Business restructuring options

Rarely are opportunities presented to you in the perfect way, in a nice little box with a yellow bow on top. Good opportunities are messy and confusing and hard to recognize. They’re risky. They challenge you — Susan Wojcicki, CEO YouTube

The world is facing unprecedented times occasioned by the prevailing Pandemic and we have seen Governments and businesses putting in place various measures to ensure continuity of the economies and businesses.

The role of government is always to ensure that they provide the requisite operational environment for businesses and individuals to thrive. It is, therefore, the role of the various arms of government to work together in ensuring that we have the right fiscal and monetary policies, laws and that they are well implemented to protect the citizenry. 

One of the biggest requirements for businesses and individuals to do well is the availability of liquidity and this is brought about by the ability of the businesses to run profitably. 

Recently we have seen significant challenges with most businesses being hard hit. If we take the performance of the listed banking sector stocks to represent the overall business performance, we have seen a 33% drop in the overall profitability as measured using the Earnings per Share in the half-year financial reports.  From this, it is therefore important for business owners to understand what key options are available, to ensure that their businesses remain afloat and grow in the long term. 

Companies that face significant financial challenges have various options that they can explore including getting in new capital, either Debt or Equity, or going the extra mile and request for time to restructure their businesses.

The law

Starting from the point that the biggest challenge is when a business cannot be able to raise enough cash to pay for its obligation, if this happens the company is said to be insolvent. There are two levels of this; where the company’s liabilities are more than the assets, and; technical insolvency where the assets exceed liabilities but cannot be easily liquidated to pay off the obligations that are due. It is good to note that mere insolvency does not afford enough ground for lenders to petition for involuntary bankruptcy of the borrower or forced liquidation of the business.

The Law has continued to improve and provides alternatives on how a technically insolvent business can be assisted to get back to its feet and be able to service its creditors’ obligations and protect the interests of the other stakeholders. The available options include administration; company voluntary arrangements and; liquidation.

Administration is a fairly new development in Kenya. It was introduced by the Insolvency Act, No. 18 of 2015 as an alternative to liquidation, with three key objectives; to maintain the company as a going concern; to achieve a better outcome for the company’s creditors than liquidation would offer, and; to realize the property of the company and make distributions to secured or preferential creditors

The process of administration is headed by an Administrator, a certified Insolvency Practitioner, who may be appointed by an administration order of the court, unsecured creditors, or a company or its directors. He is required to perform the administrator’s functions in the interests of the company’s creditors as a whole.

Once the Administrator is appointed, they are entitled to all the records of the company and are required to present a proposal to the creditors on their plan to salvage the company. The Administrator assumes control of all the property the company is entitled to manage the affairs, and property of the company. While under administration, creditors may undertake procedures to enforce security over the company’s property, with approval from the court or an agreement with the administrator. 

The Administrator must therefore set a date for the creditors meeting and invite all the creditors that it knows of, having had access to the books of the company. Only creditors who have filed proof of debt before 4.00 pm of the day before the Creditors meeting are entitled to vote at the said creditor’s meeting.

At the Creditors’ meeting, the Administrator must present their proposal to the Creditors who shall vote on it. The percentage of an individual vote shall be determined by the amount of debt owed to the creditor. The creditor may opt to either vote for the proposal without amendments, vote for the proposal with amendments, or reject the proposal altogether. The decision of the creditors meeting shall be final.

Company voluntary arrangements were also introduced in Kenyan law by the Insolvency Act, No. 18 of 2015. This arrangement is entered into when a company is insolvent and the directors, administrator or liquidator as the case may be, proposes to the company’s shareholders and its creditors on the best way to save the company from liquidation. However, there are restrictions. Company Voluntary Arrangements is not an option banking and insurance companies; companies under administration and liquidation; a company in respect of which a voluntary arrangement has been carried out; companies in public-private partnerships and; companies with liabilities of over Sh1b.

The Directors must appoint a person, who must be a licensed insolvency practitioner, to supervise the company for the process of implementing the voluntary arrangement. The Supervisor must within 30 days of the proposal or a longer period be allowed by the court to submit a report detailing their opinion on the viability of the proposal and whether a meeting of the creditors should be called to vote on it and the date and time of such a meeting.

On the date of the creditors’ meeting, the creditors shall appoint a chairperson who shall divide the creditors into groups of secured, unsecured and preferential creditors. The Creditors shall then vote either to approve the proposal as is, approve it with modifications or reject it altogether. The proposal is approved if voted for by a majority of the members and a majority of each group present at the meeting. The proposal, if approved, shall be binding on the company and the creditors.

The Insolvency Act also provides liquidation as an option, for insolvent companies. There are two modes in which a company may be wound up; compulsory winding up by the court and; voluntary winding up.

Nakumatt Holdings

Until February 2017, Nakumatt, a local supermarket chain, was regarded as the largest Kenyan retailer, with 62 branches across the region, (45 in Kenya, 9 in Uganda, 5 in Tanzania and 3 in Rwanda) and a gross turnover of Sh52.2b. However, what was fueling Nakumatt’s rapid expansion was funded through debt. This included short-term borrowings, bank loans and letters of credit to its numerous suppliers. 

