Is a Special Situations Private Equity Fund the Best Route to Finance My Turnaround?

In the current market, we are seeing good businesses reach out to us for “growth capital” which once diagnosed often means the business (through no fault of its own) has fallen on tough times. As the saying goes “cash is king” and good businesses with historical healthy profits have had one bad debt, or one client walk away, and is now facing a perilous situation.

When a struggling business is in dire need of a financial lifeline to navigate turbulent times, one common solution is to seek outside capital injection. In such scenarios, special situations private equity funds emerge as an attractive option. These funds are specifically designed to invest in distressed or underperforming companies with the objective of turning them around and generating lucrative returns.

Before diving into such an agreement, it is crucial for business owners and stakeholders to thoroughly assess whether a special situations private equity fund is the best route to finance their turnaround. In this blog, we will delve into the intricacies of these funds, their benefits, potential drawbacks, and alternative options to make an informed decision.

Understanding Special Situations Private Equity Funds:
Special situations private equity funds, also known as distressed private equity funds, are a subset of private equity that focuses on investing in financially distressed companies. These funds are manned by experienced managers adept at identifying undervalued assets with the potential for growth. They often look for businesses facing various challenges, such as high debt levels, declining revenues, management issues, or operational inefficiencies.

Benefits of Special Situations Private Equity Funds for Turnarounds:

1. Expertise: Special situations funds are equipped with seasoned professionals who possess in-depth knowledge of dealing with distressed companies. Their expertise can be invaluable in guiding the turnaround process and revitalizing the business.

2. Financial Injection: Struggling companies often face cash flow problems and find it challenging to secure traditional financing. Special situations private equity funds can provide a much-needed capital infusion to help stabilize operations and fund strategic initiatives.

3. Hands-on Approach: Unlike traditional private equity firms, special situations funds typically take a more hands-on approach. They work closely with the company’s management team to implement operational improvements and execute a strategic turnaround plan.

4. Long-term Perspective: While some investors might shy away from distressed businesses, special situations private equity funds often adopt a long-term investment horizon. This allows the necessary time and resources for a comprehensive transformation.

5. Network and Resources: These funds often have extensive networks and access to resources that can aid the turnaround process. This includes industry connections, strategic partners, and experienced consultants.

Potential Drawbacks and Considerations:

1. Loss of Control: Accepting capital from a special situations fund may result in a loss of operational control for the existing owners. The fund’s managers might seek to take more significant control to implement their turnaround strategies effectively.

2. Intensive Scrutiny: Special situations private equity funds perform thorough due diligence before investing. This can be an intrusive process, as the fund assesses the company’s current condition, prospects, and underlying issues.

3. Fees and Expenses: These funds often charge higher management fees and may require a percentage of the profits earned, reducing the overall returns for the original stakeholders.

4. Misaligned Interests: The interests of the special situations fund and the existing owners may not always align. The fund’s primary objective is to generate profits, while the business owners may have different long-term goals, this however is where we at GJC ensure that the fund and the company ownership share a common exit goal (which maybe that the ownership buy back shares in the future on a ratchet deal) if this is the case, everyone knows they’re role post deal and the dial can move quickly.

Alternative Financing Options for Turnarounds:

1. Bank Loans and Debt Restructuring: Businesses in distress can explore debt restructuring and negotiating with their existing lenders for more favorable terms or refinancing options, however with base rates rising, and working capital debt reaching double digit figures, a business needs to have high margins to absorb such debt over a term period.

2. Angel Investors: These individual investors often provide capital and mentorship, and they might be willing to support a turnaround venture if they see potential, they are a great source of capital, but will obviously want a controlling stake in the business to protect its own capital.

While special situations private equity funds offer significant advantages for businesses in distress, they are not the only path to finance a turnaround. Each situation is unique, and it is essential to carefully evaluate the potential benefits, drawbacks, and alternative financing options. Business owners should seek expert advice and conduct thorough due diligence to determine the best route to secure the necessary capital and successfully navigate the path to recovery. If your business is in this situation, it might be worth a call to one of our turnaround team to see if we can help you find a suitable solution.

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