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Light on the horizon
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Light on the horizon

The downturn has knocked many companies - over-confident and underprepared coming off some 15 years of unflagging growth - for six. However, experience borne out of the last recession, as well…

The downturn has knocked many companies - over-confident and underprepared coming off some 15 years of unflagging growth - for six. However, experience borne out of the last recession, as well as a more sophisticated array of financial options, has meant companies and financial institutions are better positioned to face their demons this time around.

Morgan Kelly, partner at insolvency services provider Ferrier Hodgson, says that the seemingly never-ending boom saw many company leaders forge ahead without considering the need for a back-up plan in case the tide turned.

"The standout message is that no one saw this coming," he says. "The CEOs of every company in the world - from the large right down to the SMEs - had no Plan B.

"They expected the good times to continue to roll and what we're seeing now in many cases is that the only answer for them is to sell off assets at the worst possible time in the economic cycle to cut their costs. This is what happens when you don't plan for economic cycles."

Paul Sweeney, managing director of insolvency services provider SV Partners, agrees that for many the downturn came out of left field. "[The downturn] came out of the blue for a lot of people," he says. "There had been talk about things having to change - because it was just so buoyant - but I don't think anyone expected it to happen when it did happen and I think people's planning has been poor as a result."

It's all downhill from here

Last year's mega-collapses - the fall of Allco, Babcock & Brown and ABC Learning - are just a precursor of what's yet to come on a broader scale when the downturn hits the real economy at full force, according to the insolvency practitioners Lawyers Weekly spoke to.

According to PricewaterhouseCoopers partner Michael McCreadie, the full impact of the GFC on the SME sector is still to be felt.

"I would say we're yet to see it. In terms of the flow-through to businesses, we'll start to see a sharp pick-up in problems coming through," he predicts. "What typically happens is that companies will try and do everything they can to minimise their cash outflows - such as cost reductions and laying off staff - with a view to trying to make things work. But that only goes so far, and then without the economy turning, those companies who haven't been able to correct their cost structures run out of options, and effectively hit the wall."

McCreadie points out that the last recession hit the financial markets in the late 1980s, but the impact on the broader economy didn't hit its peak until the early '90s.

Kelly agrees that for the SME sector, the worst is yet to come, and the drivers of its problems will be rising unemployment and falling demand.

"I don't think we've seen the worst of it yet - that's my opinion," he says. "We'll see the flow-on effects when small to medium businesses start to be impacted, and when good businesses - businesses that have good business models and good management - start to fail not through any fault of their own but simply because there's no demand. That's when it will hit the real economy. And the key driver of that will be unemployment."

Kelly points to the pubs, clubs and hospitality sector as one of the most vulnerable industries. "The impact of the smoking ban was quite traumatic on gaming revenues in particular, and given that pubs have been performing quite well for a number of years, a lot of pub owners have leveraged up and borrowed a lot of money against revenues. So when revenue drops they're caught short," he says. He also lists the retail, automotive and mining sectors as among those feeling the heat.

Second time luckier

While companies may have been caught off-guard by the downturn, Sweeney believes that both companies and financial institutions are being more proactive in their response than they were during the recession of the early 1990s.

"One of the encouraging things we're noticing this time is that people are coming and talking to us earlier than what has traditionally happened. It's quite a marked difference this time from [earlier] recessions, with people being prepared to be proactive and talk about what the problems are. There's also quite a marked difference with financiers - financiers are a lot more receptive to a workout arrangement than they have been in the past," he says.

Sweeney credits the introduction of the voluntary insolvency regime in 1993 as being one catalyst for this shift in mindset, though he concedes it has, at times, been the subject of some controversy.

"Originally when it started it was really seen by many accountants and lawyers as a tool to be used to turn businesses around, but unfortunately, in some quarters it got used as a means of getting businesses into liquidation," he explains.

"However, there have been some very good outcomes from a good number of voluntary administrations ... and it's now much more freely accepted by everyone that if you get in and do something early there is a mechanism that puts protection around the company and brings people together to try and find a result."

PwC's McCreadie agrees that there are now more options available to both companies and financial institutions facing financial distress, and he says that banks in particular are much more willing to consider alternatives to sending companies into administration. "Banks are conscious of what they need to do. If they were to just formally appoint and foreclose on all their problem loans then the size of the problem would be astronomical, so they're trying to work with the borrowers to work out solutions. They're a lot less trigger-happy."

Kelly says that more complex financing arrangements are another reason for the shift towards restructurings and workouts, at least for larger companies.

"The situation is more complicated. In larger companies there might be four or five banks involved, so it's not as simple as just appointing a receiver. What that means is that those slightly more complicated situations demand more complicated responses," he says.

Sweeney says companies are also taking a more positive, long-term view when it comes to staff retention, and are more open to using innovative strategies rather than making knee-jerk cuts. "A number of companies are really doing their best to retain staff this time around. They're [implementing] four-day weeks or nine-day fortnights, salary reductions and all those kind of things," he says.

"It's a combined effort between management and the people working in the business - they're all making some sacrifices. There is much more of a spirit this time that we have to work together to get through, and I don't think that spirit was as strong last time. That will stand us in good stead."

The silver lining

Despite these best efforts, there will no doubt be a fair few casualties as a result of the downturn. But Sweeney believes it's not altogether a bad thing, as it will flush out poorly managed businesses, forcing them to either fix things up - or fail.

"Those businesses that are able to take the opportunity to restructure themselves through this downturn and come out the other side - which a good chunk of them will - will be very well positioned to go forward," he says.

"The property boom and the [stock market] boom had [covered] up a lot of management issues, and now there's been the cleanout that naturally had to happen. Unfortunately it's been a bigger cleanout than anyone wanted, and the timing's different to what most people thought it would be - but the outcome for those people who are proactive about it will be good."

David Kenney, corporate services partner at insolvency services provider Hall Chadwick, agrees that the downturn will ultimately reward well managed, structurally sound companies, because customers will now be carefully considering the long-term viability of their suppliers.

"[Customers] are looking a bit more carefully at who they're buying from. They really want to make sure they get what they pay for and the [supplier] won't fall over in the middle of the contract," he explains.

"For anybody who's going to have a critical supplier for their business, when they are renegotiating, those smarter people won't just be looking for the cheapest price, they'll be looking at the deliverability of the product or service."

- Zoe Lyon

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