Portfolio MANAGeMeNt

In association with

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    “The credit insurers are taking a blanket
approach,” adds John Harper, a partner at Duke
Street. “...

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to the rescue
When smoothing over a transition period
in a successful firm, interim managers ...
In association with

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         I think the skills for affecting that        ...

management team has to have a fire inside them        some money for themselves, as well as to
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pull yourself together
Restructuring a company that is on the ropes can be a battle of
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takes three or four months,” says Hugh Brown,            London. “Generally, if banks go for equity cure...

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Portfolio Management Special
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Portfolio Management Special


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Portfolio Management Special by Private equity is already well known for its focus on cash. But when sales are down, and new finance a precious commodity,
it is essential that every last drop of working capital is squeezed from investee companies.
When smoothing over a transition period
in a successful firm, interim managers can
be important. But during a recession, as
portfolio company valuations plummet, bringing in an experienced head who is unafraid to make tough decisions could be the difference between financial freefall or a soft landing.

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Portfolio Management Special

  1. 1. Portfolio MANAGeMeNt SPECIAL In association with
  2. 2. cash&costs WorkiNG cAPitAl hArd Private equity is already well known for its focus on cash. But when sales are down, and new finance a precious commodity, it is essential that every last drop of working capital is squeezed from investee companies. by richard young You kNoW thiNGs Are GettiNG serious portfolio FDs. And for private equity managers, when businessmen invoke the spectre of private knowing your portfolio management teams are equity in order to ram home their point. “One delivering on cash flow is a crucial factor in of my clients summed it up perfectly,” says Tom deciding whether or not scarce capital ought Aldridge, a senior vice-president with Celerant to be allocated in support of their plans. Consulting. “He said: ‘We will do unto our cash flow what a private equity firm would do unto getting a grip on cash us.’ Many company managers have traditionally Many private equity-backed finance directors focused on earnings per share or profits, are only too aware of the need to keep an iron because that’s the headline in the reports or grip on the cash position, of course. But directors’ bonuses are linked to it. But private passionate management working under duress equity knows the value of cash.” – dealing with falling sales, for example – can A recession-induced decline in sales – allied lose focus. Knowing the finance function is to a scarcity of capital, higher credit risks and prioritising cash, then, is a massive reassurance. nervous suppliers – is driving every company As one private equity-backed finance director finance function back to basics in search of in the retail sector says: “No one is in any doubt cash, even if they don’t currently fear a buyout now about the value of sound cash forecasting. bid from the private equity world. My previous job was helping a business out of But for private equity managers discovering administration, so I know how important a 13-week a renewed zeal for portfolio management in the cash flow forecast is. In the current climate, my absence of deals, hammering away at cash is team can also see why that discipline is vital. It probably old news. After all, the model relies gives us more confidence to plan what we do next.” on driving cash flows as hard as possible, and “We are managing cash flow more forcing out costs in a way that might make many aggressively,” says Peter Hatherly, chief financial lily-livered public company directors queasy. officer of Duke Street-backed Simple Health & But good intentions and clear objectives Beauty. “Our skincare range is actually gaining valuations. “A lot of the private equity guys we talk don’t automatically mean every private equity- market share, and growing sales do put extra to are keen to have as much tangible value in their backed business is working as hard as it could pressure on working capital. But at the same funds as possible,” says Shanahan. “Most valuation to produce an optimum cash flow. time, we know that customers and suppliers are models show cash on the balance sheet as straight “The fundamentals are as true as they’ve ever attempting to manage their own working capital assets, so the more receivables and inventory you been,” says Brian Shanahan, director of working by trying to extend payment terms.” can convert, the higher the value you can report.” capital consultancy REL. “You have to be good at Portfolio businesses that have been living the the basics – receivables, payables and inventory. private equity cash mantra are also in a better cash in: being right first time In most private equity-owned businesses, that’s position to weather the downturn. “Cash is very “The key area for companies that need fast clearly understood at the strategic level. But nice to have when times are uncertain,” says results on cash is undoubtedly receivables,” there can be a disconnect between those Hatherly. “And if you have debt at the moment, says Shanahan. “That’s where you get the quick Illustrations: Ian Pollock strategic intentions and the front-line processes.” you’d be crazy to lose it – so it’s not a question of wins.” But there’s a problem: it’s also where At a time when fresh capital is hard to come looking for early repayment. Hanging on to as much the economic downturn most obviously puts by and deals are thin on the ground, taking a cash as possible gives us real operational flexibility.” additional strain on working capital. “In a fresh look at working capital and costs – both It’s worth mentioning the other big benefit recession, customers are more likely to look strategically and tactically – is a no-brainer for of redoubling portfolio efforts to boost cash: for generous terms or be struggling to pay,” 14 REALDEALS 4 June 2009
  3. 3. cash&costs terms; and if the credit control function isn’t at the top of its game (both in assessing creditworthiness and chasing collections), debt or days soon mount up. The late George Moore, founder of the Society of Turnaround Professionals, used to recommend staff promotions in the credit control function, elevating the best of them to “account directors” to motivate them and make the most of their skills. He would also advise management to revisit their disputes policy. Elevating disputed invoices more rapidly to director level – rather than leaving them to fester in the inbox of a manager too junior to agree a settlement – is a great way to convert aged debtors into cash. Systems matter, then, but so does culture. In smaller portfolio businesses, for example, where there might not be so much process around accounts receivable, the very qualities that made the management attractive to their backers could create working capital problems. “People within portfolio businesses sometimes forget that they’re running a commercial enterprise,” says Hodson. “We cherish emotionally engaged sales managers in the front line, and their commitment. But that closeness to their business can cause them to forget the fact that customers aren’t going to be surprised or offended if they’re asked to pay for goods and services on time.” Even larger companies, where the processes are more developed, have options. “Customers often manage their own cash by pushing the working capital on to suppliers like us, and to some extent we have to pass that on,” says Hatherly. “But there are smart ways to do that. If a customer is looking for better terms, you can work with them to get something in return for that – perhaps open up new business opportunities or get more predictability in your order book.” cash out: how tough to get “While the pain of poor working capital While receivables remain the fastest and most performance is seen and felt in the finance reliable way to tune up the cash flow, companies