The challenges of family business (Part 2): Turning the corner

In the summer of 2008, it became clear that my dad’s business was in serious trouble.

He had spent around 15 years building the business and was proud of the legacy he could leave his children; recognising that it was crumbling around him was not easy and it was not something he wanted to share. By the time the full extent of the problems became apparent to us (his family) it was simply too late.

With the inevitable demise in sight, we needed a plan. I was two years qualified as a corporate lawyer, and in the climate of 2008 I was aware of something called a “prepack”. To explain, a prepack is an arrangement by which a business is sold by an administrator immediately upon their appointment, on terms that have been agreed prior to that appointment. So, essentially, the business is transferred to a new “clean” entity.

Often, the purchaser is associated (for example management or shareholders) to the insolvent business. This connection is really the basis of the negative sentiments associated with deals of this nature; the feeling that the parties who were responsible for the mess are able to shed all of the debts of the insolvent business, and carry on with flagrant disregard, sheltered from the storm they have created. In the circumstances of 2008, frankly speaking, that would have been appealing. The reality is that a prepack deal is not that simple and I will explain how it unfolded for us.

We needed to move quickly. By its nature, a distressed sale does not afford the luxury of time. Every day that passes, the more damaged the target asset becomes as the business starts to convulse as it moves towards its final moments. We identified an insolvency practitioner who would act as the administrator. The negotiation was not easy and was substantially different to a conventional business and asset sale.

(If I could give a single piece of advice to someone contemplating an arrangement like this it would be to get good advisers who understand the lie of the land. Otherwise, you can waste precious hours and days – that can be crucial in a distressed sale).

The prospective administrator was not inclined to simply roll over (rightly so). His obligation was to obtain the best possible return for the creditors of the business. That is really the crux of why a prepack is a legitimate option. In theory, by selling the business as a going concern, the administrator is able to achieve a better return (if the business is simply broken into assets and sold, customers go elsewhere, goodwill disappears, assets become redundant, and employees lose jobs). So, we agreed a price and formal terms of a deal. Upon the appointment, the administrator transferred the business to a new company set up by us.

That was really the easy bit. What followed was not. When you acquire a distressed asset, you need to recognise that there are reasons the asset is in such a state. In a prepack, you inherit those problems, and you also create a number of new challenges. A soiled reputation, dysfunctional culture, badly damaged relationships with suppliers and customers, funding issues, emotional turmoil and fundamental question marks about the basic viability of the underlying business were just some of the problems. You cannot simply click your fingers and overcome those things.

To give you an example, historical suppliers are often prepared to trade with the new entity. Some find this surprising. But, that willingness is based on pragmatism – trade, but trade on punitive terms. They rightly want to recover money that was lost to the insolvent predecessor, so ransom payments, premiums, pro forma buying, and zero credit are common. For a business that is undercapitalised, this has serious implications for cash flow.

“Turning the corner” is not an expression I instinctively like. In the final months before dad’s business entered administration, this was a phrase that he frequently used to describe the status of the business. In the first couple of years of the new business, this phrase was commonly used to explain how the business was progressing. At the time, I came to think that the particular “corner” being referred to was never-ending and was really just a circle.

In our first year we turned over approximately £700,000 and we lost approximately £300,000; eye-watering stuff. In our second year, we turned over approximately £850,000 and lost around £50,000. It was a very difficult time, and for the relative progress (we really had made a lot of operational improvements), we were slowly being crushed by the legacy issues, and as we crept further into the mire, more and more personal funds were invested.

What had started as an instinctive desire to protect dad had escalated to the point of pulling us all under. We were at risk of completely imploding, both financially and as a family. Whilst a family business can have many virtues, the catastrophic exposure we now shared across the family was an acute example of the perils that can also go with the territory. As we stared into the abyss, we desperately searched for options.

My dad was always a confident and resilient person. I suppose one flows into the other. He was unwilling to accept what seemed like the inevitable end. In my next blog, I will explain how his unrelenting determination formed the basis of us pulling things back from the brink and really starting to grow.

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