Delicate Balance: Redemptions, Opportunity: Hedge Fund Insiders Meet on Stopping The Worldwide Financial Earthquake
April 7, 2008
NEW YORK - Things look pretty dismal when a company is burning cash and can't replace revenue, in a week when even the chairman of the Federal Reserve goes against administration policy to acknowledge a broad and deepening recession in the U.S. However, if the situation is addressed early enough, problems can be fixed before they get out of control.
That and other key factors that mutual fund executive should scrutinize in the equity and fixed-income markets were among the topics that hedge fund, investment banking and other high-net-worth asset managers discussed at a Turnaround Management Association workshop at the University Club here last week.
Sometimes restructuring and redemptions are necessary to save a firm from bankruptcy, but often managers go too far, or not far enough, when addressing problems, said Bryan Marsal, co-CEO at the global consulting firm Alvarez & Marsal. Portfolio managers have a plethora of options to consider before calling in outside help, he said.
"You have to tailor your clothes to fit the body," Marsal said. Making a suit to fit a 300-pound person is wasteful and overkill when the person weighs 200 pounds, he said. Companies waste both money and time trying to come up with a financial solution before looking for other solutions.
These are, indeed, dark times for overleveraged corporations, but much like Debtors Anonymous offers help to compulsive borrowers, the smart management of cash can help even large firms cut their losses before they're faced with debtors' prison or bankruptcy court. The first step is realizing you have a problem.
"Sad are we who borrowed too much," he said. "Credit coverage is the poorest in history."
It is likely defaults will continue to rise, Marsal warned. They could potentially quadruple from their current rate, approaching the default rates of 2001. The result will be higher leverage and lower credit coverage, he said.
Sometimes management doesn't notice the cliff ahead and doesn't make the adjustments to keep from going over the edge, commented Saul Burian, managing director at the international investment bank Houlihan Lokey Howard & Zukin. Even after they tip over the edge, some managers are still focused on the 30 seconds they have while the car is falling before it hits the bottom, he said.
"I'm very critical of Bear Stearns for not anticipating these problems," said Sean Mathis, managing director at the boutique investment bank Miller Mathis & Co.
Bear Stearns' stock took its famous nosedive last month before being rescued by the Federal Reserve and JPMorgan Chase, at an alarmingly deep discount.
Many other troubled investment companies have received cash infusions from the Federal government, as well as other companies and sovereign wealth funds, but these lenders are becoming more cautious about who they give money to as the economy continues to darken.
"Cash is king," said Michael Blumenthal, a partner at the international law firm Thelen Reid Brown Raysman & Steiner. "Preserve your cash. Lenders don't want to advance money to a company in trouble."
Even healthy companies can get in trouble if they are overleveraged when an economic downturn hits, Blumenthal said. Senior management should take a good look very early on to identify upcoming problems. If things look bad, getting advice from an outside advisor can generate new ideas as well as provide protection against future lawsuits, he said.
Very quietly, banks are very pulling back on credit lines, Mathis added. "You may not be getting those waivers you think you're going to get," he said.
While banks don't want to grant waivers if the company is facing an even darker future, banks don't want a company to go into bankruptcy and often would rather create that crisis sooner than later to avoid a larger problem, he said.
"Bankers realize people in companies don't have the expertise to deal with these problems," Mathis said. "If you're in trouble, you need to bring in people who know how to do this. You don't want to get into a liquidity crisis today. People talk about cuts for months, but they need to do it early and save cash. Plus, it will help them gain credibility with their bank."
It's always better to make small corrections far in advance, but when disaster strikes, managers need to get rough and tough. Usually a hired gun is the best option, experts say.
"You may need to go in in a Draconian manner and shut down anything that isn't producing cash," Mathis said. "Suspend operations. There is always a part of your operation that you may need to shut down."
The "zone of insolvency" is difficult to define, but when a company has no hope of paying its debts, it's time to "cut and run" or see if the company can be sold to someone else who can make it work, Burian said.
"Stop the cash burn and sell these liquidities," he said.
A quick sale is usually not in the best interests of the company or its shareholders, but sometimes it is necessary. "There is money available on both the debt and equity sides," Burian continued, "but it takes more work and lead time to find it. People are not jumping to buy companies. It's important to start early in order to find the right partner."
(c) 2008 Money Management Executive and SourceMedia, Inc. All Rights Reserved.