can also do a lot with their creditors. Pushing out function, it’s really an operational issue” payment terms also delivers an immediate cash boost, and many suppliers will be nervous of refusing to play ball at a time when sales are weak. says Peter Hodson, investment manager at NVM recession. “It’s about being selective,” explains On the flip side, aggressive late payment is Private Equity. “It just increases the need to be Shanahan. “They do support those clients they both unethical, potentially costly (depending disciplined on the debtors you do have.” know are good prospects over the long run. on the supplier’s willingness to invoke relevant And while salesmen often instinctively start to But they also recognise the need to aggressively legislation) and could result in crucial suppliers go easy on customers in trouble during a downturn manage the less good ones. The below-par going out of business. – they have real relationships with clients, it’s companies start to feel sorry for everyone equally.” But while portfolio finance directors have not just about protecting volume commissions – Cash in is also about tight processes. If a duty to keep an eye on the viability of their REL has noticed that the best working capital invoices aren’t going out on time; if goods and supply chain, the rewards for a creative and performers are actually getting tougher in the services aren’t meeting contractually agreed intelligent approach to payables can be www.realdeals.eu.com REALDEALS 15
  4. 4. cash&costs impressive. In a recent KPMG study into working six-week voyage is now tying up valuable cash.” capital, the firm revealed that private equity- backed German mobile operator Tele Columbus cAsh floW Again, it’s worth assessing the inventory culture of each portfolio business. “For example, changed the payment terms on a ¤60m supplier suPPort for procurement directors are often incentivised to contract from yearly to monthly. The interest it saved (by not having to take out debt to fund Portfolio chase volume discounts,” says Aldridge. “They don’t necessarily see the working capital impact – the annual payment) delivered a 40 per cent busiNesses including extra stock on the books, for example.” reduction in working capital immediately. “If you really understand which suppliers are Peter hodson, investment manager of connecting the dots vital to the business, you can bring them into NVM Private equity, explains how his firm All these good intentions rely on management your own decision-making processes,” says intervened to support one management being effective, ensuring that their teams are Aldridge. “By making the supply chain more team facing inconsistent cash flows. properly motivated to drive out working capital transparent to them, you can work on ways to “We have been in a situation where a and boost cash flow. “While the pain of poor optimise the outcomes – perhaps by agreeing portfolio business was finding cash flow working capital performance is seen and felt in to share profits instead of making cash payments coming in waves – they would tighten up the finance function, it’s really an operational to suppliers, or working on more constructive every so often, but then things would slip issue,” says Aldridge. “It comes down to the approaches to phasing payments, making and working capital would creep up. that’s salesmen who extend generous terms and everyone’s cash flow more predictable.” an example of where we can get an expert conditions to secure a deal, for example. They “Cash out” doesn’t just mean supplier in to help – someone who understands cash don’t necessarily see the cash flow impact of payables. Costs more generally are a key implicitly and had worked through that their behaviour, but that’s where the sustainable consideration at the moment. It’s hard to imagine kind of situation before. often you’ll find cash improvements will come from.” that any business is currently looking at major with a bit of support, management teams Understanding who’s driving cash flow capital investment; ongoing costs will already will quickly get a feel for the art of the helps. “Who are you relying on to deliver on have been trimmed back. possible. When you have someone in there that cash focus?” asks Hodson. “Are you looking The good news for portfolio businesses is who knows exactly how hard they can push, to the people at the front line, the salespeople that in some areas, the recession is forcing you can remedy the problem quite quickly. and operational guys? Or is it the finance costs down. As a retail finance director explains: “in that case, our expert’s priority was department? A salesperson is torn between “Upwards-only rent reviews and quarterly to get the 13-week cash flow forecast up to getting the cash in quickly and maintaining payments are a real headache. But we’re scratch – there had been a lot of holes in it. cordial relationships with clients. As an investor, starting to see that change already as a result they redesigned the process of arriving at you’re entitled to ask whether the right people of pressures on landlords to keep tenants.” the forecast, then made sure there were are in control of the debtor book, and whether And because the recession has been so specific targets for every debt and payable they have the right skills to deliver the cash.” widespread, negotiations over headcount on the books. each one was monitored on A big question, then, is how well the CFO is reductions or other cuts to payroll costs have a weekly basis and responsibility was communicating with the operational managers. actually been far easier. One European private assigned to a named manager. “Everyone in the business needs to understand equity manager told us: “At one portfolio “then they looked at the creditors. the cash effect of the processes they undertake, business, we’re looking at a reduction in salaries With their experience, they understood not just how efficient they think they are being,” of ten per cent across the board. That’s going to how far they could push them, freeing up adds Aldridge. “The finance function can measure mean changing employment contracts, which is working capital without causing major it and identify areas that are in need of urgent normally difficult. But in this environment, where problems. if the management team needs attention; but operational people have to live it.” the economy is obviously struggling globally, support in a certain area – which is quite Finally, a crumb of comfort for private equity- people are more open to those tough decisions.” reasonable, particularly in smaller backed businesses from the latest REL survey companies – we’d look to bring in a non- of working capital performance across Europe’s inventory: stock answers exec with the right qualities. in this case, largest companies. While the overall numbers Although cash tied up in inventory tends to we brought our expert in on a consultancy for 2008 are pretty much static compared to cause big problems for manufacturers – basis initially, working one or two days 2007 (once you strip out the oil and gas particularly early on in a recession, when work per week. After the cash disciplines companies), Shanahan has noticed the in progress just isn’t shifting and production had tightened up, he reverted to emergence of two divisions. has yet to be scaled back – just-in-time policies a more conventional non-exec “The good guys are getting better and slicker supply chains have made this less role to help the team on a at managing working capital,” of a problem than it used to be. longer-term basis. he says. “But the bad guys are But that’s not to say investors shouldn’t look “to emphasise: this is getting worse.” That means again at the strategy of portfolio businesses. about providing support the advantage for those Shanahan gives an interesting example. “How for a management team. businesses with tight processes many backers ask questions about working Portfolio managers can and the right cash culture is capital when they make the decision to open always pick up the phone and growing. For cash-minded, a facility in China?” he asks. “Offshoring looks know we’re here to offer guidance. private equity-backed cheaper, but it means goods will be sat on a but having someone more intimate businesses in competition ship for weeks at the end of the manufacturing with the situation, who can tackle any with less disciplined rivals, process. When the cost per unit was incredibly slip in focus on cash very quickly, is useful that can only be good news. low in the Far East – and money was relatively to us all. And we find this approach cheap – that probably wasn’t an issue. But always brings results.” richard young is a freelance production costs are creeping up and that business journalist. 16 REALDEALS 4 June 2009
