KSA Group, as the leading SME CVA adviser is delighted to be sponsoring Grant Jones, a KSA employee, to research CVAs at one of the UK’s leading business schools, Cass Business School. Grant is researching into CVAs generally, but is particularly looking to –
(A). CVA factor suitability: what makes for a successful CVA.
Academic study in this area has been limited. The major contribution was a paper written by Professors Cook, Pandit and Milman from the universities of Loughborough, Manchester and Lancaster respectively, being supported by the Association of Chartered Certified Accountant’s, and was published in 2001. Major legislative changes have occurred since 2001, notably the demise of administrative receiverships and of the HMRC preferential creditor status. The outlook of lenders has also changed substantially. Grant will rerun the above study in a current context.
The Cook, Pandit and Milman study sought to develop 8 hypotheses –
Hypothesis 1: ‘CVAs among small firms are less likely to succeed than CVAs among larger firms’.
Grant’s study will seek to replicate the methodology adopted by Cook, Pandit and Milman, but further refined. The definition of ‘small’ is very much at the centre of this hypothesis. The hypothesis should perhaps best be rephrased, so as to refer to ‘micro’. Further the success or otherwise of ‘micro-CVAs’, should be juxtaposed with the creditor return, most usually nil, for micro-liquidations.
Hypothesis 2: ‘CVA success will not vary significantly according to industry sector’.
The nature of UK plc has changed in the last 15 years, particularly with the growth of the service sector and the relative decline of the High Street. Again Grant’s study will seek to replicate the methodology adopted by Cook, Pandit and Milman, but within a more current setting.
Hypothesis 3: ‘An unsatisfactory CVA result is more likely when the major cause of financial difficulty is poor management’.
UK plc has become a more forgiving business culture. This has resulted in management being more willing to recognise failings and thus act on the same. Grants up-to-date study will reconsider the Cook, Pandit and Milman findings.
Hypothesis 4: ‘CVA success is more likely when the firm is fundamentally viable’.
Sadly, little research has been done on post-insolvency viability. As noted below, part of the PhD research consists of developing a Z scoring technique for post-CVA viability.
Hypothesis 5: ‘CVA success is more likely when secured creditors do not exist’.
The Cook, Pandit and Milman findings were inconclusive and perhaps counterintuitive. In any event the secured lending scene has moved on dramatically since 2001 and the findings need to be revisited.
Hypothesis 6: ‘CVA success is more likely when secured creditors are supportive’.
This hypothesis is perhaps self-evident, to such an extent that it need not be tested. However the level of support can be tested. The growth of the asset-based lender and their willingness to assist post-CVA financing has changed the scene dramatically since 2001.
Hypothesis 7: ‘CVA success is more likely when unsecured preferential creditors are supportive’.
In 2001 HMRC enjoyed a substantial preferential creditor status. This is no longer the case. Further, professors Cook, Pandit and Milman noted that: “…the taxation authorities have attracted criticism for being too single-minded in the pursuit of outstanding revenues, rather than being sympathetic towards firms in financial difficulty”. HMRC now have ‘time-to-pay deals’ and work with insolvency practitioners to produce sound CVAs. Thus the situation has moved on dramatically since 2001 and the study need to be revisited.
Hypothesis 8: ‘Of secured and unsecured creditors (non-preferential and preferential), unsecured creditors will benefit most from CVAs, than from alternative insolvency regimes’.
Whilst the hypothesis is generally supported in the corporate rescue culture of UK plc, it needs to be constantly proven.
(B). CVA viability.
Financiers will be aware of the Z scoring technique, which predicts corporate viability. The technique was developed by US accounting academics and is now used throughout the world as a basis of lending and/or investing. UK corporate rehabilitation procedures, especially CVAs, need ongoing financial support. Lenders often feel unable to support without a Z score. Grant is developing a Z scoring technique for post-CVA viability.
The original Z-score formula was:
Z = 1.2T1 + 1.4T2 + 3.3T3 + 0.6T4 + 0.99T5.
T1 = Working Capital / Total Assets. Measures liquid assets in relation to the size of the company.
T2 = Retained Earnings / Total Assets. Measures profitability that reflects the company’s age and earning power.
T3 = Earnings Before Interest and Taxes / Total Assets. Measures operating efficiency apart from tax and leveraging factors. It recognizes operating earnings as being important to long-term viability.
T4 = Market Value of Equity / Book Value of Total Liabilities. Adds market dimension that can show up security price fluctuation as a possible red flag.
T5 = Sales/ Total Assets. Standard measure for total asset turnover (varies greatly from industry to industry).
Whilst the Z scoring technique is been refined over the years, nobody has addressed CVA Z scoring. It is hoped that CVA Z scoring will provide a useful yardstick, especially financiers to support CVA rehabilitations.
(C). CVA creditor class return calculations.
The Cook, Pandit and Millman study hypothesised, that unsecured creditor returns were better off in a CVA, as opposed to a liquidation. Their study focused non-NPV returns. From the creditor perspective, a simplistic analysis of receiving (say) a 10p in the pound dividend now, or a 20p in the pound dividend in five years, may not be sufficient. Grant’s study will look at the cost of capital and creditor return on a risk based analysis. Further Grant’s study will consider a cost of capital and creditor return on a risk based analysis, in the context of rejected and/or failed CVAs
(D). CVA stakeholder requirements and stakeholder surveys.
The Cook, Pandit and Milman study consisted of a survey of licensed insolvency practitioners. Insolvency practitioners are a major CVA stakeholder. Further they have substantial insight into the CVA process. But they are only one of several stakeholders. Grant will consider the other stakeholders, notably: financiers, including asset-based lenders and equity providers; government as both a creditor, a supporter of business and a provider of welfare benefits; employees; directors and company guarantors; and perhaps the most important of all, trade suppliers and landlords.
If you receive a survey questionnaire, please support this research. We wish to make a contribution to the betterment of UK plc