Diamonds in the Rough: Buying Distressed Businesses

Corporate Finance & Restructuring

June 29, 2018


Diamonds can be found in the most obscure and hard to find places. Failing businesses, whilst often raising a myriad of red flags, can also on occasion be a gem worth investing in. Most Investors are concerned when it comes to buying distressed businesses, however, if assessed and transacted appropriately, significant benefits can be obtained through purchasing a business on the rocks - even those subject to an insolvency proceeding.

Can the gem be extracted from the rock?

It’s an unfortunate reality that many business sales promoted by insolvency practitioners never actually eventuate. This is because their appointment comes too late and any goodwill has been eroded or the timeframe to execute a transaction is so limited that it is difficult to conduct any thorough due diligence. There is simply no business worth saving and it potentially becomes a fire sale of assets.

When investigating the merits of purchasing a business in administration, it is critical to consider the following when developing a comprehensive due diligence program that addresses the key financial, commercial and legal risks involved with purchasing a distressed business. Prospective buyers must also be mindful that insolvency practitioners will likely have limited information and a short period of time to achieve a sale.

Financial performance:

Does the underlying business have the potential to produce future maintainable earnings or a contribution margin that justifies a purchase? Consider the benefits of removing the debt burden and the savings from consolidating or ‘bolting on’ operations to your existing structure. One of the key attractions of purchasing businesses through an insolvency proceeding is that unfavourable contracts (i.e. leases and employment agreements) can be eliminated prior to purchase. You have an ability to leave behind unwanted/unprofitable/burdensome contracts and contingent liabilities.

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