  5. 5. creditinsurance Private equity firms have cried foul as portfolio companies have suffered from the indiscriminate withdrawal – in some cases overnight – of credit insurance facilities. Buyout houses must now be constructive and communicative in order to help their businesses survive. by Samuel barton PulliNG the PluG “credit iNsurers Are More to blAMe for on its borrowing facilities. Shortly afterwards, an Consequently, when the recession hit and the mess private equity finds itself in than either historic high street name was forced to liquidate. claims began to rise (see graph, page 19), the banks or the credit rating agencies.” A bold something had to give. This steep rise caused claim. But those are the words of the head of one underpricing problems credit insurers to reassess their exposures, and major UK buyout house, referring to the problems While not a private equity-backed company, to begin cancelling the contracts they perceived being experienced at portfolio company level by Woolworths’ demise is illustrative of the problems to carry the highest risks. Unluckily for private vast swathes of the private equity community. faced by the portfolio companies of buyout equity, this included anything with large amounts Across Europe, extreme risk averseness is houses, many of which treat credit insurance as of acquisition debt on its balance sheet. The leading credit insurers to withdraw their part of their working capital facilities – a strategy scaleback was so severe that in one case Atradius, provision of cover to legions of companies, that has proved highly dangerous in retrospect. Britain’s second-largest credit insurer, withdrew causing knock-on effects on working capital Part of the problem seems to have been cover from suppliers to 12,000 companies in a facilities, and often leading to situations of caused by insurers vastly underpricing their single week. It is a blanket approach that has default. In some cases, otherwise healthy cover. According to the Association of British been heavily criticised across the buyout industry. companies are being brought to their knees Insurers, there were £334m worth of premiums “The credit insurers decided they were not simply as a result of losing their cover. written in 2008, covering £302.5bn worth of going to cover high-risk groups, such as retailers Perhaps the most high-profile and extreme sales by British companies. This meant that and highly leveraged businesses,” says Tim Syder, example of this was Woolworths in the UK. insurers were in effect underwriting more than 20 deputy managing partner of Electra Partners. When insurers decided they could no longer per cent of the output of the entire UK economy “They effectively said: ‘If you’ve got acquisition provide cover to the retailer’s suppliers last in return for a few hundred million in premiums. debt on your balance sheet, forget it.’ They’re autumn, suppliers insisted Woolworths pay them To put it another way, the premiums were not insuring the debts of those companies that upfront for goods, forcing the company to draw equivalent to just 0.1 per cent of the insured risk. are least able to survive the downturn.” www.realdeals.eu.com REALDEALS 17
  6. 6. creditinsurance “The credit insurers are taking a blanket approach,” adds John Harper, a partner at Duke Street. “They’re looking at companies, and if GriN ANd berr it they’re private equity-backed – regardless of While the uk government must be applauded be unfair for uk taxpayers to have to what sector they’re in or how they’re performing for coming to the aid of businesses struggling underwrite a firm’s entire credit insurance – they are withdrawing cover.” as a result of the credit insurance crisis, many cover, as well as cover those businesses The BVCA has also criticised the credit have criticised the solution arrived at by the perceived as the most risky and whose insurers, accusing them of “unfairly targeting” department for business, enterprise and cover was therefore cut earliest. private equity-backed companies. “They have regulatory reform (berr). “this is intended only as a breathing been reducing and withdrawing cover for no on the face of it, the scheme does not space,” says stuart shepley, a partner in discernible reason other than the identity of sound comprehensive. first, it is only kPMG’s insurance risk and actuarial services the private owner. This is bad business practice operational between 1 April and 31 december team, who worked with berr on the scheme. and ultimately counterproductive,” says chief this year, meaning that any businesses “berr is keen to put in place a policy to executive Simon Walker. whose cover was removed before April will provide temporary support, but there is a While the major credit insurers declined to have no help whatsoever. it will also only requirement to understand the balance be interviewed for this article, the Association of “top up” the insurance for each business to between achieving the benefit and the cost British Insurers defended the industry, claiming the amount previously covered, as well as to the taxpayer. the government is striving to that private equity firms were at fault for their only equalling the amount of cover remaining. do that in a way that does not fundamentally lack of communication. “Credit insurers want to in other words, businesses whose insurance change the behaviour of the credit insurers be able to offer credit insurance and to continue was reduced by up to 50 per cent will have or the insurer/reinsurer relationship.” to offer it,” says Kelly Ostler-Coyle, a spokesman their full cover restored, whereas a business Another area of the policy that has for ABI. “But they need as much financial whose cover was cut to ten per cent of its attracted criticism is the upper threshold, information as possible. Some private equity previous level will find itself with just an which is set at £1m (¤1.15m). Above this, firms are not providing information, and extra ten per cent from the government – no cover will be available, meaning that therefore it is very hard to understand and so 20 per cent of its previous level in total. larger businesses will not be able to take underwrite the risk. We advise that firms those whose policies have been cancelled full advantage of the scheme. “it is trying provide as much information as possible.” entirely will get nothing. to do something to address a real practical “the scheme will bring a measure of problem, but the devil is in the detail,” says high-profile victims relief to some sMes, but in many respects Alan hudson, a restructuring partner at ernst While private equity firms are understandably it fails to go far enough,” says bVcA chief & Young. “While for sMes it might be enough, keen not to highlight specific issues in their executive simon Walker. “by excluding for larger businesses the £1m threshold will portfolios, several examples have hit the suppliers which have had their credit be insufficient. it is better than nothing but headlines already, including Focus DIY, the withdrawn rather than reduced, and offering it is not a panacea for all ills.” retailer backed by US buyout house Cerberus help only to businesses which had cover the top-up facility – access to which will Capital Management; bingo group Gala Coral, reduced after 1 April, the scheme cannot cost participating companies two to three per backed by Candover, Cinven and Permira; and hope to capture those worst affected.” cent of their insured risk, compared with Brake Brothers, the food distribution company the stance is justified by the government around 0.5 per cent under standard credit backed by Bain Capital, to name just three. on the grounds that the scheme is only insurance policies – will cost the uk taxpayer “We have one portfolio company,” admits designed as a temporary buffer, and it would a total of no more than £5bn. Harper. “It has cash in the bank and is performing well, but when we challenged the insurer, they said ‘you’re a leveraged company’. It is quite disappointing and somewhat arbitrary that “The government’s top-up scheme healthy businesses are having their cover withdrawn. Credit insurers need to forget