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Anatomy of Saving a Business

Put on the Gloves, Speak Bluntly, and Devise a Plan to Emerge from Chaos

The author shares the trials and tribulations involving a troubled company that was on the verge of closing and managed to recover. In this engagement, he took the lead, coordinated and assigned roles within the company, negotiated with the IRS Revenue Officer, had difficult conversations with bank (a potential deal breaker), and was compensated.

Anatomy of Saving a Business: Put on the Gloves, Speak Bluntly, and Devise a Plan to Emerge from Chaos

Introduction

Saving a business creates one of the greatest highs you can have in accounting.

Getting the Client

I received a referral for a client in another state requiring a plane trip. In those days, a one-hour plane ride only took one hour, and you were able to get to the gate only a few minutes before take-off. Before the trip, I had already spoken to the owner, quoted my daily fee to take a look-see, and told her I would propose a method if I thought I could help her.

Purpose of Engagement

The situation was quite simple. The IRS was going to close her business, and the owner wanted to be able to walk away without the business, broke and without her house, but also without a continuing debt for unpaid payroll taxes. So, it seemed I had one purpose—to get the IRS to apply what they would receive against the personal liability.

Preliminary Analysis

Before the trip, I received the monthly financial statements for the last five years and I had one of my staff enter this data on a spreadsheet.

A quick review showed me that the percentages for monthly purchases to sales for every three consecutive months were completely consistent. However, the inventory increased each month on the financial statements which I was told were presented to the bank. That made no sense, so I ignored the inventory since my simple spreadsheet quickly showed that inventory could not have increased. A company in trouble does not build inventory; it buys what it needs to ship product.

The monthly financials presented by the controller to the bank were simply not right; the inventory was fudged to show a profit. The controller did what he thought he needed to do to help his employer, but he was doing his boss a serious disservice, and possibly doing something that might get him in serious trouble. At the same time, the bankers who reviewed the information had to be grossly incompetent if they paid any attention to it, and if they did not review it, then they were negligent in performing their job.

I also did a quick break-even analysis and saw that the business had very large margins, but too much nonessential overhead and not enough sales. I pretty much formulated a plan before I ever got on the plane. My role was the taxes, but I kept the thought of doing more in my mind.

My First Visit

This was one of my most interesting days ever. The plane arrived at 10:15 a.m. I was picked up, driven to the client’s factory, and after some introductions, I was ready to work at 10:45 a.m. I asked to go for a tour of the premises and factory. This took about an hour. At 11:45 a.m., just as the walkthrough ended, the client’s attorneys arrived to meet me and find out what my strategy was going to be. I knew they had never seen the factory so suggested that perhaps “we” (I now being part of the business owner’s group) should give them a brief tour. At 12:15 p.m. we all sat down, and as often happens, the lawyers and I were bragging about how great we were and not much was said about the client.

The lawyers then wanted me to explain in detail how I was going to accomplish the job. Keep in mind that I was talking to people who were not able (along with the client’s accountant) to get to first base with the IRS Revenue Officer, but they were going to “evaluate” me. Things do not work that way with me.

I wanted to find out the extent of the problem, affirm what the client told me she was willing to settle for as a successful resolution, and I needed to ask the questions that would provide me with the ammunition I needed to speak with the IRS.

At 12:45 p.m. we ran out of time since the lawyers had to leave. The client then gave me a room I could work in, but I said, “It looks like lunch time. Let us go to lunch with the controller,” which we did.

We got back at 2:30 p.m., I said I needed 45 minutes alone, and would meet with them at 3:15 p.m. for 45 minutes, then would need to be driven back to the airport for my flight home.

When we met, I presented a plan to save the company, but said it would only work if they got more sales. I then told the owner that she had to devote herself fully to getting more sales. She had to stay out of the office or factory. I said nothing else should change. If she got the sales, we could then make changes to cut costs, but if she did not get the sales, nothing else mattered since she would be out of business. I also told the controller to set up a meeting with the IRS for the following Tuesday at 11:00 a.m. (I was there on a Thursday).

The first day seemed like an easy day, and from a physical work standpoint, it was. However, with respect to focus and concentration, and wondering if my feelings and instincts were right, and whether I could get cooperation, it was a very stress filled day. I understood that any vacillation on my part, any glimpse of doubt, and any slip of a tongue could cause the plan to die without it breathing a single breath.

