Acquisition of Distressed Assets

As banks and other traditional sources of capital find their balance sheets reflecting more and more under-performing assets, lending standards continue to tighten, leading to the well-publicized lack of commercial credit. Alternative sources of capital, such as private equity financings or the public securities markets are also out of reach for many companies. As a result, an increasing number of companies find themselves facing a significant liquidity crisis, with many seeking protection in bankruptcy proceedings.

The Administrative Office of the U.S. Courts reports that over 43,000 businesses filed for bankruptcy during 2008, while the American Bankruptcy Institute reports over 14,000 bankruptcy filings by businesses during the first quarter of 2009, an increase of approximately 30% on an annualized basis.

Similarly, all Indian banks in its Q3 FY10 results have shown a substantial increase in both gross and net NPA. They all have separate department under General manager to deal with issues arising out of NPA and also the authority to sell such assets to Asset Reconstruction companies.

Although the current economic climate poses challenges to distressed businesses, it may also provide opportunities for more economically sound companies to acquire key assets or lines of business at bargain prices. But are these deals too good to be true? Unfortunately, there is no “one-size-fits-all” answer, but here are some key questions to ask when contemplating a transaction with a distressed company:

Have you considered the costs beyond the purchase price?

Acquisition of Distressed Assets can be time-consuming and expensive, both in terms of management attention and outside counsel fees. For these reasons, many directors assume that purchase of a healthy business is preferable to buying Distressed Assets because it involves lower transaction costs and requires less time to close.Once the transaction costs of legal proceedings and additional compliance to acquire NPA from ARC or bank directly, are factored in, the bargain price a purchaser thought it was getting may not be so attractive.

Is it a deal or a steal?

If the Potential purchaser follows the advice of management and negotiates a purchase of key assets from a distressed competitor without taking control of the whole company, there are other issues to consider. While the purchaser can, and should, use the negotiating leverage provided by the target’s financial distress, but at the same time, the deal must provide reasonable value for the assets being acquired. This is because it should get free and future ligation-free title to assets acquired and possibility of any creditors or other stakeholders to claim that transaction was mala-fide /fraudulent and price paid was not based on commercial value considering all the circumstances.Key Questions for Directors occurred, regardless of whether there was any intent on behalf of the parties to defraud creditors. There is no single definition of “reasonably equivalent value,” but courts will often look to the fair market value of the assets acquired, with adjustments deemed appropriate given the circumstances surrounding the transaction. Even if the fraudulent conveyance claim fails, defending against such a claim of could result in significant costs

Who are the target’s creditors? When dealing with a distressed company, a potential purchaser must understand the target’s creditor base, including the scope and nature of the indebtedness involved. If the company has debt secured by its assets, it will be impossible to acquire those assets free and clear of the lien outside of debt recovery tribunal without either paying the secured debt in full or making another arrangement with the secured creditor. Another option is to arrive at the settlement with secured creditors and make them confirming party to the transaction.

Even if a company does not have any secured creditors, a potential purchaser should also consider the trade and other unsecured creditors of the target company. Trade creditors often consist of suppliers or service providers who are critical to the operation of the target’s business. If the value of the acquired assets depends on the continued goodwill of these unsecured creditors, the purchaser must carefully consider how those creditors will be treated in the transaction. If the unsecured creditor base is disorganized and dispersed, the purchaser may have more success in striking individual deals that maintain good relations with those creditors after the closing. If instead, the creditor base is tightly-knit and organized, the purchaser will have to deal with the creditors as a group, which may prevent the purchase from striking a deal on as favorable terms as it would like.

Finally, there is always a risk that the target’s creditors will file an involuntary bankruptcy petition, forcing the target company into bankruptcy. Understanding the company’s creditor base in advance will help directors better assess which creditors have the most to gain from such an action.

Are you protected after the purchase?

A final consideration when dealing with a distressed company is the potential for successor liability after the purchase and what, if any, indemnification will be available to the buyer. Although the buyer should seek to structure the transaction to limit the liabilities assumed by it, A potential buyer is exposed to potential claims from frustrated creditors- primarily that by purchasing the assets of the distressed company, the buyer also took on the liabilities of that company. Contractual indemnification may provide little comfort in these situations, as the distressed company may be in no position to honor any indemnification obligations under the purchase agreement, particularly if the company has gone into bankruptcy following the purchase.