the fact is better than nothing, but it is not that it is private equity-backed or leveraged – what matters is how the company is trading.” a panacea for all ills” “We had an issue in the portfolio caused by a misunderstanding about the structure of the and we don’t have to refinance the business for The situation is a damning one for the deal,” adds Chris Warren, a director at ECI a few years. But I have had to spend countless credit insurance industry, which is there to give Partners. “The business was performing well hours trying to justify this to people.” confidence to companies through difficult times, and the balance sheet was fine, but it still took What can be most galling for buyout houses, but has instead scaled back at the first sign of a lot of time to sort out.” however, is the speed with which they can find trouble in a way that is threatening the livelihood In the case of Brake Brothers, more than the plug pulled on them – in some of those businesses. “Credit insurers cutting cover three weeks were spent attempting cases overnight. “What has overnight has shocked businesses,” says Robin to get insurance policies surprised companies is the Johnson, a private equity partner at Eversheds. reinstated. “I am absolutely suddenness,” says Alan “These contracts will have to change. They have furious,” raged finance Hudson, a restructuring become too standard and people have not looked director Matthew Fearn partner at Ernst & at them closely. No one looked at the terms.” in an interview with the Young. “Credit insurers While a contractual overhaul of the industry Financial Times. “We had have been reducing their may be viable in the longer term, it is of little help a good growth strategy in exposure across the sector to businesses in trouble today. On a short-term 2008 and strong cash flow, with little, if any, forewarning.” basis, governments across Europe have considered 18 REALDEALS 4 June 2009
  7. 7. creditinsurance the situation serious enough to step in, with should consider. They may be able France working on a scheme whereby the to unlock a restructuring instead of taxpayer will cover some of the costs of having to throw away their investment providing cover, and UK chancellor Alistair altogether,” advises Hudson. Darling announcing a “top-up” facility in his latest Budget. The UK scheme has Fair-weather cover been criticised for a variety of reasons, Looking to the longer term, there is no question including failing to provide sufficient cover and in most people’s minds that the supply of having too short a shelf life, but it will doubtless finance to small and medium-sized businesses provide relief to some (see box, page 18). will have to be overhauled. For some, the entire credibility of the credit insurance industry is at Suppliers’ market stake, and a big question mark remains over Sadly for those companies not falling under whether companies will again put themselves in the terms of the various government schemes, a position where their viability is dependent on constructive routes out of trouble are few and insurance that is only available when the sun is far between. The first problem faced by private grace proved invaluable in terms of resolving shining. “If at the first sign of trouble the credit equity firms trying to get policies reinstated is financing issues – and the company is “limping insurers run for the hills, questions have to be that the credit insurance market is dominated by along”, according to Johnson – but this kind of asked,” says Warren. “If they fail to provide the just three suppliers – Euler Hermes, Atradius and flexibility from the insurers is rare. cover that the premiums have been paid for, Coface – which control around 80 per cent of the If discussions regarding reinstatement fail, then it is clearly not an insurance cover at all.” market. This makes it extremely difficult to find the next option is to approach the banks, but if the Some believe that an entirely new model for alternative insurers, and brings that private equity portfolio company in question has no headroom the industry will emerge, with a far smaller role Achilles heel – communication – back into play. left in their banking facilities, their backs are well for credit insurers. “Most companies will learn to “Once you lose your cover it can be very and truly against the wall. “If there is a working live without it,” says Harper. “Most companies hard to get it reinstated,” says Hudson. “Some capital squeeze and the banks won’t step in, and suppliers cannot afford not to trade, so there are saying that the credit insurers are acting there’s little else that can be done,” says Harper, will be a move towards suppliers starting to arbitrarily, but there are instances where emphasising the danger of companies using credit supply without it. Companies are getting more companies aren’t helping themselves, and are insurance as part of their working capital facilities. used to it and becoming more pragmatic.” not treating the insurers as an important part “Companies have to get away from using their “Given there are so few players, a new model of the business. Firms should be more proactive credit insurance as a working capital tool,” adds may emerge,” agrees Hudson, emphasising that, in terms of working with the insurers – this Johnson. “The days where you can do this are over.” when the market starts to turn, the first issue people requires engagement.” He cites one example of If all else fails, assuming the private equity will look at is the terms of the contracts. “If people a company that continually cancelled meetings firm wants to hang on to its investment, more get used to a world without credit insurance, will with its credit insurer, and one day found that the equity is the last resort. “For businesses that are they go back to it? People may start to look at insurer had run out of patience and removed the otherwise sound that the banks won’t lend to, how they can deliver a better solution, but it will cover instantaneously. “Credit insurers can feel you may see private equity firms stepping in have to be made on committed contracts. There that they have been excluded from restructuring with equity,” Johnson says. will be far more emphasis on looking at terms and discussions, therefore they may assume the “If a private equity firm is prepared to roll ensuring the umbrella is still there when it rains.” worst and protect their position,” says Hudson. the dice again, then it is a position that they For now, however, private equity firms must However, much empirical evidence points to forget any potential new paradigm, and work with the fact that, once involved in the discussions, their current portfolio companies on the matter in their attitude is often not much better. stAteMeNt of clAiM hand. For many, there is not much light at the end “Credit insurers do not like changing their Gross uk trade credit insurance claims incurred (¤m) of the tunnel. “Credit insurers have been badly minds – there is very little flexibility,” says burned by all the retail problems,” says Syder. Johnson. “They also do not assess businesses on 150 “There is no doubt there will be more leveraged a case-by-case basis – they rely on credit ratings private equity deals going belly up. Most firms will agencies to tell them what the creditworthiness have some deals that are overleveraged and were of a company is.” 120 overpriced when acquired, and I can’t see any Unfortunately for private equity firms, if there is reason in the short term why any of the insurers no communication, and no attempt to bring credit will come out and start covering again.” insurers into discussions, it can be an easy decision 90 The key point to emphasise is one of being for the credit insurers to make. “If you’re the boss upfront early on. “You have to sort out the other of a credit insurer and capacity restrictions mean problems – you have to get the balance sheet and you need to get your underwriting down, the first 60 working capital in order,” says Malcolm McKenzie, a place you will look is 2005 to 2007 leveraged managing director at specialist turnaround adviser buyouts – it’s understandable,” says Syder. Alvarez & Marsal. “And everyone has to respond Johnson, meanwhile, talks of an issue at a 30 early to the problems. There is no point trying to client where credit insurance was withdrawn, and fix the hole in the tent after it has started raining.” after lengthy discussions it was agreed that the For many private equity firms, openness facility would be reinstated for three months. 0 and communication may, once again, be the There followed a frantic period of renegotiation Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 only way forward. with suppliers, clients and banks, before the source: The Association of British Insurers cover was withdrawn again. The few months’ Samuel barton is managing editor of Real Deals. www.realdeals.eu.com REALDEALS 19
