Transcript Distressed M&A –Supply Chains and Working Capital Solutions? Igor Zax, CFA, Sloan Fellow (LBS) Managing Director- Tenzor Ltd © Tenzor Ltd 2009-2010 www.tenzor.co.uk.

Distressed M&A –Supply
Chains and Working Capital
Solutions?
Igor Zax, CFA, Sloan Fellow (LBS)
Managing Director- Tenzor Ltd
© Tenzor Ltd 2009-2010
www.tenzor.co.uk
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Who and Why Do Distressed
M&A?
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Buyers: specialised distress PE, hedge
fund/PE distressed debt investors, corporate
 Sellers: PE, banks?, corporates
 Principal approaches: “pure” debt
restructuring, liquidation play, operational
turnaround, integration
© Tenzor Ltd 2009-2010
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Why Turnaround?
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Insolvency may be an efficient solution if there are
substantial assets in the business (based on actual
liquidation value) and they can be easily secured.
Otherwise, one needs to keep the company as going
concern as the best way to recover- and this is not only
lender’s decision.
To do so, one needs to answer why the company exists and
how is it linked to its environment.
Bank lender makes a one-off decision to lend-supply chain
partners making their decisions (including granting credit)
every time
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Five “C” of Turnaround
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Control
– Creditors seek to control assets and decision making
Capability
– The team (existent, new or interim) need to be capable for the task
Credibility
– Turnaround plan and the team need to have credibility with all
stakeholders
Clarity
– What is the company’s core business, how it fits with the industry
structure and does the business model match it
Co-operation
– Lending group are not the only stakeholders. Ongoing support
from suppliers, customers, distributors and others are vital for
survival
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Industry structure and Supply
Chain
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Global industry structures changed massively
Platform companies "Produces nowhere but sells
everywhere... know where the clients are and what they
want and where the producers are. Platform companies
then simply organise the ordering by the clients and the
delivery by the producers (and the placing of their logo on
the product just before delivery).“- GaveKal
Integrated and collaborative supply chains.
Contract manufacturing, outsourcing, muli-tier distribution
Changed structures are often ignored by analysts
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Supply Chain- Distribution of
Risk and Reward
Component
Manufacturers
Component
Distributors
Contract
Manufacturers
OEM
Customers!
Distributors
VARs
• Understanding the supply chain is core to determining the future
of the company.
• How is wealth and risk distributed?
• What is outsourced to whom? Who does financing- is the
company a bank? Should it be?
• Is the issue overall health of the chain, distribution of rewards and
risks at particular layer or just company specific issues?
• Who can “shortcut” the chain and what would be consequences?
• Who is going to loose the most if company disappear and what
can they contribute to rescue?
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Rise of ABL
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Cash flow lending was the main trend in the past. Today,
EBITDA is much more volatile- not only reducing
multiples, but also making cash flow lending unavailable
in many areas.
 Lending against assets becoming more used, especially
where the value can be clearly determined.
 Illiquid and long term assets are difficult to lend againstshorter term is easier.
 “New Financial Engineering”- how to reduce the risk in
transactions
 Still, constrains on supply of ABL credit.
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Credit Insurance and Receivables Financing
Trade Receivables
Europe
UK
US
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% Insured
35
30
5
% Financed
5
6
4
In Europe, credit insurance is extremely important (domestic and export)
The supplier may not be the one making decisions
If cover is withdrawn, company can try to negotiate with insurer (to restore cover)
and/or supplier (to continue sell uninsured) IF debt is current
If the payments are overdue, supplier may not supply or risk the claim not being
paid...
Receivable financing is underutilised by suppliers-they paid for taking off the risk
but did not use the financing available!
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Working Capital Management
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Loosing supplier credit is the major risk-do not provoke by late
payment (but try to negotiate longer terms) and keep good
communication. No supplier’s support-no deal.
Receivables are major asset- they need to be managed properly
and financed were appropriate. Both quality and financibility of
receivable book may be key in pre-deal due-diligence.
Manage inventories-but understand that many optimisation
models assume risk free counterparties.
