Distressed Private Equity

Spinning Hay into Gold

 

Growth in assets under management and competition for attractive investment opportunities have not only caused hedge and private equity fund managers to broaden the range of prospects they pursue, but also to converge their investment styles. How this union works in practice has been exemplified by the emergence of distressed private equity.

 

Investors in distressed private equity are neither short-term debt traders nor buyers of stable, cash generative companies. The strategy, also known as ‘distressed-to-control’ or, less eloquently ‘loan-to-own’, involves the purchase of troubled company debt with the aim of converting that debt into a controlling equity stake in the restructured business. The position might be sold soon after the debt-for-equity exchange (which itself could take one year or more), or held for longer – perhaps through an operational restructuring, to allow the equity to appreciate. Either way, the distressed private equity investor needs the analytical and bankrupcty-specific skills of the distressed trader, the medium-term business planning and board-oversight skills of an LBO investor, and the ability to drive a restructuring process (either in or out of court) while a company is going through crisis. Thus the strategy requires not only deep specialist skills, but also the ability for the fund manager to invest significant time, energy and resource into the restructuring process – inevitably at the expense of working on other opportunities.

 

While the returns of more traditional private equity fund types such as buyout and venture capital are generally positively correlated to economic growth, the reverse is true for distressed private equity funds; the constriction of the credit markets and slowdown in economic growth in general has equated to an abundance of viable distressed private equity investment opportunities for fund managers.

“Buy Low, Sell High”

The mantra “Buy Low, Sell High” will never die. There is no better example of opportunities to get assets on the cheap than during times of distress and duress.

 

Distress does not necessarily mean the end of the road for your business. For instance, many companies in distress, with the right partner, can find unique, creative and long-lasting ways to restructure, reorganize and regroup to ensure the business and its profits last for years to come.

“The Chinese use two brush strokes to write the word ‘crisis.’ One brush stroke stands for danger; the other for opportunity. In a crisis, be aware of the danger—but recognize the opportunity.”

John F. Kennedy

Our Distressed Private Equity fund seeks control through acquiring equity, or acquiring debt and then swap to equity after restructuring/reorganization. So depends on the invested firm, we focus on either operational or the financing side. Depending on the transaction our sweet spot is between 5-20 million USD but depending on the situation, with our external partners we can go much higher.

 

On the initial analysis, capital structure is the most important thing when we first look at a distressed firm and see where the value breaks – we need to understand the seniority, dig into notes and also consider the local legal system in different countries. Like any other investment, it’s crucial to understand the business model/management team and what went wrong. Therefore we analyze the fund holistically from both the financial side and operational side.

 

Depends on the analysis, we propose an investment thesis on what to buy – senior debt/bank loan/unsecured bonds or equity. At the initial stage it’s tough to say how we could exit the investment but distressed PE funds always seek control opportunities. During our analysis we should also be able to understand the cost structure and the problem of its business model/management – then we could make an initial judgement on where the firm could improve – financial / operational etc.

Where Private & Hedge Equity Converge

The services that we provide which could also mean the difference between survival and a quick fire sale:

Restructuring existing debt and equity

Profit & Loss Statement improvements

Debtor-in-Possession (DIP) and exit financings

Complete corporate recapitalizations

Reorganizations in ideal out-of-court scenarios

Cash and working capital management

Specialty situation financing & transactions

Design and execute robust, value-maximising general distressed M&A processes

Implement a tailored transaction strategy to preserve and realise value for stakeholders

Manage uncertainty and resolve complexity in what is often difficult and uncharted

Maximise competitive tension

Representing buyers and sellers of distressed companies, divisions, and assets

Sales of performing and nonperforming loans & Bulk sales of assets

Business and securities valuation

Structuring, negotiation, and confirmation of plans of reorganization

Corporate viability assessment

Litigation support and expert testimony

Pre-packaged and pre-negotiated plans of reorganization