  8. 8. interimmanagers interims to the rescue When smoothing over a transition period in a successful firm, interim managers can be important. But during a recession, as portfolio company valuations plummet, bringing in an experienced head who is unafraid to make tough decisions could be the difference between financial freefall or a soft landing. by Peter bartram the rules of the game fundamentally underperforming, is going to be difficult. It can found. An interim manager – here today and gone changed for private equity when the credit create perceptions in the marketplace, in the in a few months’ time – could have the detachment crunch struck. Portfolio company management team itself and with employees. You have to to make unpopular changes. But he will need to teams in particular – which had rode the surf be very careful – but by the same token, you be a manager with turnaround experience. of unending growth for years – suddenly crashed cannot let things fester.” Wildig agrees that an interim manager to earth. As the recession lengthens, more One way to spot whether a management could be used to “plug a gap” when building management teams will fall into the “needs team may be losing its touch is to view it with a management team. “It’s a fact of life that attention” category. So how do investors deal a cold and objective eye. “We tend to rotate changes made to management teams are with these situations? our deal team members,” says Louis Elson, usually made fairly quickly,” he says. “You might The first point to explore with an co-founder and managing partner at Palamon find it necessary to replace somebody or remove underperforming management team is the Capital Partners. “By rotating them and adding somebody from a particular position to limit reason for the underperformance, says Paul a fresh perspective to our deal team, we can damage. Or, if they are told they are Marson-Smith, chief executive of Gresham begin to look through our own emotional bonds no longer needed, they may choose Private Equity. “Are they doing everything to people and be objective about whether they to go quickly and you might not possible? If the market is simply not there, can really do the job.” have an immediate replacement. no amount of changing the management Elson believes the best way to replace In that case, an interim holder of team will solve the problem.” managers is to focus on the needs of the a post can be useful.” However, when a change needs to be made in company first and the individual second. Anne Beitel, managing a management team, it’s better to make it sooner “Typically, when you’re in this situation, you director of Executives Online, rather than later, he adds. “One thing I’ve learnt in spend a lot of time worrying about the individual. which specialises in interim private equity is that if you delay changes, it just You need to get back to what the company is management and executive recruitment, sees makes them more difficult. Encouraging managers going to do.” interim managers potentially playing the role to think of themselves as shareholders helps them He also believes that time must be invested of catalyst in making changes when a portfolio to understand when a change is necessary.” into replacing members of a management team. company management team is failing. The key When faced with an underperforming “You need to be patient as you determine what is finding an interim who has had experience management team, it’s important to resist the the best course of action is. Sometimes private of turnaround situations before. Beitel believes temptation to jump to conclusions, adds Simon equity resorts to a knee-jerk reaction.” it doesn’t necessarily matter whether that Wildig, a partner at CBPE Capital. “You have to experience has been in the same analyse the situation very carefully,” he says. Interim interest industry. It’s the ability to take a “Try to work out what your options are and If a member of the team has to be replaced in a difficult situation by the scruff of the act on them as sensibly as you can. Disruption hurry, one option might be to bring in an interim neck and deliver the treatment that’s needed. to a team, even if it is obvious that it’s manager until a more permanent employee can be “If a portfolio company is in a hard or damaged 20 REALDEALS 4 June 2009
  9. 9. In association with state and in a real rescue situation, I think the skills for affecting that “You need to be are quite transferable,” she says. As the recession has deepened, patient as you Beitel has noticed a growing demand for interim finance directors, determine what supply chain and procurement professionals, as well as sales the best course and marketing staff. Beitel believes that in the appropriate of action is. circumstances, an interim manager could be the right Sometimes private choice to make much-needed changes at a portfolio company equity resorts to a that is underperforming. “In the case of a private equity knee-jerk reaction” backed-business, an interim manager can shake things up and a short timescale – a quality which certainly challenge preconceptions – and makes them highly suitable for posts in private will not care too much if they are equity portfolio companies. “They’ve got to climb not universally liked because they up whatever learning curve there is very quickly. are there to do a task, deliver a But we try to select them so that they have result and move on to the next experience of similar organisations, which assignment,” she says. minimises the learning curve.” But if the interim is going into a Beitel says that she sees some common traits well-performing company to plug a in the most effective interim managers. “They gap between permanent appointments, have a real independent-minded streak and a industry experience may be more distaste for corporate politics. In some cases, important than a turnaround track record, that’s why they became interim executives. Beitel argues. “You’d be looking for a They were interested in doing their work, strong match between the candidate’s contributing their expertise, not being nice to background and the domain in which the everyone in the office and worrying about who target company operates,” she says. is going to stab you in the back.” Beitel warns private equity firms thinking Private equity-owned companies, with their of hiring an interim manager for a portfolio emphasis on hard-edged regular measurements company not to treat it like a permanent of fundamentals such as cost reduction or top- post. “When you’re recruiting a person for line revenue improvement, ought to be effective the long term, cultural fit and at measuring whether an interim manager has meshing with the management contributed what’s required. “You will know team are important drivers for the from your figures whether they have done their candidate’s success in the job. An work,” argues Beitel. interim is not there to be cosy with the folks around them – ambition and objectivity they’re there to deliver results. But although interim managers undoubtedly “But you must be really have a role to play, the deal-makers say their clear what you want them primary focus when considering an investment to come in and do. To bring in a highly is on whether the company already has a quality qualified and expensive person and not to management team – or the potential to build one. brief and focus them is a waste of everyone’s Marson-Smith is in no doubt about what time and money. So be clear on what you want makes a great management team in a portfolio them to accomplish and put them to it.” company. “The most important quality is a track Hiring an interim need not be a lengthy record through good times and bad,” he says. process. Beitel says that her clients typically “In the current environment, one of the most want a shortlist of possible candidates within demonstrable attributes is the ability to be a a few days of giving her the brief. The chosen scrapper. Faced with a requirement, they take manager is expected to be at their desk a few the necessary action.” It’s important when days after being chosen. “A typical timescale business is plain sailing, but even more so when from brief to placement is measured in days, not the economy is wallowing in troubled waters. weeks,” she confirms. Once they’ve got their feet Getting the right management team into under the desk, a typical interim manager could a portfolio company has always been a key be in place for around six to nine months. element of success in private equity investing. Beitel adds that interim executives tend to When times are tough, that’s even more be people who are used to delivering results in important. “First of all, an outstanding www.realdeals.eu.com REALDEALS 21