Analyse the product mix not only from profitability standpoint,
but also working capital effect –and go out of products you can
not afford
If the company is not right place for financing and risk, find one
in the supply chain who can take it
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Redesigning the Model Distribution example
Credit Insurance?
Factoring?
Securitisation?
What credit limit?
Sell
purchase
Supplier
Payment
Risks:
Distributor credit risk
This risk may be
highly concentrated
Customer credit risk
(if distributor has
little capital)
Product liability (any
case)
Distributor
Provides:
Marketing/Sales
Logistics
Service
Working Capital
Finance?
Risk mitigation???
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Diversified risk?
Low concentrations?
Single vs. multi tier?
How do you finance
receivables in EM?
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Distribution example
Credit Insuranceeasier to obtain?
Invoice discounting?
Factoring?
We are in Europe!
Sell
Supplier
Provides:
Marketing/Sales
Logistics
Service
Collections?
Performance risk
mitigation?
Distributornow agent?
Low working
capital needs!
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Diversified risk?
Low concentrations?
Single vs. multi tier?
No need to finance in
EM?
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Why Do You Need Working
Capital-Business Model?
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Working Capital needs are related to structure, not
necessarily value added
Supplier’s upmost concern now is risk
Learn the core lesson from banking crisis- the fact that you
transferred risk on paper DOES NOT mean you transferred
it if counterparty is or becomes week
Variety of legal structures to mitigate risk, while reduce
working capital needs
Similar models can be applied to contract manufacturing,
printing, material processing, etc.
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Example-Printing
Paper
Supplier
Printer
Publisher
• What
business the printer is in?
•What worries the Paper supplier?
•What worries the Publisher?
•What worries banks/factoring company/credit
insurer?
•Would acquisition resolve any of these?
• Is there alternative model?
•Whom do you need to speak about what?
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Supply Chain and Turnaround
Financing
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The supplier (even a highly distressed) is a lender,
providing next step in the chain (distributor, manufacturer,
end user etc.) with credit through payment terms
(sometimes they are the only or main source of credit).
Buyer of the goods can effectively provide money to the
seller through reduced payment terms without taking risk
(providing supplier fulfilled the contract).
This may provide a workable alternative to DIP (Debtor in
Possession) financing, allowing in some cases to provide
funds to distressed company without being affected by
possible bankruptcy procedures
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Supply Chain-its importance to
creditors and turnaround investors
Company’s working capital needs depends from business modeland this can be changed (meaning less money needed to support
the turnaround)
 Instead of distressed financing of troubled company, one can often
finance healthy one (such as its distributor) with the same net effect
but different cost and risk
 One needs to be aware of cross border differences- for example
there are more solutions for financing sales to Emerging Markets
from the West than for domestic financing within Emerging
Markets.
 Sick companies in healthy chains have much higher chances of
survival than in sick chains.
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Why Vertical Integration?
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Recent years show a global trend to “platformisation”
This was driven by lower transaction costs, supply chain coordination
and general low risk environment
This is changing now, as risk is again high on the agenda, and
transaction costs are up
Deals start coming - small and very large
Cost of acquiring supply chain partner may be lower than switching cost
Resolving of concentration problem- getting away from excessive
dependencies.
A lot of supply chain optimisation techniques designed for a “risk free”
world
In a risky world it is cheaper to have a solution within a firm- the very
reason firms exist (Richard Coase, Nobel price in economics 1991)
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Vertical Integration- Working
Capital Implications
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Buying a week player up the chain- moving from concentrated
non- financeable receivables book to diversified
Merged company can finance receivables- target on its own find it
difficult because of operational risks.
Inventories – can be managed down on elimination of bullwhip
effect and reduction of safety stock to cover supply risks
Payables. If target facing withdraw of lines from suppliers or credit
insurance, restoring of these can provide immediate working
capital boost.
Conclusion: Working Capital may change tremendously in a
successful acquisition, providing cash boost instead to cash drain to
acquirer
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Thank You and Good Luck!

Igor Zax, CFA, Sloan Fellow (London
Business School)
 Managing Director, Tenzor Ltd. (London)
 Tel: +447775708426
 E-Mail: [email protected]
 Web site: www.tenzor.co.uk
© Tenzor Ltd 2009-2010
www.tenzor.co.uk
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