Michelle Rodger: Get ready to ride insolvency wave as recovery starts

Published on Saturday 30 January 2010 14:24

SO THE recession is finally over. But don't think it's going to be plain sailing from here on in. Experts warn that companies are at greatest risk of insolvency during the early part of a recovery.

According to R3, the trade association for insolvency practitioners, the number of insolvencies will continue to rise, reaching a record level of 28,000 this year, and remaining high in 2011 at 27,000.

The problem is it takes a considerable time for the tangible benefits of recovery to filter through, particularly when the previously "flexible" approach of suppliers and landlords abruptly ends.

If you look back at the recessions of the 1980s and 1990s, personal and corporate insolvencies peaked after the return to growth, and the trend, say the experts, is set to continue this time. R3 warns many businesses are ignorant of this so-called "insolvency lag" and are ill-prepared.

However, this trend also brings opportunities. The number of distressed sales, where businesses are bought from liquidation or receivership, is rising and savvy entrepreneurs are benefiting.

One in 11 corporate finance deals completed in Scotland last year involved the acquisition of an insolvent business, compared with one in 32 deals in 2008, according to research by Experian Corpfin for R3. Some are pre-pack administrations but others are acquisitions by bargain-hunters.

Mercenary practice? You might think so, but the truth is it's a win-win situation. In many cases employees get to keep their jobs and for the most part it's service as usual for customers.

As John Hall, R3 council member for Scotland, puts it: "Each of these statistics represents a business that is being given a second chance of survival."

The construction sector, particularly hard hit by recession, offers a significant number of opportunities, a fact that hasn't been missed by property developer Jonathon Milne of the FM Group. Currently rebuilding his business after the crunch, Milne has identified a number of options in these much tougher market conditions.

He is keen to play a part in getting housing developments that have stalled or failed moving again and says he is talking to a number of receivers and liquidators about opportunities where his firm can utilise its expertise and resources to take these projects to completion.

Buying businesses in distress is an attractive growth option for entrepreneurs too. Not least because they tend to be cheap and have assets – including staff and customers – that would take time to build up from scratch.

There are, however, a number of things buyers need to know, whether acquiring a former competitor, a business that fulfils a key role in their distribution network or supply chain, or even if branching out into a new market.

The first is this: why is the target business in trouble? Deliberate, determined due diligence is essential but you need to look deeper than the financials. It's clearly not a bargain if the business has no demonstrable demand for its product or service, or is trying to compete in an industry near the end of its lifecycle.

And you need to be honest with yourself. Entrepreneurs have this inherent belief that they can run a business better than anyone else, and it's not always true. It might be a venture in which you've always wanted to invest, but if you don't have the relevant skills or contacts then it's probably not going to be a success.

So how do you make the most of a bargain? Well, you need to be quick off the mark and prepared to work at an accelerated pace and produce funding just as quickly.

Former R3 president Nick O'Reilly believes a cash deal is always more attractive than some form of deferred arrangement for an insolvency practitioner. There are a number of things you need to do, says O'Reilly, such as establishing if anyone else has registered security over the company's assets, whether the assets are subject to a retention of title deeds, which means that suppliers actually own them until they are paid for, and whether the employees' existing contracts should be transferred under TUPE – Transfer of Undertakings (Protection of Employment) regulation. Buyers should also be aware that many contracts with customers, suppliers and even landlords include an automatic termination clause in the event of insolvency.

Not surprisingly, O'Reilly's top tip is to work with someone who has experience of doing deals in similar circumstances, who will understand the nature of the deal and help guide you around any possible pitfalls.

Unfortunately – or fortunately for some – there are many failing businesses to choose from and few serious buyers in the market. If you have the cash and nous to turn around a failing business, then there is no better time than this to get involved.