  10. 10. interimmanagers management team has to have a fire inside them some money for themselves, as well as to to be successful,” says Elson. “They are highly achieve the investment’s aim.” ambitious and they want to win – they want to But the recession might weed out some of succeed for themselves in some way. Secondly, the less resilient managers who, naively, saw they are objective. They have the ability to look private equity as a way of making easy money. at the world with a very clear set of perspectives. As Priest points out, a characteristic of private Marson-Smith believes the right chemistry is Some people get those other perspectives by equity is that portfolio companies have crucial in portfolio company management teams. bringing other people around them to get “stretched business plans”. He adds: “In a “Individuals can have tremendous track records different points of view – some are able to do recession, the business case is even more and skills but they need to work as a team and, it themselves. But the ability to have different stretched and challenging.” ultimately, the power will be in the team,” he perspectives allows them to see in 3D.” Being able to achieve highly ambitious says. “The beauty of the best team is that the Wildig says that in a recession, there is value targets, sometimes without the support whole is greater than the sum of the parts, and in having managers on board who’ve been there infrastructure that’s commonplace in big you are able to harness that team energy.” before. “It’s valuable to have some experience corporates, requires go-getters with extra But structure is also important, as Wildig and awareness of the sort of difficulties that resilience. Priest gives the example of the points out. CBPE Capital typically invests in times like these can throw at you,” he says. management team that brought the ironmonger businesses with £25m (¤28.5m) to £250m “You can learn a lot from hard times rather chain Robert Dyas back from the brink of turnover. “Even though they might be than when things are going well.” administration following a management buyout multinational businesses, because of the scale The managers in private equity portfolio from Change Capital in April. “People who are the senior management team are pretty companies are a different breed to the kind good at working in those kinds of environments intimately involved with the day-to-day running. you find in public companies, argues Andrew show incredible resourcefulness,” he adds. You want them to be involved because you may Priest, a partner at Skillcapital, which recruits want to make changes to what is happening management teams for private equity-backed executive decisions fairly regularly. In our view, you don’t want portfolio companies. He points out that when a But in a climate in which private equity investing layers of hierarchy to get in the way of that company is acquired by private equity, there’s is tougher, how does the canny deal-doer happening. We like businesses that have a often a change in capital structure and an ensure that the management team in the target relatively flat structure – a team of four or five infusion of debt. “That creates a pressure to company can deliver? For Elson, it’s all about guys at the top who can quickly put their finger perform and manage for cash which won’t be the the qualities of the chief executive. “It’s really on something that needs to happen further same in a normal corporate,” he says. “Whether a about whether we’ve assessed the programme down the business.” A key figure in the management team could “An outstanding management team be the chairman. “We are big fans of involved chairmen,” says Marson-Smith, who is not has to have a fire inside them to be interested in the kind of chairman who turns up once a month for tea and biscuits. In general, he successful. They are highly ambitious favours a part-time, non-executive chairman who has the ability to support the management team: and they want to win” “The chairman can be a valuable conduit between the management team and the investor.” In Marson-Smith’s book, a key requirement of manager is going to be a success or not depends that the company needs to execute and matched a good chairman is experience of the relevant on whether they can adapt to an environment in it to the skillset and demeanour of the chief industry sector. “Beyond that, leadership skills which there will be clear-cut objectives in the executive,” he says. so that they can harness the skills of the people frame and shorter communications paths to the In Elson’s book, the right chief executive can in the management team and help them to business’s owners.” make up for gaps in the rest of the management perform better.” The trick is spotting the managers who have team. That’s because Palamon is a growth Elson sees an important role for the chairman demonstrable ambition and a results-driven investor seeking under-scaled companies with when there’s a difference of opinion between way of working, argues Priest. “They should potential. “We’ll often expect holes in the the portfolio management team and the backer show evidence of being willing to move out of management team,” says Elson. “We won’t on how the company should approach a key their comfort zone, of having been promoted necessarily not do a deal because of that. issue. “This is a great place where the chairman quickly and of working hard and long hours. There could be management posts to fill and can weigh in with an objective, unaffiliated, They’ll also often be people who’ve worked in we’ll work out with the CEO how to fill them.” unaligned voice.” challenging situations, such as restructurings But Elson is clear that it’s the chief It is results that private equity firms are going and turnarounds.” executive’s job to build the team. “Our role to be looking at with an ever more critical eye Priest says that when Skillcapital is recruiting is to be a second set of eyes and a facilitator in the recessionary months ahead – the pressure for its clients, which include Cinven, Candover, in any way we can,” he says. “For example, on management teams to perform has never Sovereign Capital and HgCapital, it often looks Palamon may do an initial trawl of the market been greater. But when asset values recover, for more experienced managers. “We bring in to winnow down a long list of 30 or 40 the rewards could be greater too. In the people who are used to working in bigger potential candidates for a key management meantime, the key qualities for portfolio companies and are further down their career post in a portfolio company to a final shortlist. company management teams are a clear eye, tracks. They’ve been exposed to a lot of different Elson explains: “We would present the a stout heart and more than a little bit of luck. business situations and they’re persuaded to candidates we think could do the job, but leave move into a private equity portfolio company it to the CEO to decide which is the one with the Peter bartram is a freelance because there’s an opportunity to make right chemistry that he’d want to work with.” business journalist. 22 REALDEALS 4 June 2009
