According to latest figures released by KPMG this week, around half of MBO deals completed over the last three months have involved distressed companies.

The other interesting fact born out by the data is that average deal size has shrunk dramatically from the same period last year. The average MBO deal size over the past quarter was valued at £43 million, compared with £150 million in the third quarter of 2008.

However, senior KPMG partner, Michael McDonagh, said that he was surprised at the low number of distressed deals given how long the recession has had a grip on the UK economy. “The research shows that we are still some way off seeing the private equity market throw its weight behind distressed opportunities.”

KPMG’s view for the next year? McDonagh is betting there will be an increase in deals starting this final quarter of 2009, followed by a further increase in activity early next year.

And what kinds of companies are going to attract the most attention?
According to McDonagh, “What some might describe as dull but dependable businesses with good earnings visibility, particularly with contracted revenues, are far more likely to attract debt support and therefore private equity bidders.”

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Times are still tough for a lot of businesses. According to recent figures from The Insolvency Service, there were 5,055 liquidations in England and Wales in the second quarter of this year.

This was a 39.1% increase on the same period last year and a 2.9% increase on the first quarter of 2009. So the trend may be slowing but it is still a marked problem. In addition, the number of administrations, receiverships, and company voluntary agreements (1,529 in total) rose by 22.7 per cent on the same quarter last year. 1,027 of these were businesses in administration, slightly down from 1,311 in the first quarter.

So, while companies are still falling by the wayside like victims of a modern-day plague, in the ’survival of the fittest’ world of capitalism, this can represent an excellent opportunity for smarter entrepreneurs. For all businesses it is important to stay fit and lean in order to survive.

Drastically cutting costs is one way to stay afloat. But if you want to develop as an organisation, it is important to progress and be in a position to take opportunities as they arise.

And with so many struggling businesses out there, a failing business might represent an attractive investment opportunity. Businesses can fail for a number of reasons, not all of which mean the business cannot be saved as a going concern.

You really need to look under the bonnet to see what is going on. Incapable or tired management, insufficient knowledge or skill-base in the company, or overriding debts and stifling interest payments can bring a business to insolvency or the brink of insolvency, and all of these can be correctable by the right buyer.

For example, a start-up business could have a healthy and increasing turnover, but may fail due to a difficulty in raising capital.

Perhaps the owner is an ineffective manager, without the necessary skills to structure the business, the marketing skills to capitalise on sales opportunities or the discipline to manage inventory levels. An investor with sufficient financial resources and expertise could turn around such a company; and although capital is not exactly abundant at the moment, the cost of a deal is often a lot less now than it would have been just a couple of years ago. What is vital when considering such an investment is to be able to act quickly and carry out vigilant due diligence.

It is not just the balance sheet of the proposed acquisition that needs to be examined carefully. All financial records should be checked, plus anything else that is material to the sale. This means in essence that all aspects of the business need to be properly analysed.

Commercial due diligence should cover everything from operations to company strategy, and should include a comprehensive analysis of the company’s accounts, including past and forecast financial performance, a valuation of all property and other assets, major customer contracts, intellectual property protection, legal and tax compliance and any outstanding legal issues or action against the company.

In the past, vendor due diligence (VDD) was quite common. But it is a slight contradiction to rely on a report written by the vendor of the business you are buying. Best to do your own legwork.

And it cuts both ways. Vendors could also consider performing a due diligence analysis on the buyer, to review their ability to purchase, as well as reviewing other issues that could affect the business or the vendor following the sale.

Forced sellers are abundant at the moment and there are bargains to be had if you choose carefully and do your homework. Sectors that have been hardest hit, such as retail, hospitality and financial services, can offer good value. Now is not a time for the faint-hearted. If you have the confidence, the expertise, and of course the financial means to take opportunities as they arise, you could be a winner in the Darwinian game.

It is not down to chance that over half (52%) of the 50 top companies in the United States were started in a recession year. And of the top 10 companies, an astounding 8 of them were incorporated in a recession year. It is likely that the tough start-up environment in a recession forms a company culture that thrives by exploiting opportunities whenever and wherever they arise, and that includes buying business at their weakest point.

Of course none of this is easy. Finding the right acquisition can be a lengthy process, requiring a lot of time and effort. And there is risk involved. But the results speak for themselves. And when we do eventually emerge from this recession, it may be those who have had the entrepreneurial confidence during the hard times to take risk and effectively consolidate that ultimately come out on top.

