Prepare now for life after the pandemic
Private equity (PE) firms typically exit portfolio-company investments in three to five years. Given the current disruption to the economy and worldwide business environment as a result of the COVID-19 pandemic, portfolio companies are facing disruptions to personnel, processes and their underlying business. Portfolio-company management and their PE owners are seeking guidance on best practices to weather and emerge from this crisis. Our PE clients have been asking us what actions they should take now to prepare for recovery. Our guidance for PE firms and portfolio companies focuses on communicating to the workforce, maximizing the efficient use of cash, and realistically assessing supply-chain scenarios to be prepared for whatever happens next.
Workforce
Communicate: Prepare and execute internal and external communication plans. Maintain a process for reaching employees and refine your messages to the media, customers, LPs, lenders, health care providers, vendors, and customers. Portfolio-company CFOs should be in continuous communication with their banks, term-loan servicers, line-of-credit providers, and all other external stakeholders to educate them on their companies’ status and plans to weather the pandemic and recovery strategies.
Business Continuity and Cybersecurity: Additional programs are needed to deploy company-owned systems, secure devices, and ensure continuity of operations for employees working from home.
Period Close: Revisit the close, consolidation, and reporting process. Furloughs and changes to roles or responsibilities creates inefficiencies, as well as, internal control and financial-reporting risks.
Office Footprint: Allowing deal teams and back-office personnel to work from home affords PE firms and portfolio investments a unique opportunity to reduce overhead spending. Fewer personnel in the office means firms can reduce their office footprint or eliminate the need for building space. Think about renegotiating leases.
Key Personnel: Make a contingency plan for key staff members who may become ill by cross-training or with interim support to keep costs variable until stability returns.
Cash
Forecasting: Scenario planning by PE firms doesn’t typically cover a global disruption of this magnitude. Firms need to build high-level models with scenarios to continuously monitor the impact to P&L, cash flow, and particularly debt covenants. In addition, consider replacing quarterly forecasts with trailing 12-month (TTM), rolling forecasts to incorporate more recent trends into future projections.
Accounts Payable (AP): Renegotiate payment terms and/or request payment extensions from suppliers.
Accounts Receivable (AR): Closely monitor customer credit limits and aging reports, and avoid extending additional credit to minimize write-offs. Average AR outstanding will likely extend to 60-90 days. Factoring receivables will be more expensive, but is an alternative to maintaining cash liquidity.
Mergers and Acquisitions: Explore opportunities to strengthen your market position or competitive advantage by making a strategic buy or investment at a much lower cost.
Borrow and Refinance: Current interest rates create a unique opportunity to get “cheap money” and potentially reduce your weighted average cost of capital. Renegotiate debt covenants to avoid “troubled or special asset” classifications.
Impairment: Assess goodwill or other assets for potential impairments.
Supply Chain
Contracts: Identify obligations to perform and penalties for failures caused by supply-chain disruptions (i.e., force majeure events) and rewrite contracts.
Inventory: COVID-19 exposed the risks of using “just-in-time” inventory management. Firms should make investments to map and optimize their supply networks. Seek opportunities to minimize or remove middlemen in your supply chain and create more direct-to-consumer relationships.
Pandemic Coverage: Some firms will assume the risk hoping such a disruption won’t ever happen again. Few pandemic insurance products exist because the risk is not well understood and therefore difficult to price. For this reason, most insurance policies that cover companies for business interruptions explicitly exclude pandemics. We suggest exploring the costs and benefits of adding pandemic-insurance coverage. Companies also should capture and quantify ongoing costs the crisis has on the business and determine what relief the company may have under any business interruption or other insurance policies. Make sure to capture lost revenue, not just additional costs.
The disruption created by COVID-19 can be daunting for PE firms and their portfolio investments, but those who adapt quickly to the new environment will emerge to create long-term value. How can PE firms turn the risks and disruption from COVID-19 into opportunities for workforce, cash, and supply-chain optimization? Some companies are utilizing this pandemic to test new value-creation strategies and implement unique capabilities. For example, firms are leveraging machine-learning techniques to analyze prior transactions and identify success drivers to select future deals. Find out more about how MorganFranklin helps firms stay ahead in this rapidly changing marketplace.