  11. 11. pull yourself together Restructuring a company that is on the ropes can be a battle of wills between warring interests, but overcoming these struggles could lead to triumph in the face of adversity. by vInce heaney many highly leveraged, private equity- banks were scrambling to reorganise and this risk, so there is a growing trend for backed companies that changed hands during increase their restructuring resources, focusing management to be the ones looking to instigate the credit boom are already undergoing on the most urgent problems rather than future a restructuring process. restructuring. For many more it is a fast- breaches. Part-way through the year, the trading Management also has a further financial approaching reality. outlook for 2009 is now more visible, and for incentive to address the problem early. “If a private Restructuring is predominantly a zero-sum many companies the prospect of whether equity deal is underwater, the management deal game, in which different stakeholders in a covenants will be breached or not is becoming that ranks behind it will also be underwater,” business struggling to meet its financial more clear-cut. More restructuring activity says Paul Canning, managing director at HIG commitments negotiate how the pain will be appears unavoidable. Deals completed a couple European Capital Partners, which invests in shared among them. The process, however, is of years ago often had capital structures that distressed situations. “We have been contacted by complicated by the variety of different agendas required continued growth in Ebitda to generate disaffected management teams who are having of sponsors, management, banks and other sufficient cash flow to service the debt. With to work harder in a tougher environment and feel capital providers, many of which are struggling Ebitda now more likely to be contracting than as if they are working to repay the bank, with no to repair their own balance sheets. Sorting out growing, covenant breaches are only a matter of return to them.” Canning also notes that there is the mess from a deal that has turned sour can time, and there is a growing realisation among an increased focus by more financially aware prove more difficult than putting the transaction sponsors and management that the problem corporates on the balance sheets of their suppliers together in the first place. needs to be addressed sooner rather than later. and customers – debt has become a consideration But when should sponsors and the “There has been a change in attitude,” says in evaluating long-term customer relationships. management of portfolio companies tell their Ian Bagshaw, partner in the private equity bankers that a problem is looming? For practice of law firm Linklaters. “Management Ignorance: not bliss transactions with relatively benign covenants that is now looking at the possibility of a breach in A lack of skilled restructuring resources remains are not yet in breach, there can be a temptation the budgeting process. Managers are more aware an issue for some banks and is contributing to not to deal with a deteriorating situation that of their personal liability – they are the ones the length of the process, but this should not be under stricter covenants would require attention. carrying the can if they get the cash flow analysis a reason for companies to ignore the problem. “I For their part, at the start of the year many wrong.” Identifying problems early can mitigate have no sympathy for complaints that the process 24 REALDEALS 4 June 2009
  12. 12. restructuring takes three or four months,” says Hugh Brown, London. “Generally, if banks go for equity cures the fiduciary responsibilities that entails.” senior partner in the debt advisory team at it’s because they provide a clear mechanism for This would be obstacle enough with just a PricewaterhouseCoopers. “It’s better to engage private equity to cure potential covenant breaches. small number of banks involved, but for many in a long, but positive process than to wait until There may be downsides though, as they can 2006/2007 vintage deals, bank syndicates were the problem needs to be dealt with tomorrow.” sometimes just be quick fixes solving the very large and the different constituents all have Where value has not dropped precipitously, immediate covenant problems, but not really their own agendas, which may not be aligned. it may be possible to remedy the situation by addressing underlying or longer-term problems in Recently, for example, McCarthy & Stone, the resetting covenants. Banks, however, are acting a business. Banks will normally want any related UK’s largest retirement homebuilder, agreed a swiftly – and sometimes harshly – when faced cash injection to lead to a permanent reduction in debt-for-equity swap with its senior lenders. with clients in breach of covenants. “In order to debt rather than just being added back to earnings, The bank syndicate for this comprised around reset covenants, the banks are hitting you with which is a route sponsors frequently push for.” 60 financial institutions. large charges and are acting in a similar fashion Sponsors may be willing to put in more cash In such a large syndicate there can be over missed interest payments. Working capital to avoid an alternative that preserves even less distressed debt traders, which have bought into lines can also be pulled if there is a technical value – such as a fire sale or even administration the debt at a deep discount and are looking to breach,” says the managing partner of a lower – but the decline in equity values has in some make a quick turn. They may be willing to agree to mid-market private equity house. There is also cases been so sharp and severe that the gap can a settlement at a lower price than a longer-term anecdotal evidence that some banks are using be difficult to bridge. “Banks are now only willing lender looking to minimise the write-down. Adding breaches as a means of weeding out the clients to lend about three to four times cash flow, and further complications, the syndicate’s members they no longer want in their portfolios. when there is a covenant breach are looking to may change over the course of the restructuring “The current restructuring environment is very ‘right-size’ their loans to that new lower level,” as different members trade in and out of the debt. adversarial,” agrees Brown. “Lenders are taking a says Brown. “For transactions done late in the “In a syndicate you can have ‘freeriders’, more robust position on pricing and requirement boom with debt of seven to eight times cash ‘holdouts’ and ‘terrorists’,” says Richards. for new equity when loans go into default.” flow, it’s difficult for sponsors to put in sufficient “Freeriders sit back and let the larger These concerns are serious enough that the cash to make up the difference.” constituents negotiate, riding on their coat tails. BVCA has taken up the fight on the industry’s “The equity cure is almost certainly dead,” Holdouts try to achieve a better deal by refusing behalf, and is collating data to ensure that the says Bagshaw. “If there is no equity value left, to agree to the offered terms – and may even on banks are acting responsibly and pragmatically then generally there is no point putting more occasion be paid to agree. Terrorists are those in their dealings with private equity clients. in. The landslide of value since the collapse who use a controlling or blocking position in the of Lehman Brothers means that for some debt to extract additional value for themselves, Once bitten… companies there is a point where there is no which may impact on the recovery of others.” The difficulties faced by many companies, economic value in anything other than the Given the difficulty of reaching a unanimous however, are too severe to be solved with covenant senior debt. If you are a company in that agreement in these circumstances, court- resets, and instead require fresh cash injections – position, there is no point in an equity cure.” approved schemes of arrangement, which require but sponsors, sensibly, are wary of throwing good 75 per cent by number and value to agree, are money after bad. “I find it very ironic that sponsors Debt-for-equity dilemmas becoming more common in the UK. Some other don’t want to exercise the equity cure rights that Deeper restructurings, such as debt-for-equity European jurisdictions, however, do not enjoy this so many of them fought for because the value swaps, therefore look set to become more luxury – in Italy, for example, unanimous creditor has dropped so far, whereas banks, which were prevalent, bringing with them a whole new agreement is still needed. so reluctant to give equity cure rights, now want level of complexity. Unlike the well-trodden them to be exercised,” says Mike Barnes, head of M&A process, each restructuring is different Opportunities abound debt advisory at Hawkpoint. “The two scenarios and can be highly complex and time-consuming. But as well as a source of problems, restructuring to distinguish between are whether a company The situation is not made any