Structuring of the transaction in a way that a buyer acquires assets and does not take over any liabilities is very important. But such a structure may not be tax efficient and generally does not permit a buyer to adjust past tax credit available to a seller and also generally involves payment of much stamp duty on such sale. Regardless of whether a transaction with a distressed company is with attached liabilities or not, a buyer will seek a post-closing escrow or purchase price holdback to secure any indemnification obligations of the seller. As a practical matter, the funds escrowed or held back will likely be the only funds available to address damages suffered due to breaches of the seller’s representations and warranties. Evaluating a transaction with a distressed company involves a number of practical and legal considerations. Directors must analyze these considerations to avoid getting more than they bargained for. Nonetheless, through careful analysis and negotiation, economically sound companies may find good opportunities to acquire key assets or lines of business at bargain prices.

Strategy in Uncertain Times

The economic shock of 2008 and the Great Recession that followed did not just create profound uncertainty over the direction of the global economy. They also shook the confidence of many business leaders in their ability to see the future well enough to take bold action.

It’s not as if CEOs don’t know how to make good Decisions Under Uncertainty. One of the tools used is scenario building.Scenarios are a powerful tool in the strategist’s armory. They are particularly useful in developing strategies to navigate the kinds of extreme events we have recently seen in the world economy. Scenarios enable the strategist to steer a course between the false certainty of a single forecast and the confused paralysis that often strike in troubled times. These approaches are extraordinarily valuable amid today’s volatility, and many well-run companies have adopted them, over the years, for activities such as capital budgeting. The very process of developing scenarios generates deeper insight into the underlying drivers of change. Scenarios force companies to ask, “What would have to be true for the following outcome to emerge?” As a result, they find themselves testing a wide range of hypotheses involving changes in all sorts of underlying drivers. They learn which drivers matter and which do not-and what will actually affect those that matter enough to change the scenario. Sudden spikes in raw-material costs, unexpected price drops, major technological breakthroughs-any of these might take down many large businesses. Companies can’t build all possible events into their scenarios and should not spend too much time on the low-probability ones. But they must be sure of surviving high-severity outcomes, so such possibilities must be identified and kept on a watch list.

The analysis generated by scenario building or any other techniques is not enough. What is very important is making decisions when the time is right and before any of the competitors. What CEO must do is to set a goal which is considered as robust scenario even in a downturn without being over optimistic. He must provide inspiring leadership and communicate single goal.


One must have innovative strategies to achieve the goal. This will be possible by bringing senior leadership on the same page. The smaller the number of leaders, the easier it is to have the intensity of interaction needed to make critical decisions effectively and collaboratively. On the other hand, the number must be large enough so that the people involved in decision making can collectively access the full spectrum of knowledge embedded in a company’s people and its relationships with other organizations. The knowledge, skill, and experience of these leaders make them better suited than anyone else to act decisively when the time is right. Such executives are also well placed to build the organizational capabilities needed to face critical issues early and then use the extra lead time to gather intelligence, to conduct the need analyses, and to debate their implications. This will require moving toward more dynamic management style which includes migrating away from rigid, calendar-based approaches to budgeting and planning. This will require collectively significant, shifts in their operating practices

Since determining what to do under uncertainty usually requires careful debate among many people across the entire company, you need processes and protocols to determine how issues are raised, how deliberation is conducted, and how decisions are made. You also need to clearly lay out the obligations of managers, once the debate and decision making are over, to put their full weight behind making the resulting actions successful.

Just-in-time (JIT) decision making:

Much of the art of decision making under uncertainty is getting the timing right. If you delay too much, opportunity costs may rise, investment costs may escalate, and losses can accumulate. However, making critical decisions too early can lead to bad choices or excessive risks. The timely decision is more important in the early identification of opportunities and threats from external factors on which company has no control. Which includes changes in demand, technology micro economic factors, valuation of currency, changing interest rate etc. If a critical issue surfaces early, there is usually enough time to use proven problem-solving approaches to making decisions under uncertainty.

Structuring of decisions:

Decision tree help managers think about the structuring and sequencing of their decisions. Probabilistic modeling is useful for understanding the economic consequences of potential outcomes. Breaking big decisions into smaller, well-sequenced ones, helps organizations move forward without taking excessive risks. Identify and implement decisions which are valid in any scenario at the earliest.


Unique and compelling solutions valued by customers’ create competitive advantage and differentiate shareholder value. This should be supported and achieved trough Operational and customer Excellence Excelling the customer expectation from the company, its brands, products, and services are a three-step process. The three steps are: Know a customer, Be a customer, Serve a customer.

The above approach of Innovation and excellence helps the company to grow even in a downturn. Maruti, MARICO, and Whirlpool are examples of above average performance even in a downturn in the process delighting all its stakeholders one must understand what it really takes to be a leader. Clever words and concepts are not necessary. Simplicity is the key: be real, be aware, be fair, be human, be balanced, be mature, be ethical, be inclusive, be truthful, and be responsible. Know yourself, try to know others, know what matters and what does not.

