Distressed M&A: navigating the M&A storm

M&A activity has been reduced to a drip by the harsh realities of COVID-19. Many deals that were in process and on the market have either foundered on the rocks or have been put on hold. At the same time, there have been a number of transactions consummated where the underlying investment thesis stayed the course in this stormy environment. Unfortunately, these successes don’t represent today’s current reality for M&A activity over the near term.

Access to capital has been drastically reduced. Although private equity has billions of dollars ready for investment, current market conditions and uncertainty have them in dry dock, and understandably so. Credit markets have restricted, with traditional banks looking for only smooth seas. Only the right credit opportunities are entertained by credit committees considering appetites for risk, industry, size and other key investment criteria.

Compounding the situation is the focus of many financial institutions today: the demands of evaluating existing credit portfolios, while also managing the fury of activity related to the issuance of Paycheck Protection Program (PPP) loans. In the near term, this focus will shift to PPP loan evaluation and forgiveness, which will require significant attention in processing and regulatory reporting. As a result, current access to traditional debt and equity sources is greatly diminished due to many seeking needed capital and liquidity options.  

Climbing is the number of businesses and organizations that are in some level of distress at this time. The reasons are many, including significant drop-off in demand, regulatory shutdown, supply chain disruption, sky-rocketing bad debt and collection issues, and so on. When revenue declines, and liquidity dries up, the implications can be severe. Business owners, investors and management teams find themselves in a complex situation of managing immediate cost reduction and strains on working capital, while fixed cost commitments, debt service requirements and other financial obligations remain. Capital projects and other investments of a business are now in jeopardy, and further stress the health of an organization and its future. Cash flow and liquidity concerns are the key focus of many organizations at this time, as well as the evaluation of strategic alternatives.

These harsh realities will result in strategic changes in many organizations, such as restructuring of operations, debt or capital structures, as well as the sale of core assets or businesses. At the same time, there will be attractive investment opportunities in certain sectors as a result of depressed business valuations, lower stock prices and distressed debt situations. Others looking to embrace new opportunities to enhance and protect their value will seek investment in areas such as technology and communications. This investment will support a wide range of activities, including how we will conduct business, support commerce, teach the next generation and interact on a daily basis. The drivers of activity will be both opportunistic and necessity.

The saying by philosopher Sun Tzu has been retread many times, but does hold true. “In the midst of chaos, there is also opportunity.” Both financial and strategic buyers are gearing up to make investments whether in the form of equity or debt, as both will be trading at lower valuations in many situations. Also, the look, shape and feel of investments will likely include a larger focus on post-closing purchase price adjustments and more restrictive debt covenants. Baker Tilly is well-positioned to navigate business owners, investors and management teams through these distressed situations in the following areas:

Pre-Transaction support

• Distressed asset buy-side financial and tax due diligence
• Quality of earnings and the impacts of COVID-19
• Quality of assets and net working capital
• Transaction structuring and post-closing purchase price adjustments
• Sell-side transaction support
• Carve-out support and analysis
• Projection realism, financial modeling and cash flow forecasting
• Scenario analysis and contingency planning
• Capital raising and debt restructuring advisory
• Debt and distressed asset valuations

Post-Transaction support

• Turnaround and interim management
• CFO and Controllership outsourcing
• M&A-related claims and disputes
• Post-closing earn-out and purchase price calculations
• Integration and project-based accounting services
• Financial reporting and finance function stand-up
• Financial modeling and cash flow forecasting
• Liquidity and cash management
• Operating cash cycle optimization
• Cost take-out

For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.