Due to a number of reasons, Nakumatt started experiencing serious cash-flow difficulties in 2016. The retailer was therefore unable to meet its financial obligations to landlords, its suppliers and employees. It was for these reasons that the administrator was appointed by an order of the court pursuant to an application filed by unsecured creditors, and Nakumatt Holdings was placed under administration in January 2018. 

PKF Consulting Limited (PKF) was appointed as Nakumatt Holdings’ administrator. This was to assess the possibility that the company could be revived after a full assessment, and for all creditors of Nakumatt to come forward and register their claims with the retailer.

Following the assessment of Nakumatt’s financial position, the administrator determined that if a liquidation route was used, then out of the total creditors of Sh35.8b, Sh30.6b were unlikely to be paid. This represented a significant 85% potential loss to the creditors. In essence, all unsecured creditors; Trade Creditors, Commercial Paper Holders and Short Term Noteholders, and private placement loan providers would suffer the maximum 100% loss of their debt amounts, as the available assets would first pay off secured creditors. Since the business model of Nakumatt could not support a better outcome for all the creditors as compared to a liquidation scenario, the Administrator set out to come up with a restructuring proposal to achieve this outcome based on the company remaining a going concern.

Nakumatt’s administrator came back to creditors with proposals that the creditors were supposed to take a vote on, and if deemed fit, the company shall adopt as the way forward. The proposals brought forth, in the view of Cytonn Investments, were not equitable and fair to all creditors. In addition, they failed to inspire confidence especially with the major stakeholders, required to turn around the business, especially suppliers, landlords, and employees. 

The best-case scenario for all creditors is a debt to equity conversion of their creditor claims, as liquidation is not in the best interest of anyone. This should include even the banks that had taken preferential debt. Case in point being the recent restructuring of Kenya Airways. In the case of Kenya Airways’ restructuring, the Government and several banks converted their debt into equity to the tune of Sh59b. The Government’s stake in Kenya Airways rose to 46.5% from 29.8% before the debt to equity conversion, while the bank’s consortium (KQ Lenders Co.) ended up owning 35.7% of the company. Ordinary shareholders who did not inject additional equity were diluted by 95%.

The proposed procedures in line with the Insolvency Act, Cytonn Report notes, accorded Nakumatt with a second chance, to pursue the recovery strategy dubbed “Nakumatt Bounce Back” but it was later in 2020 voted that the company could not continue with its operations and the creditors voted for its winding up.

Athi River Mining (ARM) Cement

ARM is a Kenyan manufacturing company listed at the Nairobi Securities Exchange, with operations in Kenya, Tanzania and Rwanda. The firm specializes in the production of cement, fertilizers, quicklime, and other industrial minerals. 

ARM cement, once a stable company, started experiencing difficulty in 2016, as the firm’s revenue lines started decreasing, with revenue declining by 32% from Sh12.8b in FY’2016 to Sh8.7b in FY’2017, coupled with the rising operating expenses, which rose by 34.8% to Sh3.1b from Sh2.3b in FY’2016. This saw the operating loss widen to Sh4.2b in FY’2017 from Sh0.3b in FY’2016, and consequently the loss after tax widened by 87.5% to Sh7.5b in FY’2017 from Sh4b in FY’2016. 

The shrinking revenue lines were largely attributed to stiff competition in the cement industry both in Kenya and Tanzania, the company’s main revenue contributors. The declining performance pushed the company into a negative working capital position, further exacerbating the poor performance, thereby rendering the company unable to service its debt obligations to various creditors, such as UBA Bank Kenya, which provided the company with a Sh500m short term loan; Africa Finance Corporation (AFC), Sh4.6b loan, and; Stanbic Bank Kenya, Sh3.2b.

Unable to service these obligations, the company was then placed under administration in August 2018, with PwC’s Muniu Thoithi and George Weru appointed as the administrators. The administrators, having full control held a creditor’s meeting in October 2018, where creditors voted to give the administrators up to September 2019, to revive the company. The creditors also approved the sale of some or even all of the company’s assets, and capital injections from strategic investors as part of the strategies to revive the company. With the administrators writing off the Sh21.3b in loans advanced to its Tanzanian Subsidiary, due to alleged misrepresentation of the loan given that it had been non-performing for several years and that the subsidiary was deemed unable to repay the loan any time soon. 

ARM Cement slipped to a negative equity position of Sh2.4b, effectively meaning a complete write-off for shareholders in the event of a liquidation, and that only secured lenders were now fully covered by the current Sh14.2b asset base. The administrators appointed Knight Frank to undertake a valuation of the company’s fixed assets, amid concerns of misrepresentation, and suspicious dealings amounting to Sh153m. 

With the administrators currently engaged in the asset sales of the various subsidiaries, this would provide the company with a capital base to boost and streamline the core operations. The proposed move to look for a strategic investor, Cytonn Investments note, may also provide a reprieve, with several major companies such as Dangote Cement and Oman Based Raylat limited expressing interest in acquiring the troubled lender. 

The Insolvency Act has thus enabled the company to remain operational as it undertakes the turnaround strategy, focused on ensuring the company attains good financial health and consequently improving its debt-servicing capability to its creditors.

The Insolvency Act, it is key for businesses to note, offers struggling businesses a second chance to reorganize and come out stronger and viable. It also encourages entrepreneurship by providing a path to redemption in the case of a viable venture that has run into turbulence and just needs room to restructure. Research has shown that the availability of reorganization frameworks encourages entrepreneurship.  

Sign Up