Engage people to make the best possible contribution to the business and wider society. This means sharing power, information, and responsibility and, of course, rewards. Leaders must ensure that everyone has a voice and an opportunity to contribute


Efficiency in External risks management is key to success and survival in uncertain time. The organisation which has robust systems for early identification and corrective actions to external threats is the one which survives in an uncertain time. In a downturn, it will be good policy to support premium brands which can bring in higher profit even on lower volume. Similarly, the organisation which can identify opportunities arising out of external factors will have above average returns for all its stakeholders.

We quote below from statement given by Castrol India Ltd’s management at the time of announcement Q3FY09 results, which clearly identifies threats and opportunities and take appropriate steps

‘This performance is attributable to the consistent execution of our long term strategy and is underpinned by ‘in year focus’ on margins, attacking cost inefficiencies and reducing working capital. We have held volumes in the current quarter reflecting the underlying robustness of our strategy and intrinsic brand strength which has enabled us to leverage the early indications of an upturn in the economy. Despite the challenging environment, the company elevated its level of marketing investment in key brands. The current quarter saw the launch of a new 360-degree campaign for Castrol Activ – the market leader in four-stroke motorcycle oils, with the benefit of all-around protection. This was positively received by the consumers and the sales of the brand have shown a significant growth”.’

Similarly, corporate social responsibility needs to be taken seriously by all companies. Competition, profit, wealth creation, and innovation remain critical to business, but in the coming decade, ethical behavior, accountability, sustainability, longer-term focus, and community awareness will become more critical. It is a leader’s duty to make these issues part of the business agenda and make sure they stay there.

Conglomerates – Corporate Dinosaur: On Their Way to Extinction?

Introduction: Reason for diversification

Every company in its lifetime reaches a phase where the management is under dilemma as to whether they should go for diversification or launch new products in existing range in order to survive in the market. It’s almost inevitable: to boost growth when a company reaches a certain size and maturity, executives will be tempted to diversify. Companies implement diversification strategies to enhance or increase the strategic competitiveness of the overall organization. If they are successful, the value of the company increases. Value can be created through either related or unrelated diversification if the strategies enable the company’s mix of businesses to increase revenues and / or decrease costs when implementing their respective business-level strategies.

Companies may also implement a diversification strategy to gain market power relative to their competitors. Companies may implement diversification strategies that are either value neutral or result in devaluation of the company. They may attempt to diversify to neutralize a competitor’s market power or to reduce managers’ employment risk or to increase managerial compensation because of the positive relationships between diversification, company size, and compensation.

Although a few talented people over time have proved capable of managing diverse business portfolios, today most executives and boards realize how difficult it is to add value to businesses that aren’t connected to each other in some way. As a result, unlikely pairings have largely disappeared. In the United States, for example, by the end of 2010, there were only 22 true conglomerates. Since then, 3 have announced that they too would split up.

Achievements in past:

The argument that diversification benefits shareholders by reducing volatility was never compelling. The rise of low-cost mutual funds underlined this point since that made it easy even for small investors to diversify on their own. At an aggregate level, conglomerates have underperformed more focused companies both in the real economy (growth and returns on capital) and in the stock market. From 2002 to 2010, for example, the revenues of conglomerates grew by 6.3 percent a year; those of focused companies grew by 9.2 percent. Even adjusted for size differences, focused companies grew faster. They also expanded their returns on capital by three percentage points, while the ROCs of conglomerates fell by one percentage point. Finally, median total returns to shareholders (TRS) were 7.5 percent for conglomerates and 11.8 percent for focused companies.

Creating value:

What matters in a diversification strategy is whether managers have the skills to add value to businesses in unrelated industries-by allocating capital to competing investments, managing their portfolios, or cutting costs. Over the past 20 years, the TRS of the high and low performers among the 22 conglomerates remaining in 2010 clearly differed on exactly these points. While the number of companies is too small for statistical analysis, three characteristics for high performers generally seen are –

1. Disciplined (and sometimes contrarian) investors –

High-performing conglomerates continually rebalance their portfolios by purchasing companies they believe are undervalued by the market- and whose performance they can improve.

2. Aggressive capital managers –

Many large companies base a business’s capital allocation for a given year on its allocation the previous year or on the cash flow it generates. High-performing conglomerates, by contrast, aggressively manage capital allocation across units at the corporate level. All cash that exceeds what’s needed for operating requirements is transferred to the parent company, which decides how to allocate it across current and new business or investment opportunities, based on their potential for growth and returns on invested capital.

