UK Risks Flood of Bankruptcies: Fund Manager
The swathe of UK companies facing bankruptcy could jump to twenty times the current amount as banks and rising interest rates squeeze available capital while the economy struggles to recover, Jon Moutlon, founder of Better Capital, told CNBC.com.
"The numbers will be very large. I actually expect it to be far more than double. It wouldn’t be at all surprising to see the companies in need of rescue equity finance … go up by a factor of twenty," Moutlon said.
This huge potential spike could happen in just six months if interest rates go up suddenly, according to Moutlon. If rates go up gradually, then the rise could be dragged out over three or four years, he added.
Banks have been preventing many companies from going to the wall, but could now be about to get a lot more aggressive, according to Moutlon.
"At the moment, the banks are rather oddly not pushing companies as hard as they traditionally would. They are mindful of the fact they are essentially public vehicles," Moutlon said.
The change could hit companies just as interest rates start their almost inevitable rise from record lows. That means a company that is only just managing to service its debts will be hit by spiralling costs, Moutlon said. And rates could rise very swiftly, he added.
"We are actually likely to see a much greater flood of companies coming as the economy starts to recover… Peak time for companies to get into trouble is two or three years past the bottom of the recession," Moutlon said.
"You can smell it now, there’s an increasing fear that interest rates will rise simply because people become too fearful to keep on providing lending to the governments, including ours," he added.
Addicted to Cheap Money
The Bank of England held interest rates steady at 0.5 percent at its December meeting and kept its quantitative easing program unchanged. But many analysts expect the base rate to rise from mid-2010 as the economy regains its footing.
The central bank must carefully time its rate hikes for fear of upsetting the fragile recovery and drive more companies into the red.
"We are addicted to cheap money and they (the BoE) have got to keep the taps open," Anthony Scott, director of private clients from Charles Stanley, told CNBC.
Another factor turning up the pressure will be the government tightening its credit lines to small and medium sized companies, Moulton said.
"If the government decides it would like people to start paying their taxes on time then that would precipitate failures too," he added.
Even though the outlook for UK companies remains fairly bleak, UK Chancellor Alistair Darling announced measures that could help small British businesses in his pre-budget report.
"From a small business perspective it was about as good as it could get," Clive Lewis, head of enterprise from the Institute of Chartered Accountants in England & Wales, told CNBC.
Both the Enterprise Finance Guarantee Scheme and Her Majesty's Revenue and Customs (HMRC) Business Payments Support Scheme were extended for another year, Lewis pointed out.
- Watch Jon Moulton interviewed above and click here for more >>>
The number of firms on the verge of failure is far less now than in comparison to previous recessions, according to Moulton.
"There’s surprisingly few companies being restructured at the moment and that’s driven by low interest rates and by the reluctance of the banks to take the writeoffs they need to," he said.
Moulton estimated that there is currently between 2,000 and 2,500 companies, of a market capitalization between 10 and 200 million pounds, which are completely owned by the UK banking system because they have more debt than they're worth.
The flood of struggling companies will present potential deals, according to Moulton. He is planning to take advantage of what he sees as a huge opportunity with his new fund Better Capital. The firm, which is currently in its fund-raising stage and due to go public shortly, will target what Moulton calls "turnaround" companies.
Turnaround companies tend to have a mixture of operating and financial distress, too much debt, no profits, weak demand and be vulnerable to cuts in public spending, according to Moulton.
Moulton plans to identify some easy wins from the flurry of failing companies, take them over, change the management teams if necessary and the get the profit rolling in again. Once the companies have been turned around, which could take between two and three years, they are ripe for selling on, he said.
Moulton is putting 10 million pounds of his own cash into the firm's pockets, underscoring his confidence in the strategy.
"Not only can you make a lot of money, but it’s actually very good fun and quite satisfying because you are taking companies from near death to prosperity… Also you can save a lot of jobs and see a lot of people move from near despair to feeling pretty cocky about themselves," he said.
Turnarounds come in every type, but the "mind-bogglingly difficult" ones like the UK Post Office are best avoided, he said.
"You could try and turnaround the Post Office and you can climb Mount Everest in your underpants without oxygen. They are feasible activities, but they’re not recommended," he said.
Better Capital is "sector agnostic," but favors areas like building products and is cautious of deals in the automotive components arena.
"Every situation is incredibly different and we see such a diversity that sometimes you can concoct a deal in even the most apparently unfavourable sector," he added.
Moutlon said he is expecting a queue of people outside the door of Better Capital when companies really start to feel the pinch and said many deserving cases will fall through the cracks and go bankrupt.
UK Is a 'Turnaournd'
One turnaround that is currently troubling Moulton is the UK itself. The country's finances are in such a bad state that it has all the characteristics of a failing company, he told CNBC.com.
"If it was a company, you’d take it out and shoot it… We’ve had eleven consecutive years of real increase in overheads, we’ve had twenty-odd years of consecutive negative cash flow," he said.
If Better Capital was to take control of the struggling UK economy, the first thing it would do is change the management, Moulton said.
"Then you have to actually take a choice, do you want short and horrible or long and horrible. And being of a turnaround nature, I’d go for the short and horrible," he added.