BY MARK FREEDLANDER & GEOFFREY COCKRELL,
PARTNERS, MCGUIREWOODS LLP
Financial distress often affects industry sectors as a whole due to pervasive economic issues. For
example, several large poultry producers
have sought bankruptcy protection
in recent years primarily because the
costs of raising poultry, such as feed
and utility expenses, exceed the price
at which basic poultry products can be
sold. In the dairy sector, raw milk prices
are fixed by class and do not necessary
reflect the rising costs of feed. Many
dairy farmers seek to bolster profits by
entering the milk processing business,
often using significant debt to do so.
Pervasive economic headwinds,
however, typically hurt some worse
than others within a particular industry.
Many times, the distinguishing
factors between those that survive
and those that fail can be explained
by the manner in which individual
competitors address economic distress.
This article outlines some key
general considerations that often
differentiate survivors from those that
fail in times of economic distress.
Look Beyond the Obvious. Companies
in financial distress often must look
beyond the most obvious considerations
when determining the best approach
for addressing their problems. Without
question, the ability to efficiently and
effectively address the most obvious
issues with prompt action, such as right-sizing a labor force when production
levels drop, is important. These actions,
however, may not be sufficient.
The right-sizing of a labor force, for
example, often provides long-term
economic benefits, but creates a
short-term drain on a company’s
liquidity as a result of severance
payments and other employee-related
obligations. More detailed analyses
often uncover issues or problems
of even a greater magnitude. These
may include operating inefficiencies
created by deferred maintenance
or capital expenditures, or out-of-the-money contracts with suppliers
or customers that have historically
profitable and longstanding relationships
with the distressed business.
While addressing financial distress
often requires triage, it is essential for
a distressed business to thoroughly
analyze the underlying bases for
economic distress before attempting
to implement curative measures.
Be Proactive. Hope is not a remedy for
economic distress; it is a significant
component of economic failure.
Simply waiting out adverse economic
conditions without a targeted action
plan to turn around a financially
distressed company is a luxury that
few distressed businesses can afford.
Instead, developing an action plan at
the earliest signs of financial distress
is a key component of success
and survival. Failing to do so many
times eliminates or reduces options
available to a financially distressed
business for addressing its problems.
The list of entities that sought to
address financial issues confronting
them too soon is very short. The list
of failed businesses that waited too
long to address economic issues,
on the other hand, is quite long.
Pursue Parallel Paths. Beginning
to address economic issues early
enough can provide a company
with an opportunity to pursue
parallel paths toward solutions.
For example, if excess capacity is
determined to be burdensome to its
performance, a distressed company
can simultaneously explore both
consolidation and the potential sale
of facilities or equipment. Likewise,
almost all distressed businesses need
to cut costs. Rather than focusing
major cost cutting in one particular
area, such as labor, a more effective
approach, if time permits, involves
establishing a menu of areas (i.e.,
labor, purchasing, administrative, etc.)
for contributions. This broader cost
cutting approach is preferred because