3. Rigorous ‘lean’ corporate centers –

High-performing conglomerates operate much as better private equity firms do: with a lean corporate center that restricts its involvement in the management of business units to selecting leaders, allocating capital, vetting strategy, setting performance targets, and monitoring performance. Just as important, these firms do not create extensive corporate-wide processes or large shared-service centers.

Future of Conglomerate: Growth vs. Risk Mitigation:

The economic situation in emerging markets is sufficiently distinctive to make us cautious in applying insights gleaned from US companies. The conglomerate structure will face tests in near future, the level of which will vary from country to country and industry to industry.

In emerging markets, large conglomerates have economic benefits that don’t exist in the developed world. These countries still need to build up their infrastructure-such projects typically require large amounts of capital that smaller companies can’t raise. Companies also often need government approval to purchase land and build factories, as well as government assurances that there will be sufficient infrastructure to get products to and from factories and sufficient electricity to keep them operating. Large conglomerates typically have the resources and relationships needed to navigate the maze of government regulations and to ensure relatively smooth operations. Finally, in many emerging markets, large conglomerates are more attractive to potential managers because they offer greater career development opportunities.

Infrastructure and other capital-intensive businesses are likely to be parts of large conglomerates as long as access to capital and connections are important. In contrast, companies-including export-oriented ones such as those in IT services and pharmaceuticals-that rely less on access to capital and connections tend to be focused on, rather than part of, large conglomerates. The rise of IT services and pharmaceuticals in India and of Internet companies in China shows that the large conglomerates’ edge in access to managerial talent has already fallen. As emerging markets open to more foreign investors, these companies’ advantage in access to capital will also decline. That will leave access to government as their last remaining strength, further restricting their opportunities to industries where its influence remains important. Although the time could be decades away, conglomerates’ large size and diversification will eventually become impediments rather than advantages.

As the dynamics of doing business is becoming complicated the management of these conglomerates with the same efficiency is becoming an issue.

Taking an example of one of the big engineering and construction conglomerate, L&T. Looking at the performance of the company, the share price has fallen close to 25% in the past two years till date. If that was exception let’s look at another corporate powerhouse, Adani Enterprises. The company’s share has fallen close to 75% in the last two year.

ITC, in contrast, has shown a god performance in last two years i.e. its share price has grown close to 65%. This seems to contradict our discussion. But if we look closely the company has generated close to 65% from its Cigarettes business.

So what can be possible solutions for these can be –

1. Consolidation –

Earlier during the license Raj, there were restrictions on the companies not to expand their capacities beyond a given point. Hence they were not able to scale up their business. And hence in some cases companies sat on the surplus cash were as in other cases went for diversifications looking for greater returns on the surplus cash from what they could have earned from the bank’s interest. In some cases, the results were as compared to the incomes that they would have earned from interests from banks whereas in many cases destroyed the values of their core business.

Now with the license raj dismantled so there is no need to have multiple businesses. In fact, consolidation happened in various industries like Cement where the major players like Ultratech, where the parent company increased its capacity by investing heavily, acquiring business etc.

2. Divestment –

Another type of structure that can work here is divestment i.e. sale of existing non-core business to raise funds to focus on their core business. This can be of great help especially in cases where the non-core businesses have underperformed and as a result, the whole company has suffered and their share prices were undervalued. It can also be of great help where the company had plans in place but didn’t have enough funds to expand. For e.g. IBM decided to sell its PC business to focus on IT solutions and services.

3. Setting up Separate Companies –

Another way to deal with such situation is separating the businesses and running them as if they were different companies so that each company focuses on its business without getting influenced by other sister companies. By doing this the management and company as a whole can be made accountable for their doings. For e.g. TATA Group has been following this model for long. Each of their companies is running independently as a separate company.


Many companies in the past had a dream to become conglomerate in order to showcase their skills and talents to manage different businesses. But looking at the current scenario the concept “Conglomerate” is becoming a thing of the past i.e. corporate dinosaur on their way to extinction. This is mainly because of the changing dynamism of businesses world where competition has made companies think not much about profitability but towards sustainability. Further earlier general skills to manage the business and having a core competency in finance, HR, and other general functions were enough to give long term sustainability to many businesses. But present complexity in doing business superior skill sets in support functions will not allow any corporate to generate sustainable performance for a long term in multiple businesses. So focus infrastructure and team are the key to success for any business in today dynamic and a fast-changing business environment. Hence Corporates are forced to rethink their strategies set for growth from being diversified towards more focused businesses.