assets will be under-performing and will require a clear value recovery and integration strategy. To achieve this with speed and certainty requires strategic, operational and financial knowledge of the sector.
  • The risk of potential hidden liabilities: 
    Inexperienced buyers, or those who are not able to perform adequate due diligence, can assume substantial liabilities from acquired assets, which are often transferred without warranties or indemnities. These may include:
    • Underfunded pension liabilities: Companies under duress may be less likely to have provided for future liabilities, so may have underfunded pensions. 
    • Extended Payables or avoided spend: In distressed situations, companies focus on conserving cash. Buyers should be aware of any deferred payments coming due or any planned and needed capital expenditures that have been avoided.
    • Employment contracts and termination agreements: Payments such as these may be triggered by acquisition.
    • Enforceable warranty risks: Companies under duress may have had issues with product or service quality, which may create the risk of customers claiming on warranties.
    • Product liability/regulatory issues: Facilities, supply chains, and products should be closely inspected, with particular attention paid to potential regulatory violations — in all relevant markets.
    • Breach of contract claims: Companies under duress may be on uncertain terms with suppliers and customers. Both contractual and ad hoc terms need to be carefully inspected during the diligence process.
    • Restart costs: If, for reasons related to COVID-19 or otherwise, operations have been shuttered, then restart costs also need to be factored in the valuation and working capital equation
  • Potentially stressed supply chains:
    These must be considered and carefully evaluated. In the new normal arising from COVID-19, many may need significant investment and redesign.
  • Valuation and due diligence processes: 
    These must be adjusted to reflect current market conditions. Operating in a COVID-19 and post-pandemic world is not business as usual, so due diligence cannot be confined just to backward-looking historical data. Rather, new sets of forward-looking valuation criteria, aligned with the buyer’s strategic goals and projects, should be considered.
  • Slow moving decision-making processes:
    This can confer advantage to faster-moving competitor acquirers.
  • Tax exposures: 
    Target acquisitions may also have their own inherent tax liabilities, and these — and their effect on the acquiring organization’s tax structure — should be another consideration during the valuation process.

Hiển thị văn bản

  • Investing in assets and businesses impaired by COVID-19

Questions to ask to help decide whether to invest

Not all distressed assets are suitable for investment, and not all organizations are suitable investors. Any organization considering an investment will need to be able to answer the following questions:

  • Is the price correct? 
    Just because an asset seems affordable does not mean it represents good value. 
  • Can you handle this complexity?
    Acquiring a distressed or impaired asset is often more challenging than a regular acquisition. For example, a company may not be acquired outright but purchased through an insolvency process. This complexity can deter less experienced buyers and drive down the acquisition price, but acquirers must be confident in their ability to execute effectively and take advantage of this. 
  • Are you working with imperfect information?
    Information quality and availability is often poorer for impaired assets and businesses. So knowing what information you need to make a decision, is critical — and identifying imperfections can even be an advantage, helping justify lower prices during acquisition negotiations. Being comfortable performing virtual due diligence may be important, especially if such steps become mandatory.
  • Can you move fast enough?
    Not all acquirors can move at the same speed, and those who can move faster than others will have a critical advantage over slower moving competitors. You may therefore need to flex your decision-making governance structure to meet the timetable set by the vendor.
  • Can you access embedded leverage?
    Using existing leverage may be important to the investment decision and risk–reward calculation. Addressing this early in the negotiations and gaining permission to open up a dialogue with existing debt capital providers can be helpful both in taking advantage of existing leverage and also securing the deal.
  • Are you able to make necessary operational fixes?
    Commercial and operational due diligence carry elevated importance when evaluating businesses and assets, especially in today’s uncertain environment. At the heart of acquiring a distressed asset is the assumption that the acquirer can fix the acquisition and turn it into a productive, return-generating asset. Understanding whether or not this is feasible, and within what timeframe a repaired asset can be integrated into the acquirer’s operations, is key.
  • Are you disqualified by other factors?
    The scale and scope of assistance provided by governments around the world in handling the economic fallout from COVID-19 has been unprecedented. But receiving support from governments may also put limits on what actions acquirers can take, and may affect what assets they can buy. Staying on top of these developments, on a week-by-week basis, is important.
  • Do you have the right advisors?
    Having the right advisors can make all the difference when engaging in complex, risky deals. Selecting advisors with strategic, operational and turnaround or restructuring expertise is an important step to making sure that your strategy has been assessed and its execution optimized.
  • Do you have an exit strategy?
    Acquirers must have clearly defined objectives and a value end-game before making the decision to invest. This may be particularly important in the post-COVID-19 environment, when traditional KPIs based on historical data may no longer apply.