easier by the fact can also offer opportunities for inventive needs new money for operational restructuring, that banks are not natural equity stakeholders. investors willing to participate in different parts or whether new equity is simply being sought “Banks are good at lending, not owning of the capital structure. “Buying businesses, or by banks to pay down debt. Sponsors will companies,” says Richards. “Commercial banks parts of businesses, out of restructuring is a key often offer new money only if banks accept a are not organised to take on ownership and area of focus for us,” says Canning, whose writedown of the debt, and banks are generally company HIG Capital has a mandate that allows reluctant to accept that if the writedown isn’t strictly necessary from a valuation perspective.” “It’s better to both debt and equity investment. “We have been flexible in approaching any or all of the Sponsors must also take into account their obligations to LPs. “As sponsors look at their engage in a long, stakeholders – sponsors, management and banks. Our message to the banks is that we portfolios and the IRR they expect to generate, they have to decide whether to try and save a but positive have capital and liquidity if new money is needed, as well as the practical operational business or redeploy the capital to a different business,” says Geoffrey Richards, co-head of restructuring capability [that the banks sometimes lack].” Bagshaw also sees the potential for new special situations and restructuring at William Blair. Equity cures may also only stave off a problem process than to wait opportunities: “I think we’ll see boutiques established to act as intermediaries between that is likely to recur. “During the documentation stage of the primary deal process, there can be until the problem the banks and the management teams in the companies they now own.” much debate about equity cures between banks and sponsors,” adds Ian Sale, managing director needs to be dealt For an industry accustomed to adapting to new circumstances, adversity brings opportunity. at Lloyds TSB Corporate Markets, responsible for the bank’s mid-market leveraged finance team in with tomorrow” vInce heaney is a freelance business journalist. www.realdeals.eu.com REALDEALS 25
  13. 13. pensions porous pensions £772.3bn in the year to April 2009, while liabilities during the period increased 15.8 per cent to £960.7bn. These shifts have not gone unnoticed by general partners. A survey of private equity Duke Street’s chastening experience firms conducted by pension consultant Punter Southall found that more than half of the with Focus DIY means that private equity respondents were worried that changes in future life expectancy predictions would increase investors must make their portfolio liabilities during ownership and cause a loss on exit. In addition, the study showed that private companies’ defined benefit pension equity firms were very cautious when pricing liabilities, with almost 90 per cent of respondents schemes watertight. by nicholas neveling valuing liabilities more conservatively than public companies do. Yet even making a conservative pricing of pension liabilities in the current in 2004, just days before Christmas, business it had sold 12 months earlier. The case economic environment is proving tricky. Duke Street Capital announced that it had sent shudders of fear through the private equity agreed to sell DIY chain Wickes, part of portfolio community. “The regulator is now starting to Pricing pressure company Focus Wickes Group, to Travis Perkins throw its weight around in a wholly unacceptable Pension liabilities are valued using the FRS 17 for the handsome sum of £950m (¤1.08bn). way,” BVCA chief executive Simon Walker accounting standard, which values pension The deal marked a major landmark for Duke commented. “We have a very deep concern.” schemes against the returns of an AA-rated Street, which had been growing the company The Duke Street case showed that the bond. When AA bonds prices were stable at for almost 20 years. Duke Street first backed regulator was willing to cast its net around 75 basis points above gilts, the measure Focus in 1987, building it into a DIY empire retrospectively in order to shore up pensions was accepted as accurate, but post-2007, with a host of subsequent acquisitions. funds at risk, and that any dividends or sales the spreads on AA bonds have expanded Following the sale of Wickes, a large dividend would be looked at if prior clearance had not substantially, up to 275 basis points above gilts. was paid to Duke Street and the remaining been sought – or if the transaction was seen to The effect of this is that in accounting terms, companies, renamed Focus DIY, were refinanced. neglect the interests of the pension fund. With schemes look to be sufficiently funded, when in At the time, Duke Street could never have more private equity portfolio companies facing reality there are doubts about whether current imagined that four years later the transaction financial pressure – many that were refinanced credit spreads are genuine or just a reflection of a would come back to haunt it, or that the or exited for massive multiples just a few years credit-constrained market. A pension scheme that deal would ultimately push pension schemes ago – the possibility of facing a Focus DIY looks funded on paper could just as easily be in to the top of the private equity portfolio scenario is more real than ever. deficit given how unpredictable spreads are. management agenda. Pricing uncertainty has been exacerbated by When Wickes was sold, there were two Portfolio priority a lack of deal flow. With very few transactions under-funded defined benefit pension schemes Defined benefit schemes can no longer be taking place, there is no benchmark or pricing within the remaining Focus group, with a left to the actuaries and accountants to deal for how buyers and sellers are valuing schemes combined deficit of £26m. Following the sale of with. Managing the risk that comes with when companies change hands. Dipping pension Wickes, Focus DIY began to experience trading portfolio companies which have final salary asset values and uncertainty around pricing difficulties and was unable to support its capital schemes has become a crucial element of liabilities mean that firms should be paying more structure. In July 2007, the struggling company sound portfolio management. attention to pension funds within their portfolios. was sold to Cerberus Capital for a pound. The top priority for private equity firms “All businesses should be looking at their With the deficit of the Focus schemes sitting managing portfolio company pensions will be schemes and assessing their appetite for risk, at £32m when Cerberus came to the rescue, to ensure that pension liabilities are priced how they should be investing assets, what they the pensions regulator, wary that the burden accurately and funded sufficiently. The slump can do with liabilities, and how much cash they of funding the schemes would now fall on the in equity markets, increasing life expectancy are prepared to put into a scheme,” says Richard Pension Protection Fund (PPF), stepped in. and quantitive easing have all combined to Jones, a principal at Punter Southall. A year later, following a series of negotiations, swell deficits. According to the PPF, the value There are a number of options open to Duke Street paid £8m into the schemes of a of pension scheme assets fell 9.8 per cent to portfolio companies to manage schemes. On the asset side, companies can adjust their investment strategy when investing pension funding Comparisons assets. More risk offers the possibility of higher one year ago – returns and smaller deficits – less risk will deliver end april 2009 end march 2009 end april 2008 smaller returns but more certainty on what the Number of schemes in deficit 6,429 6,637 4,815 shortfall will be, and how much cash will be needed to fund that gap. Funding gap of schemes in deficit £204.8bn £253.1bn £55.9bn On the liability side, portfolio companies can Number of schemes in surplus 953 774 2,596 change benefit structures by closing the scheme Value of schemes in surplus £16.4bn £11.1bn £83.0bn to new entrants, reducing benefits when a member retires early or cutting the total pension Aggregate balance -£188.5bn -£242.0bn £27.1bn payout by paying a pension in a tax-free lump source: Pension Protection Fund sum instead of over a number years. 26 REALDEALS 4 June 2009