The Two Most Important Preliminary Things

The two most important things I did was the advance analysis and the tour.

The analysis gave me a handle on the numbers and showed the possibility that the company could be turned around. That was an aha event since that was not what I was thinking about. I was looking for ways to present an argument to the Revenue Officer on how to close the company while getting the client out of any personal liability. That was how I started and was thinking. Saving the company was not a glimmer of a thought, but a plan presented itself in the back of my mind. Further, I had time to think about this in my office and at home the night before the trip. When I was on the plane for the solid hour trip with no distractions, I formulated a sketch of a plan.

The other most important thing was the tour. This gave me an informal hour to talk to the owner and controller and get a feel for the business. In effect, it gave me an opportunity to “kick the tires.” Another thing is that I was a scary person. Not on purpose, but to the controller, I had the power to expose him and to have him fired. The owner was also an embarrassed person that ran her company into the ground, and I was presented as the “only person” that could work it out so she would not be in debt the rest of her life. The walk around the factory was an effort to establish a rapport and put them at ease with me. If that would work, then they would have trust in me and it would be easier for them to go along with what I might suggest—which at that point was unknown to me, but the more I walked around the plant, the more comfortable I felt also. Accountants and consultants sometimes lose sight that we are dealing with people and life altering situations, and not bad balance sheets and profit and loss statements which meaning can be shifted with a few changes in some numbers.

It is important to get an up-close look at a client’s business to understand it; and in this case, have a chance at saving it.

Meeting with IRS Revenue Officer

When I met with the IRS Revenue Officer, I presented a plan where the company would continue in business, with the IRS getting all “excess” cash flow until the taxes were paid in full, and that I would want the excess cash flow applied first to the past-due trust fund portion. A condition I offered was that the current withholding taxes would be paid weekly on the payroll payment date, either to him or through the federal tax deposit system.

I showed him all the details of my plan. I asked for a month to put my plan in effect to “save” the company, which he gave me. We agreed that the weekly tax payments would start immediately and that I would meet with him in a month. We would then decide together if the plan would work and should be put into effect, or he could then proceed to collect the past-due taxes in full. I was there for two and a half hours. I then met with the owner, controller, and their attorneys for a (very late) lunch, where I laid out my plan and assigned everyone a role.

Assigning Roles

The company had inventory on its shelves reaching the ceiling. A quick look during my initial tour of the business showed layers of dust, which is a sign of old at best—and obsolete at worst—inventory. My tour also showed a viable operating business, with people working hard, a clean work environment (except for the old inventory), current purchases going into production as quickly as the manufacturing process allowed, and no one standing around waiting for anything. The owner and controller knew everyone by name. The company was a manufacturer, but it used minimal machinery and highly skilled labor, so it was not greatly capital intensive. The shipping area was not backlogged, nor did the production floor seem to have any bottlenecks. However, there was a lot of unused space and excess capacity.

When I went on the second tour of the business with the lawyers, I came up with some ideas, including that 80 people depended on this business for their livelihoods. That is a serious responsibility and is a primary reason to save the business, and one that the IRS Revenue Officer understood and was a major concern to him for his cooperation in giving me time to put my plan in action.

I assigned different roles to each person involved with the client. The controller had to go to the main supplier and ask them to put a freeze on the past-due payables, but that they would remain a customer paying COD for all new purchases. He also had to get a one-year freeze on the unpaid workers’ compensation liability and make cost-cutting recommendations.

The owner had to get more sales and needed to get the landlord to reduce the rent by 40 percent for the next year. The lawyers needed to get the bank to put a freeze on past-due amounts and ongoing principal payments, but all the new interest would be paid currently.

Any one thing that could not be done would kill the deal.

My Oversight

The distance was not a hindrance since I had cooperative people who reported accurately and who responded to what had to be done. I checked in by phone every few days. I was needed for a couple of meetings that I traveled to.

Everyone performed beautifully which made my job easier and more effective except for the lawyers dealing with the bank. The bank refused to do anything other than to get full payment for the past-due amounts and have the loan paid currently based on the terms. The lawyers said they could still handle it and did not need me to get involved. I told the lawyers that we were running out of time because I needed to report to the IRS Revenue Officer on whether we could pull it off, and the bank refusing to cooperate was a deal breaker.

