Navigating the Waters of a Downturn

April 1, 2009
On the heels of World Bank’s recent prediction that the global economy will stay in its deepest recession of the past 60 years, automation players are no doubt troubled by impending tough times and compressed economics.

At the onset of the New Year, businesses selling through distribution saw not only a decrease in new demand but a sizeable inventory reduction to boot. Rockwell, one of the bellwethers of the automation community, recently forecasted a 17 percent decline in revenue in 2009. A dismal start to an economic recovery; but alas, all hope is not lost.

Jim Pinto listed seven key business initiatives to weather the downturn in his February 2009 column (See, The correct implementation of these initiatives could create a more appropriate cost structure in this environment, while not sacrificing long-term competitive advantages. Often, opportunity comes disguised as challenge, particularly in a down market. The actions you take today are not simply a means to survive the downturn; these decisions will have an enormous impact on how well your company is positioned for future growth. Investors will place an emphasis on the decisions and resulting performance through this period when evaluating the attractiveness of a potential investment.

Healthy and liquid

Perhaps the biggest issue that companies are facing today is the reluctance of financial institutions to extend credit. Consequently, maintaining a healthy and liquid balance sheet is ever more important. Nurturing existing relationships with banks and developing relationships with alternative capital providers such as private equity and mezzanine lenders is now an essential element of a sound financial plan. Most financial groups have retreated from the buyout marketplace and are now focused on minority investments with modest or no leverage in good businesses. The cost of such financing could be far outweighed by the additional liquidity and stability.

During the next six to 18 months, strategic buyers with healthy balance sheets have an unprecedented opportunity to capitalize on the current tsunami of market changes, such as eroded equity values, lack of growth, leverage and covenant stress, and liquidity issues. Many excellent industrial companies with good market positions, technologies, cash generation and balance sheets are currently trading at unsustainable multiples of two to four times last 12 months earnings before interest, taxes, depreciation and amortization (EBITDA), and are still outstanding bargains even if 2009 and 2010 earnings are lower by 20 percent to 40 percent. We anticipate that many public company chief executive officers and board members will find themselves in positions in which they have to defend their companies’ independence through well-planned “defensive” strategies or well-considered “offensive” strategies. A regular review of your business’s defensive profile is prudent, especially in this market environment.

For liquidity-rich buyers, there are techniques available to gain control or a strong voice in financially distressed companies. According to Houlihan Lokey restructuring expert Andrew Miller, “It is a particularly good time for strategic players with strong balance sheets to consider acquiring distressed companies. First, a number of distressed industries are experiencing historically low valuations. Second, many distressed company lenders are unwilling or unable to finance distressed companies, preferring instead to see companies sell, even at these low valuations. Third, given the dearth of financing available for financial investors, strategic acquirers have meaningfully less competition in acquiring assets today.”

These changes could truly “reshuffle the deck” among not only leading multinational players but also the thousands of middle-market public and private niche leaders. The current market upheaval may create an opportunity for well-informed and execution-oriented investor groups and operating executives to create very impressive wealth over the next several years. Clearly, access to capital and more creative transaction structures with sound underlying commercial logic will be critical in unlocking and creating value for the winners who will emerge from the current environment.

Jim Lavelle, [email protected], is Managing Director of the Industrial Technologies practice, and Eugene Bazemore, [email protected], is Senior Vice President of the Industrial Technologies practice of Houlihan Lokey.
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