How to prepare and execute

Once an organization has decided to make an investment in a distressed or impaired asset, it must take several practical operational steps to ensure the investment is successfully executed. These include:

  • Secure senior management buy-in:
    The risks and opportunities involved in purchasing a distressed asset mean it is a fast paced, strategic decision; and therefore one that requires the full comprehension, time commitment and sponsorship of the board and the senior management team.
  • Get a clear understanding of the current market environment:
    COVID-19 presents a unique and historically unprecedented set of challenges for the buyer, with few obvious examples of best practice to follow. However, maintaining a close eye on market conditions, and maintaining tracking and early-warning systems, can help buyers ensure they are not taking on unnecessary risk. 
  • Develop deep sector understanding:
    Particularly important when operating outside your businesses traditional sector, developing a sector understanding helps with integration, helps you understand competitors, and lets you know when and how to make a move.
  • Articulate goals and objectives:
    Smooth execution and implementation of distressed asset acquisitions means locating appropriate leadership resources and targets. These are akin to military missions and require a command and control type of approach.
  • Understand key processes:
    Any acquisition is a complex procedure, but the unique circumstances of COVID-19 mean there are even more physical limitations on processes, such as the need to factor in remote working routines.
  • Precisely state target return metrics:
    Buyers need prompt and clear information about the ability of the acquisition to return a profit. Establishing and implementing relevant target return metrics will be key to managing the first 100 days and any turnaround plan.
  • Streamline decision processes:
    Speed is the name of the game. Making sure acquisition processes are streamlined and decisions are taken promptly and effectively will be critical in ensuring buyers can close deals in competitive situations.
  • Secure adequate and appropriate financing:
    Access to cash is preferable, as credit is tight, and securing the right levels of funding can require time-consuming negotiations with creditors. Having liquid resources to hand also allows prospective buyers to move with speed and agility.
  • Engage with advisors at an early date:
    In complex acquisitions deals, technical talent and knowledge is essential. Building relationships with key deal advisors can help buyers stay ahead of the competition and execute fluently when the time comes.
  • Communicate with key stakeholders:
    Aside from senior management and the board, making an acquisition will impact, and will require input from, many different key stakeholder groups, such as legal, finance and personnel teams. Communication with these groups can be critical to ensuring an effective acquisition.

Distressed assets can offer several strategic advantages — and more so if the reasons for their current status are exceptional rather than systemic — but by definition, they also carry higher risks than conventional investments. Not every distressed asset will be worth that risk — and not every organization will be in a position to take it.  For those that do decide to press ahead, the process will be complex and challenging — particularly given the range of unknowns about valuing and executing deals in such a turbulent business landscape.

Once the immediate crisis has passed, consolidation and acquisition clean-up activity will be inevitable — and even desirable, helping to save jobs and enterprises that might otherwise be permanently lost. Investors and corporate buyers willing and able to participate may find great opportunities, but only if they can move swiftly and with confidence based on a solid groundwork of preparation and assessment of the issues addressed herein.

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Tóm lược

COVID-19 is causing massive disruption to the global business landscape; rebuilding and reshaping will be key to the recovery. Acquiring businesses and assets that have been impaired by COVID-19-related economic challenges presents significant opportunities but also significant risks. It’s important to ask the right questions and consider every aspect when developing a capital strategy for this uncertain era.

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Tác giả Brian Salsberg

EY Global Buy and Integrate Leader

Passionate acquisition and merger integration leader and aficionado of all things deal-related. Global citizen. World traveler. Husband. Father of two.