Overcoming a Deal Breaker

The lead attorney told me not to worry and we set a deadline date a week before my IRS meeting. They called me at that time to tell me the bank would not budge, and I told them I wanted to call the president of the bank. I asked them very clearly if there was anything I could say or do that would make the situation worse and they said “no”. As far as they were concerned, it was a dead deal.

I then called the president of the bank, who was expecting my call, and explained the seriousness of her refusal. When I was sure she would not give in at all, I said some very rough-language things to her and told her I needed a positive answer by Tuesday and hung up.

She immediately called the attorneys to express her anger and dismay at what I said to her and that she never wanted to speak to me, but that she would rethink the bank’s position and would call them Tuesday, at which time she agreed to everything we asked for.

You might want to know what I said to the banker. It will remain known only to me and the person I spoke to, along with the client’s lawyers to whom she told some of what I had said (but I am sure, not all). It was not nice, but I was not talking to a nice person.

Getting IRS Buy-In to the Plan

I met with the IRS Revenue Officer on Thursday and we had a deal. The first payment to the IRS under the plan took place about six months afterwards, and they were eventually paid in full. The business was saved and 80 people kept their jobs. After the year, the landlord had a full-paying tenant until my client outgrew the premises. The client did not have to file for bankruptcy and grew to become very successful.

Many accountants look at IRS Revenue Officers as the “enemy.” Actually, they are professionals doing an unpleasant job. They are tasked to collect money from people that are usually in very bad financial shape or who are either misguided or are wise guys trying to use the tax money to finance their growth, or maybe build a mansion for themselves or for other things. Anyway, the Revenue Officer I met with was completely understanding of the situation, had no desire to close the business if he did not have to, was concerned about stopping the debt from increasing and listened, and understood, what I told him and my plan. I was completely upfront—today we call it transparent. It also helped that he was a true professional and as long as I assured him that the current taxes would be paid and gave him the paperwork he needed to enforce this if necessary—it was not necessary—he went along with it. You might say I got lucky, but that is not the case. This was typical of my experience, which was extensive in these matters dealing with IRS Revenue Officers or for that matter, any IRS agent.

Buy-In From the Client

I also had a client who had very realistic expectations; that is rare. She was prepared to lose everything but did not want to be in continuing debt. When that happens, I can push the envelope as far as necessary since I cannot make it any worse. The harder job for me is when the client does not want to lose everything, though that is the probable outcome. Then, I cannot push as hard as I need to because any “act of war” by me may put the client in a worse-off position if it fails.

I define an act of war as an action or threat that will hurt the other side more than us if resisted. However, we would be hurt irrevocably if it is not accepted. Some examples are to stop making principal and interest payments on a bank loan, or to stop paying the landlord the monthly rent, or to not pay a supplier enough to cover the current shipment. When I have nothing to lose, and I do not have cooperative adversaries, I can take unilateral action trying to force them to accept my more “reasonable” proposals.

Some Details

Everything went well but not on a smooth straight line. There were some bumps.

The plan I put together was the type of plan you might do with a company in Chapter 11 but an 11 was not an option. The company had no source of added capital and insufficient cash flow, based on the way it was operating, to be used to continue the business. Also, payments to me, the attorney, and the company’s accountants (who were not involved in this activity) would not be able to be paid upfront, and I would have needed court approval which would have delayed the implementation of my plan. Further, my actions with the bank likely would not have been able to occur as it was handled since I would have been accountable to the court; plus, the bank was a secured creditor since they had a blanket lien on the accounts receivable and inventory. Time was of the essence and became an ally to get the plan implemented.

Under a Chapter 11, the IRS actions might have been frozen for a while, but they would have continued to exercise control and it would have been very unlikely that any collections would have been applied first to the trust fund portion which was my one marching order. Also, the client’s primary supplier had a policy that they would not sell to a customer in Chapter 11.

Another glitch is that the primary supplier would not accept a COD order and wanted some paydown on the existing debt. They also wanted to have the long past due balance reduced. We agreed to pay an amount equal to any new orders plus 10% and that this entire payment would be applied to the oldest invoices first. So, an order of $20,000 of raw materials would be shipped as soon as $22,000 was received and which was applied to the existing accounts receivable balance. They also agreed to waive and cancel any late charges and interest when the account balance reached 90 days past due. They were very cooperative with this. Once agreed, there was not a single problem. This plan was used as a model with the other suppliers. Hey, they all still had a customer and the debt would not be increasing.

