The Covid-19, classified by the World Health Organization (WHO) as a pandemic, has become the stress-test for all businesses around the globe, a decade after the Financial Crisis of 2008/09. For those that survive, restructuring will be inevitable as companies will need to change their business models and operating structures in response to the economic impact of Covid-19.
Companies in different sectors of the economy have different degrees of exposure to the pandemic. We identify those sectors which have been hit the hardest as follows; Travel, Tourism and Hospitality, Manufacturing, Finance, Real Estate, and Non-Essential Retail sector.
The sectors which have low to moderate exposure include FMCG, Agriculture, Telecom, Oil and Gas, Construction, Transport, Media and Advertisement, among others. In contrast, the grass is potentially greener in Pharmaceutical, E-Commerce, Technology, and Healthcare sectors. In this regard, different levels of exposures will require different approaches to business restructuring.
Below, we highlight various restructuring techniques we expect to see companies in various sectors undertake during and after Covid-19;
· Mergers and Acquisitions– In the past ten years to 2019, the Mergers and Acquisitions (M&A) market has well been on its way towards recovery despite fluctuations. In 2019, global deal value grew by 69.2% to USD 3,701 B from USD 2,187 B recorded in 2009. However, the onset of the Covid-19 crisis has slowed down the global M&A market as most deals have either been suspended or canceled due to increased uncertainty.
According to Accenture, mega deals have been impacted the most by the pandemic, whereas smaller deals continue as companies seek M&A solutions to avert insolvency. This is backed by IMAA statistics which found that the number of deals above USD 5B announced in 2009 and so far in 2020 to be almost equal, while those deals above USD 1B are not affected. This is illustrated below;
Due to the catastrophic economic consequences of the pandemic, many companies have been weakened and pushed into financial distress. Hence, when the M&A market recovers, we expect a strong wave of deals led by private equity firms and strong industry players who are well-capitalized, seeking to take advantage of opportunistic acquisitions or to emerge stronger by consolidating.
In the Travel, Tourism, and Hospitality sectors, the impact of Covid-19 on travel, hotel occupancy, and revenue will largely affect smaller players, presenting an investment opportunity for major counterparts. Further, constricted consumer spending and evolving Business-to-Customer (B2C) strategies will expose players in the Non-Essential Retail sector to M&As.
· Buyouts– A buyout is a transaction where one party acquires control of a company through completely purchasing the company or by obtaining a controlling share interest (at least 51.0%) in the company.
This restructuring option targets firms that are believed to be undervalued or under performing to access synergies such as improved profitability, ease of entry to new markets, reduced competition and increased operating efficiency. According to Bain and Company, Private Equity funds have been accumulating funds and have more than USD 830 B of dry powder allotted for buyouts, as shown below;
Thus, we expect a gradual growth in buyouts mostly targeting Technology related companies i.e. Internet Service Providers, Bio-technologists, Online Retail firms, and Pharmaceutical companies which have potentially benefited from Covid-19 as demand for health and wellness, minimal human interactions and contact less transactions surge.
· Takeovers– Bids for takeovers are often announced when the share prices of public companies are plummeting significantly, evidenced by indices such as S&P 500 shedding 4.1% year-to date (as at 19th June 2020).
With expectations of a recession due to the impact of Covid-19, we believe the volume of takeovers, both voluntary and hostile, are bound to increase slightly in the aftermath of the pandemic. So far in 2020, according to IMAA, only one hostile takeover valued at USD 4.3M has been announced. Stronger players and vulture capitalists will be motivated to take over vulnerable, undervalued and bankrupt companies.
· Divestitures– In times of economic downturns, divestment is a tool used by most firms to navigate through hard times by selling assets and re-shaping portfolios to focus on core operations, to raise capital, to get rid of unprofitable business units or reduce risks. Case in point, in the aftermath of the 2008/09 financial crisis, many companies divested non-core assets.
According to the Willis Towers Watson’s Divestment Performance Monitor, from 2010 to 2018, over 5,500 divestment deals were transacted globally, with a combined value of USD 3.9 tn. Further, according to the Ernest & Young Global Corporate Divestment Study (2019), 84% of companies planned to divest in the next two years, driven by a need to streamline operating models for strategic reasons such as renewed focus on growth opportunities, keeping up with technological innovations and competition.
In light of the volatile macroeconomic conditions brought about by Covid-19, we forecast that more companies will be forced to initiate divestment(s). For instance, we project a shift away from physical retail stores in favor of e-commerce as social distancing changes buying behavior.
In the Travel, Tourism, and Hospitality sectors, we expect international hotels to also be part of the carve-out as most will seek to minimize their exposure to global economic volatility, take advantage to dispose of sub-scale units, and renew their focus on core operations.
Further, disruptions in global supply chains and production, combined with the availability of new technological solutions will spur divestment(s) in the Manufacturing sector. In the Oil and Gas industry, the effects of the Oil crash witnessed in April this year combined with the overall impact of Covid-19 on demand and movement opens up reserves of global oil and gas assets for sale.
· Financial Restructuring– Financial restructuring is the re-balancing of a company’s financial mix which is comprised of equity and debt. Amid the pandemic, financially stressed and distressed businesses are facing challenges ranging from liquidity, inconsistent cash flows and insolvency issues.
Micro, Small and Medium Enterprises (MSMEs) have been hit the hardest by the crisis and have had to seek debt relief measures from banks to restructure their existing loans, refinance and extend the loan repayment period.
We are likely to see Debt-for-Equity swaps and Debt-for-Asset as disruption of supply chains, production and sales induced by the crisis will affect profitability and will render most businesses unable to service their debt. Further, with the deployment of expansionary monetary policies to mitigate the impact of Covid-19, we expect to see more debt refinancing that will enable businesses acquire new loans at favorable terms of repayment such as lower interest rates.
Due to heightened credit risk, access to capital for companies in the Real Estate sector will potentially remain constricted due to uncertain market conditions.
· Cost Reduction and Rationalization– In response to Covid-19, several businesses have launched cost rationalization programs to streamline overhead expenses. The need to find new and leaner ways to operate has triggered the execution of spend cuts, furloughs (non-voluntary unpaid leave), staff layoffs and salary reductions in different companies across most sectors of the economy as the pressure to stay afloat mounts.
The Manufacturing and Construction sectors heavily affected by supply chain disruption will need to leverage on cost reduction strategies as recovery after the pandemic will be slow. The delivery of construction projects affected by the pandemic further raises the risk of force majeures in the sector.
In the Travel, Tourism, and Hospitality sectors, due to the impact of Covid-19 on travel, hotel occupancy, and revenue, international hotel chains such as Marriott and Hilton’s announced furloughs affecting a significant number of employees. Locally, top hotels like Ole Sereni and DusitD2 announced indefinite closures, sending home their employees.
A successful restructuring process will result in benefits such as a renewed focus on core areas of business, improved efficiency, an optimal financing mix, gaining a competitive advantage, improved revenues and attractive valuations.
However, it is imperative that businesses review their strategies and business models, identify core business units/operating & product lines, allow enough time for planning, conduct proper due diligence, manage uncertainty, review tax considerations and engage stakeholders (employees, creditors, financiers, etc.) before implementing the restructure.
To conclude, in light of how Covid-19 has altered consumer’s spending habits, increased reliance on technology and introduced new methods of working, learning and doing business, we believe restructuring will be of strategic importance in preparing businesses for the new normal.