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More than a third of management buyouts in the UK since the start of the year occurred at companies in administration, as private-equity firms target failed businesses. Private equity firms with cash and those less reliant on debt have been particularly successful in this regard.

Research on the first quarter of 2009 by the Centre for Management Buyout Research (CMBOR) shows companies in administration surpassed family-owned and closely held businesses as a source of management buyouts for the first time since CMBOR began gathering data in 2000.

Since the start of the year, of 61 management buyouts in which managers of a company bought the company they work for — usually with the help of private-equity funds — 38% involved companies in receivership. This compares with 11% for the whole of last year and 5% in 2007

These deals, which tended to be smaller in size, constituted 14% of all management-buyout deal value, which is £1.95 billion ($2.84 billion) so far this year. Although about half of management buyouts are private-equity backed, CMBOR said, these transactions make up the vast majority of total deal value.

Conversely, family-owned and closely held companies were the source of 28% of deals in the first quarter, compared with 42% last year and 41% in 2007. Secondary buyouts fell to just 7% from 19% last year.

Of the £1.95 billion in total value of the 61 UK management-buyout deals, two-thirds was from one deal: U.K. buyout house Permira Advisers LLP, News Corp. and NDS Group PLC taking television-technology company NDS private. It has been the slowest quarter by number of deals since records began in 1990.

In the final three months of 2008 there were 92 deals worth a total of £1.3 billion, and in the first quarter of last year there were 152 deals worth a total of £7.5 billion.

If the market continues at this pace it will be the slowest year by management buyout volume since 1981, when there were 152 deals worth a total value of £267 million. It would also be the slowest year by value of deals since 1995 when there were 598 deals worth a total of £5.6 billion.

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Peter Harkness (above) and his business partner, Owen Davies, bought Highbury Communications, the North London-based publisher of many well-known newsstand magazines out of administration in 2006. The businesses downfall occurred after it had taken on too much debt – some £26m. This debt was mainly due to some disastrous acquisitions and the overly ambitious launch of new media products.

How Peter Harkness and his partner turned the company around so that it is now making a profit of £1m is an interesting story. The main focus was to get rid of the loss making magazines and concentrate on the “special interest” magazines that have a more loyal subscriber base. Due to the increased profitability of these new titles only 30% of the revenue now comes from advertisers. Profitability was further increased with the setting up of ecommerce websites closely linked to the actual titles.

Another successful entrepreneur, Simon Elliot (above right), saw an opportunity when the company he was interested in collapsed due to a £1m tax bill. Problems that were uncovered included a finance director who had been stealing from the company due to lack of oversight. One of the main attractions of the company were the long term contracts.

Both Elliot and Harkness found their target companies through careful research. Harkness says he ‘used to spend hours and hours downloading files from Companies House’, and Elliot’s successful bid came after two previous potential mergers had fallen by the wayside. Of course another great source of information is the Business Sale Report, where companies that have gone into administration are listed on the site each day.

Stuart Wilde just just saw a business, liked it and just bought it. Stuart was in the middle of a home renovation project when he found out his favourite supplier had gone under. Stuart was relatively wealthy but at 52 he had ‘itchy feet’. He jumped at the chance to buy the company, even though he had no experience in bathrooms or in retail.
‘I did question my sanity for a couple of minutes,’ he says, ‘but I felt there was a good business there, and the main reason it had gone into administration was because the previous owners had spent £750,000 doing up the showroom without thinking about cashflow.’

So what have the entrepreneurs learnt from their experience. A number of key lessons seem to have been learnt.

A more detailed version of this article where readers can gain more insight can be found by subscribing to the Business Sale Report

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Another household name looks like it might join the list of companies that have gone insolvent. Team Group who rescued Pickfords, the removals business, last year has reportedly brought in Deloitte, the accountancy firm, to advise on all possible options to stave off collapse of the removals firm. Pickfords has run into trouble in the wake of the housing-market collapse. However, according to the Sunday Times the business had a turnover of �83m in 2007 but operating losses of �7m. Given this loss was during 2007 when the property market was healthy it isn’t really surprising that the business is in deep trouble now.

One option being considered is the “pre-pack” where the business is bought at the same time as going into administration releasing the new owners of the old companies liabilities. This has been controversial as many high profile businesses have chosen this route. Insolvency practitioners are mainly of the view that it is the best way to preserve jobs and pay secured creditors. Unsecured creditors do often find themselves very out of pocket and the speed and lack of consultation in the process does upset suppliers.

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