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Guiding a distressed company toward a soft landing is one of the most difficult tasks any corporate board can undertake. And without proper planning, boards can make it even more difficult.
“An optimal and orderly wind-down process requires a carefully crafted wind-down plan,” says David Johnson, Co-founder of Resolution Financial Advisors. “And crafting that plan requires assessing a number of factors, from cash flow to asset realization to creditor consideration. Our clients are often surprised when we begin listing the issues they’ll be facing.”
Johnson has more than 25 years of experience in the distressed business and financial sector and specializes in insolvency, restructurings, mergers and acquisitions, valuations, corporate turnarounds, financial modeling, and crisis management. He has overseen the orderly liquidation or successful refinancing of more than 500 companies, holds a B.A. in Mathematics and Economics from Franklin & Marshall College, and has earned the CFA designation and CIRA certification. Prior to co-founding Resolution Financial Advisors, Johnson spent 17 years with a middle-market advisory firm focused on insolvency, and earlier began his career at Alvarez & Marsal, providing interim management, forensic accounting, and valuation services.
“The dissolution process isn’t something boards can learn as they go,” Johnson says. “Handling it in the wrong way can lead to litigation; liabilities that affect officers and directors; a lack of COBRA coverage for terminated employees; and other negative results. Every board should engage in contingency planning with the assistance of professionals like insolvency counsel and/or others who know what to look out for.”
Skills gaps can delay orderly wind-down planning when insolvency is a threat
For every day they delay launching into pre-wind-down planning, boards lose some of the flexibility time provides. Still, a variety of factors can cause boards to resist the process. In some cases, it is simple denial, with boards choosing to see their company’s poor returns as a component of economic cycles.
“Founder-led boards tend to hold out longer for the possibility of a rescue, often longer than is wise for creditors and other key stakeholders,” Johnson says. “And sometimes, that rescue happens. But when facing financial distress, the wise choice is to develop a contingency plan that empowers the board with information and a reserve fund. If boards wait too long, there’s often little that can be done to avoid exposing Ds & Os to liability, even by financial advisors who are experts at closing a business.”
A skills gap is another factor that can often lead to delays. Board members who haven’t been through the process can miss the obvious signs a company needs to be dissolved, and those who do see the signs may not know how to proceed toward a well-executed wind-down process.
“It’s part of the board’s fiduciary duty to make fully informed decisions,” Johnson points out. “When they don’t have the expertise to put together and move through a wind-down checklist, they should work with an advisor who can help them fulfill those duties.”
When boards are developing a pre-wind-down checklist, financial advisors help educate them on the options available for closure. If and when the board decides to put a wind-down plan in motion, advisors can execute the chosen option to cease operations.
Assessing assets and liabilities is key to determining how dissolution should proceed
A wind-down process can involve costs spread across a number of categories, from legal and accounting to professional advisory fees. As part of the pre-wind-down process, boards should identify all expenses they may face and assess whether they have the cash flow to cover them.
“Optionality depends on the cash runway,” Johnson says. “But getting to a true understanding of the cash runway can be a challenge. Boards often focus on ‘fiduciary liabilities’ such as final payroll and PTO. But things like state sales tax and directors and officers liability insurance should also be on the list, along with a host of other considerations. Developing a comprehensive list of “fiduciary” considerations needs to be a part of the pre-wind-down process.”
Determining which funds can supply a cash runway and which are already committed to such a reserve is a critical task that may require guidance from an experienced financial advisor. For example, some funds may be in sweep bank accounts controlled by lenders while others might be needed for legal obligations, or federal and state tax filings.
“If a company sees cash running out within 90 days, they need to kick into crisis planning mode,” Johnson says. “At that point, the board should be on notice, as should any secured lenders.”
Ignoring the threat of business closure introduces new dangers for shareholders
When boards engage in the process of preparing a pre-wind-down checklist, they are acknowledging that corporate dissolution could be in their company’s future. Ignoring the threat only exposes the company to more dangers. To ensure the best outcome, they need to assess the reality of the present situation.
“There are definitely dangers to doing nothing,” Johnson says. “When boards don’t take control of the situation, they risk losing control through foreclosure, involuntary bankruptcy suits, or breach of fiduciary duty claims. At the very least, boards that don’t act prudently will see the enterprise’s value erode. Doing nothing is the worst thing a board can do when facing possible insolvency. Know your options, and be in control of the consequences.”
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