A valuable lifeline for business - Graham Bell

In 2020, the Government put a protective shield around businesses by restricting creditor enforcement action.

Graham Bell is a Partner at Wright Johnston & Mackenzie LLP

It has been a valuable lifeline and, via guaranteed loans and tax deferrals, the policy has also been to help liquidity to meet essential costs.

However, ultimately, debt will need to be repaid, and Government protective measures will taper off, allowing creditors to take recovery actions. When debt has been layered on debt, many businesses may find their balance sheets unviable.

In some cases, refinancing will be possible. In others, business reconstruction will be required to achieve deferral, amendment and reduction of debt levels.

Business reconstruction could be a way out if facing difficult decisions

Those who take the reconstruction route might find it involves compromise with creditors and other stakeholders, and in some cases a formal insolvency process might be needed to protect the business during the compromise negotiations.

So how can businesses avoid the cliff edge?

The most effective business managers and leaders focus on the horizon, see obstacles looming and start corrective action before issues become critical. If hard questions are only asked in response to creditor pressure, it will be more difficult for corrective action to be successful.

If a business fails, many stakeholders are affected: owners; employees; customers; suppliers; landlords of property; the wider community where employees spend their income; and government, when the “tax take” reduces.

However, the liquidation model is not about continuity. It usually involves cessation of the business, sale of all assets, and creditors sharing in the second-hand sale proceeds.

A business reconstruction, however, is about continuity rather than wind-down. It can pave the way for a future that generates a better return over time. For example, employees can retain employment, suppliers can keep their customers, landlords can have occupied outlets rather than empty ones and the “tax take” can resume.

Is the business reconstruction route right for you? Unless your management team can clearly identify what has gone wrong and find a way to avoid it recurring, it is likely the pain and effort of business reconstruction will not lead to future success – only postpone eventual collapse.

Sometimes, though, there is one readily identifiable issue. Perhaps a large bad debt has put the business in difficulty, or the skills base of management is the problem and a change in personnel is required. If stakeholders (lenders, customers, employees) are being asked to incur a short-term loss in exchange for a longer-term ongoing relationship with the business, they will evaluate management strengths and weaknesses as part of their decision.

I have seen many companies utilising reconstruction as a means to safeguard their future. One such client had a strong business in Glasgow and expanded into another city on the back of an opportunity from a large customer. A new depot was required and it came with an expensive 10-year-lease.

Two major issues arose – the customer changed their mind, and the pandemic meant there were no prospects of winning other business. Despite entering into a dialogue with the landlord about surrendering the lease, including offering a reasonable cash amount for exit, agreement could not be reached.

At this stage – before the rent and service share payments could cause too much damage – the company followed their accountant’s advice to seek help from an insolvency practitioner.

After exploring all other options, the solution was to transfer the business and assets to a related company at market value (as measured by an independent business valuer), followed by liquidation of the original company.

Other factors, like personal guarantees, could be navigated. Meanwhile, the problematic depot lease was not transferred.

Thanks to prompt and decisive action, and good communication, so far suppliers, customers and employees have all been happy to support the solution.

If you are facing difficult business decisions, be mindful that the reconstruction process is never blessed with the luxury of time. Payment delays are a tell-tale sign of problems to everyone who deals with your business.

Look ahead to pinpoint issues that could cripple your business in future, and if you identify any, be focused and be fast in dealing with them.

Graham Bell is a Partner, Wright Johnston & Mackenzie LLP: www.wjm.co.uk