Notwithstanding the Federal Government's recent extension of the insolvent trading moratorium to 2021, talk of insolvencies and distressed assets is everywhere. If it's happening with respect to your own organisation then, understandably, this is not an easy time. But it is time to be planning ahead for multiple scenarios. One strategy you may be thinking about is selling underperforming or low-cash generating assets/businesses. While needing to do so may seem far off, there are many good reasons to start planning for it now. Here's why.
1. Managing perception of all the stakeholders
Even in the sectors which are hardest hit, some of your competitors and other opportunists are looking for easy targets. It is important to ensure that any sale process you run does not send the wrong message ("desperate") or undermine what you are trying to achieve ("good returns").
To achieve value from the sale, it needs to be managed so that it is not seen as a fire sale. Liquidators selling off assets do fire sales; if you are selling before an insolvency event, you want to do better than a liquidator. Everything from your marketing material to the way your staff talk about the business needs to be on point. Don't show desperation or give off a sense of urgency, and don't concede anything too early – these are all signs of weakness.
The messaging on the sale can have a knock-on effect for the remaining part of the organisation. The implied value in the remaining business will be hurt if the organisation acts with a sense of desperation or urgency that seems pervasive and not just limited to the sale assets.
Casting a wide net potentially creates better competitive tension (and, logically, a higher price), but it also requires you to disclose the status of your business and/or the sale assets to more people than you may care to. For most unlisted companies, your financial standing is not a public matter. It may be better to limit how many people you bring into the "sale bubble", or to stagger them as first preference buyers drop out. Consider also whether to involve competitors and how you will manage your information. There are ways to do this (aggregated data, black box processes, etc.), so don't discount those potential buyers too early. A balance needs to be struck here.
Your shareholders may have a constitutional or contractual right to participate in the sale. Even if not, they are an important stakeholder to keep on side when changing the scale of the business by a sale.
2. Prepare, prepare, prepare – in your own time
Selling or restructuring your assets or business is not your "core" business, but it will consume a disproportionate amount of your management's time – time you want them dedicating to steadily sailing the ship. Starting your sale preparations early means that you can spread the sale intensive activities over a longer period, reducing the impact on your business-as-usual. With time in hand, you can focus on some key issues.
Price plays a number of roles, and you need to think carefully about the following factors when pricing your asset sale:
- Price is an indicator of value and possibly the state of the organisation. Too low and it can suggest desperation and vulnerability which buyers may seek to take advantage of.
- The price needs to reflect an acceptable return so that the board can meet its director duties (acting in the best interests of the company as a whole), and set a floor to the price negotiations.
- If there is any risk of the company being later found to be insolvent at the time of the transaction (that is, unable to pay its debts as and when they fall due), the floor price needs to be set high enough to ensure that the transaction is not found to be an "uncommercial transaction". An uncommercial transaction is one which a reasonable person would not have entered into having regard to the cost/benefit to the company and the benefits to the buyer. Such transactions can be deemed voidable transactions by a liquidator appointed to the company. At all times, let the phrase "fair market value" be your guide.
- Price may impact the level of scrutiny buyers will bring to the transaction – too high, and buyers can become cautious and conduct more due diligence (impacting cost and time to close the deal) or seek a greater level of warranty and indemnity comfort (leaving more post-sale risk with you as seller).
For the board, there is a lot of comfort (particularly relating to the duties and uncommercial transaction risk) in obtaining an independent valuation. The instructions you give to a valuer are important to get right if the resulting valuation is to provide a shield against those risks. Valuations are complex at the best of times, with the wrong methodology resulting in being over or underpaid for the sale assets. In a distressed transaction setting, the added risk of unintentionally undertaking a voidable transaction is real.
Buyers will conduct due diligence ("DD") on the assets in order to assess whether to buy, the price at which they will do so and the risks in transacting to buy them. If you fully satisfy a buyer's DD requirements and make full disclosure to the buyer (warts and all), price will be maximised, you will generally have to make fewer concessions in the sale documentation and you will likely have less post-sale risk. Getting all this information together is time-consuming and best done with a bit of runway ahead of you. Your advisers will give you a checklist of items you need to pull together. At the heart of that list are the following concerns:
- What are the assets you are selling, where are they and do they comprise everything needed to run the business you are selling? Selling a "going concern" is key for a buyer (GST doesn't apply on the sale), so you need to ensure you are offering for sale "everything necessary for the continued operation of the business".
