- Industry: Professional Services
- Funding: $5m
- Leverage: >4x EBITDA, ~2x adjusted for WIP
- Term: 2 years
- Purpose: Refinance Bank, ATO, Unsecured Creditors
- Security: Charge over Firm entities, Personal Guarantee
A professional services firm with gross revenues of circa $7m pa had found itself under significant financial pressure – not because of a lack of profitability, as it was performing quite well indeed – rather, due to internal financial management issues.
The firm’s external accountant had been putting in significant amounts of work on a weekly-basis for an extended period of time, providing external financial oversight & advice, as well as never-ending negotiations with the firm’s Bank. Not to forget the ATO, with which they had somehow [and incredibly as we’ve never seen anyone achieve this so many times!] successfully renegotiated tax repayment plans countless times (and I do literally mean countless).
The ATO balance had got to a point whereby it was in sight of $1.5m, which is a very big number in any situation, but was particularly so for a business with a turnover of less than $10m. The real problem here was that the ATO doesn’t do long-term repayment programmes – so the monthly cashflow drain of the repayments was absolutely killing the business.
The sole Director/Shareholder of the firm also had their family home, valued at about $2m, with a home loan of only about $1.2m; but it was mortgaged to the same bank and cross-secured with the firm’s bank debts (so the bank had full rights to take 100% of any sale proceeds, and could block any attempt to refinance just the home).
And the real pressure – the bank had got so sick of the file being in their “bad bank” division with no material improvement, that they had started issuing Letters of Demand from their external lawyers, threatening to appoint Receivers and wind everything up.
Based upon our initial review, it was apparent that there was nothing actually wrong with the business itself. In fact, it was fundamentally quite a strong business, heading on a solid growth trajectory, with very respectable profit margins.
The essence of the problem came down to circumstances that had arisen outside the business a few years earlier.
Analysing the quantum and types of business and personal debts, we made the following assessments:
- The home had to go. It had a good chunk of equity in it (that the bank could take full proceeds of though, given it was supporting security for the firm’s loans) and, quite simply, a $2m reduction to overall debts was much needed. Furthermore, based upon our experience, selling it was critical in getting the bank to agree to provide more time. So with a rather firm hand (“tough love”), we told the client that we would only agree to be engaged, if the house was put on the market immediately. To which there was no argument.
- Refinance to another Bank? No chance. Whilst the business fundamentally had no trading or profitability issues, Banks HATE outstanding ATO debts, irrespective of the amount (we’ve even had banks demand that an ATO balance of only $10,000 be cleared when writing a $10m loan, so imagine the chances with over $1m in ATO debt). Therefore, a non-bank solution would be required, from a lender that is active in the distressed debt market; furthermore, one that is comfortable lending purely against the business itself, given that there would be no real estate or any other tangible assets to provide as security.
- Borrowing TIME from the bank was necessary as the process wouldn’t be super-quick, as distressed lenders naturally do far more due diligence than normal lenders, given they’re taking far higher risk. We needed the bank to put their lawyers to sleep, which would require a bit of “quid pro quo” from us and the client…
- Agreed initial high-level terms with the bank. Particularly: “if we get the client to sell the home, we will immediately work on refinancing the debt to pay you out, but we need time to do this”. Done.
- FYI, I’ve just made this sound far easier than it was. There was a lot of strategic thinking, positioning & negotiation that went into getting the bank to agree to this, as they were very sceptical at first.
- Family home sold. With the client realising the seriousness of the situation and the fact that we had a clear and actionable strategy, they put the property on the market straight away, with a sale achieved quickly thereafter.
- Terms achieved. Working collaboratively with the accountants and another advisory firm, a number of Fund Managers that are active in distressed cash-flow lending were approached. Working through lengthy negotiations and pre-terms DD, a workable funding solution was secured with a Sydney-based Fund.
- Funding Approved. With the client agreeing to the terms, the lender engaged an insolvency firm to undertake detailed DD, in order to provide them comfort that the quality of the business and the underlying issues that caused the distress, were as had been portrayed to them. Signed off & done.
- Settled. Refinanced the bank, 100% of the ATO and certain unsecured creditors that were critical to the business.
A quick note on “haircuts”:
You might be wondering about why we didn’t negotiate a “haircut” to the bank’s or the ATO’s debts – i.e. getting certain creditors to agree to being paid a discount on their debt (receiving “x cents in the dollar”).
In this situation, all involved (including the bank) knew that certain assets within the balance sheet could be sold for enough to clear out the entirety of the bank’s debts without much risk; but, doing so would send the business under. Which shifted the power totally on to the bank’s side. Which in turn makes it pretty difficult to ask them to take a haircut.
On the ATO, it was then over to the accountants to negotiate a refund of interest charges – to which he was successful, to the tune of a very respectable 6-figure sum.
Why is a High Interest Rate a Good Thing?
Although non-bank distressed lending certainly doesn’t come at a cheap cost, the very good reasons the client chose to agree to the terms were, quite simply:
- A clean slate to start afresh, with the threatening bank out of the picture, ATO back at a nil balance and critical unsecured creditors cleared;
- Cash flow significantly improved – although the interest rate was much higher than the bank’s and a little higher than the ATO’s, it was the principle repayments that had been killing cash flow;
- Clear pathway to get the business refinanced back to a bank in 12 to 18 months.
If anything in this case study resonates with your situation, or that of a client’s, get in touch and we’ll be happy to discuss your situation and what realistic, appropriate and achievable options may exist (naturally on a highly-confidential basis, or even anonymously in the first instance if about a client).