Zombie business turnaround opportunities

Halloween is lurking around the corner, but zombies in the UK are not waiting until the end of the month to make themselves known. They are out there already, infiltrating the business population, lurching along without direction and rendering a sense of constant dread within many sectors of business.

While you might be inclined to picture a horror film scenario, the zombies in question are not the fantastical flesh-eating kind; rather they are the estimated 146,000 ‘zombie businesses’ that are barely staying afloat in the British economy - companies that in another time may have long ago been sent to the knackers yard.

But instead of being allowed to crash and burn, these zombie businesses are being propped up by easy forbearance from the banks and low interest rates, allowing them to continue to trade while experiencing slow or no growth. According to insolvency trade body, R3, around eight per cent of all businesses are finding themselves classed as 'zombies', where they cannot afford to pay down their debts and are only just managing to cover the interest payments on the money owed. R3 president, Lee Manning, said this means that thousands of businesses across the country are balancing on a knife edge, just a small rise in interest rates away from being unable to pay their debts.

“The implication here is that these businesses have been ‘running on empty’ for quite some time now and with no reserves left in the tank, they may not be able to carry on for much longer,” Mr Manning explained.

He stated that the end of the Olympic honeymoon in the UK, combined with continuing public sector budget cuts, could be all that is needed to push many of these businesses over the financial parapet, with the potential to prompt a rush to salvage whatever possible from their crippled business frames. Writing in the Guardian, business commentator, Patrick Hosking, said that this recession has seen a particularly low rate of insolvency, indicating there are many, many businesses that have not followed “the normal Darwinian process of business death, followed by rebirths of new, more energetic firms” – but that they are on the very edge of doing so.

While these businesses may not initially appear to be lucrative investments, many of them could provide expertise and assets – as well as client lists – that could prove valuable if purchased by enterprising businesses or entrepreneurs who are looking to expand through acquisitions.

Vince Cable spoke out last month deploring the fact that 33 per cent of companies that have applied for bank loans in the last 12 months have been rejected, but Mr Hosking disagreed. He claimed that being a little less liberal with how much money is provided to struggling zombie companies could have the positive effect of injecting some energy and forward motion into the British business environment, forcing zombie businesses to go under or consider buy-out offers.

“It’s unfashionable to argue that the country might have to go through short-run pain to speed the process of economic rebalancing and renewal and the spawning of a new generation of growth-stimulating, more productive businesses,” Mr Hosking said. “But it might not be wrong for all that.”

The need to inject some kinesis into British industry is a widely-held perception, with some of the nation’s top business leaders angling for something to start juddering the country’s business back into life – even if it means things getting temporarily worse before they can get any better.

Graeme Leach, chief economist at the Institute of Directors, said: “The revised GDP figures show that the economy is flat-lining. Services, which dominate the economy, declined by 0.1 per cent. Obviously the much sharper fall in manufacturing and construction output is a concern since it's difficult to see where the kick to growth comes from for any sector. The core problem is the euro crisis and economic uncertainty. Until that begins to ease the UK economy will bump along the bottom.”

Four general qualities indicate that a company may be a zombie business: servicing but not paying down debts; the potential to be unable to pay debts in event of an interest rise; struggling to pay debts when they fall due; and having to keep negotiating payment terms with suppliers. So where do the opportunities lie among these listless entities for other businesses?

Research carried out by R3 found that the retail sector featured most prominently across three of the four zombie business indicators. Some 18 per cent of retail companies would be unable to pay their debts in the event of a rise in interest rates – amounting to some 31,000 businesses - the highest proportion of businesses in such a situation in any sector, significantly up on the overall average of eight per cent. In terms of companies that are unable to pay anything more towards their debts than the interest, the construction sector has the highest proportion of companies operating in such a situation, with some 16 per cent facing, amounting to 37,000 businesses.

Mr Manning said that the construction sector’s difficulties have not been in the headlines as much of late as the retail sector, largely, because of the positivity that penetrated the construction sector in the run up to and during the Olympics – but that could change soon.

“Since the start of 2011, over 21,000 jobs have been lost from the failures of major high street names,” the R3 president explained. “But we are yet to see the volume of construction failures that we would expect.”

The low failure figure for construction companies can be seen as an indicator that there may be a lot of zombies among their ranks, which – with significant amounts of assets, expertise and equipment – could provide rich pickings for companies with their eyes on expansion.

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