- Can you prove you own all the assets, are they fully paid for and does anyone else have an interest in them (like your bank, hire purchase financier or supplier with a bailment interest)? If you are running the sale in a rush, at least make sure the key value assets are "clean" from this perspective or that you know the pathway to delivering "clean" title.
- Are all the key customer and supplier relationships well documented, do you have copies of all the relevant contracts and are the relationships on a good footing? Buyers tend to focus on the top 10 customers and suppliers (subject to their percentage contribution to revenue or expenditure), so it is worth spending time on getting a good handle on the administration of those documents, checking whether you will need their consent to transfer their contracts to the buyer and anticipating any issues you may encounter in trying to get those consents.
- If you are conducting the sale by selling a subsidiary entity, are all the assets in the one entity and is selling that entity a viable option? Buyers prefer not to acquire an entity with a long trading history and the potential for legacy tax, employee, customer and other claims. Ideally, if the assets are cleanly domiciled in a new entity before the sale process kicks off, buyers will more likely entertain acquisition of the entity, require less warranty and indemnity comfort from you and be able to complete the sale more quickly.
- Are there important regulatory authorisations needed to operate the business, are they in good standing and how difficult is it to transfer them? Most buyers will sign the sale agreement and then wait for key regulatory approvals to be obtained, but the current regulatory environment (during COVID-19) has slowed down decision making and processing at many government departments. Waiting for approvals can delay completion (and payment), so if there is anything that can be done to minimise regulatory disruption, that is time worth spending now.
Involve your tax advisers early to ensure you understand the post-tax value you will receive from the sale transaction and what new taxes you may trigger as a consequence of the sale.
3. Stress-free sale process
As noted at the outset, once the sale process is in full swing, it can take up a lot of management time. There are some ways to build efficiency (time and cost) into the process and, at the same time, give confidence to buyers that you are easy to transact with (which reduces their costs also).
Use an online data room
Preferably an M&A tailored product rather than DropBox or Google Drive. Tailored products have great functionality for both hosting your documents, timestamping when they are uploaded, identifying who has accessed them and running a tracked Q&A process. This is worth every cent of the investment, although you should shop around. Set up the data room early, have lawyers and accountants create a list of what they would want to see and start populating it so it's ready when you go live.
Ideally, avoid "foreign" buyers
With the COVID-19 measures announced in March 2020, any buyer with a foreign pedigree will need approval for an entity acquisition regardless of the value of the transaction. On the other hand, if you are selling a business (assets) not an entity, then such an acquisition by a foreign buyer is not subject to mandatory notification to the regulator (the Foreign Investment Review Board) in most cases other than for an agribusiness or where an interest in Australian land is involved (which includes some leasehold interests and interests in land entities).
Create a team (at least partly) dedicated to the sale
This could be an internal team (in which case redirecting some of their usual duties would help keep them focussed) or bring in someone to run the process, whether an adviser or a freelance M&A specialist who could do the work on a contract basis. That team runs the process, manages the interference between buyer and company, and can provide timely reports to the CEO and the board, leaving the rest of the organisation to get on with running the business.
Know your non-negotiable deal terms
You should be clear about what your bottom line is on the key deal terms, be it price (will you accept a discounted up-front price with earn-out payments after completion depending on performance of the business?), payment terms (will you agree an escrow of some of the purchase price to protect the buyer against warranty claims?), extent of warranties and indemnities you will give, whether you will allow the buyer to terminate if business conditions deteriorate between signing and closing the deal, etc. This gives the deal team certainty when negotiating with a buyer and allows early signalling so that you don't waste time with buyers who are not interested in those deal terms.
Agree (and ideally draft) the "tone" of your first draft of the sale documents
Buyers want to know you will be easy to transact with and a balanced set of sale documents (not too biased in the seller's favour) will give them that confidence up front and set a tone for the entire engagement. Explore this with your lawyers early.
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