The workers compensation balance was a problem since this was a quasigovernmental organization. This had some heavy negotiating. When I examined the assessments, I showed how some of the employees were in higher categories than they should have been, and while they did not permit (or want) a refiling, they agreed to cancel all penalties and interest and accepted a 24-month payout on the amount we agreed was owed; as long as all new payments and assessment were timely paid, which they were.

Asking a landlord to reduce the rent 40% for one year, and at which time we would review it with them was not fun either. However, when I sort of assured him that my client would then pay nothing and it would take him at least six months to evict his tenant and then he would have an empty space for at least two or three more months, he agreed. I was very direct and blunt with him (and everyone); no subtlety by me, but completely open. I also showed him my plan and said that if it worked, he would then have a good tenant. I also told him the reduction was not a suspension that would be later paid. It was an out and out reduction.

No one was let go, no departments cut, and the old inventory was sold for 15 cents on the dollar after every part of the plan came together. Before then, when I left the first meeting, I told them to clean up the inventory and make it look fresh. This way, if a banker, landlord, an IRS official or anyone else wanted to check out the premises, they would see a ton of inventory that would look good. A factory with a lot of dust covered boxes looks like crap.

The company was 100% owned by a woman and this was a newsworthy issue. At that time, I had extensive media contacts and would have been able to publicize any unfair treatment she received.

I was upfront with everyone. Showed everyone my plan. I had no hidden agenda. I was as transparent as possible, and this was in the days before that became a common term. It was important for everyone to trust me and to have confidence that I would work as hard as possible to save the company. I am also not an alarmist but deal with practicalities, logic, sensible numbers, and showed how everything I suggested made good business sense.

My Fees

There seems to be a current fixation about fees, so here is how I charged this client. I gave the client a daily rate that I was to be paid for every day I was at their premises. I did not charge for any work done in my office or any of my planning. Each time I stepped off the plane, I was handed a check for that day. They paid all plane fares and I paid everything else such as the parking at Newark airport. They paid for all the lunches. This worked out well for both of us. I do not remember the total fees, but I was going there pretty much weekly for quite a while and sometimes twice in a week. This was also a very interesting, novel, and exciting engagement with very nice people (except for the bank president who I never spoke to again).

There are many instances like this where I need to charge on a time basis since there was no way of estimating the time or extent of what I would be doing. Further, I do not like having to account for every tenth of an hour when I am doing high level, creative, innovative, and possibly unique work. This was such an instance, and the daily rate eliminated any negatives I would feel. I also did not want the client to imagine a cash register ringing every time they felt they wanted to speak with me. Further, I was dealing with a broke company and my total fees were high. I could not imagine it being much higher, regardless of the value I created.

My day with the client started at 10:15 a.m. and ended at 4:00 p.m. when I was driven to the airport. On those days I got home earlier than when I worked in my office or met with clients at their offices or factories.

Success

For about a year and a half after the plan took effect, I met once a month with the management team and their attorney (who I got to know quite well), sort of like an informal board of directors. At some point, the company was functioning smoothly and my meetings stopped, and then eventually my calls.

The result was that a company that was on the verge of being closed and liquidated by the IRS could continue and grow.

This was a very satisfying assignment. And who says accounting is boring?


Edward Mendlowitz, CPA, PFS, ABV, CFF, is emeritus partner with WithumSmith+Brown, PC, in East Brunswick, New Jersey. He has over 40 years of public accounting experience, is a licensed Certified Public Accountant in the states of New Jersey and New York, and is one of Accounting Today’s 100 Most Influential People. He is also an adjunct professor in the Fairleigh Dickinson University MBA program. The author of 29 books, Mr. Mendlowitz has written hundreds of articles for business and professional journals and newsletters, and presented over 350 CPE programs. He writes a twice a week blog at www.withum.com/partners-network-blog.

Mr. Mendlowitz can be contacted at (732) 743-4582 or by e-mail to emendlowitz@withum.com.

The National Association of Certified Valuators and Analysts (NACVA) supports the users of business and intangible asset valuation services and financial forensic services, including damages determinations of all kinds and fraud detection and prevention, by training and certifying financial professionals in these disciplines.

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