'Zombie hunter' task force unleashed on the UK tech biz

Brain-slurping VCs turn firms into walking dead

A special force of crack zombie hunters swings into action today to rid old Blighty of the shuffling scourge of undead firms surviving only to pay the interest on debts.

The mission of the task force, whose formation was revealed by The Channel last month, is to build a profile of private equity backed businesses in the IT sector and other industries.

The team, under the control of Marc Henstridge, director of risk services for Atradius UK and Ireland, was formed in the wake of Comet's crash in December and that of 2e2 in January.

Henstridge said Atradius writes credit insurance - a safety net for suppliers - for roughly 63,000 businesses from UK HQ, and a "significant number are private equity owned or backed".

"Many of today’s private equity models are over-leveraged as a result of aggressive purchasing strategies in 2006-2008, at multiples that now do not work," he told us.

He said this has left many businesses with an over-leveraged operation, and that they are able to service the interest but not the wider capital: causing them to suffer "zombification".

In the case of Brit retailer Comet, Hailey Acquisitions took over the ailing business in November 2011 and received a £50m dowry from the previous owners for working capital.

But a little more than a year later Comet collapsed owing £257m including £49.4m to the UK taxpayer. The government is investigating the demise.

Berkshire-based integrator 2e2 grew fat over the years by acquiring numerous businesses, but this took a toll on the balance sheet and left the firm with £270m in long-term debts.

This unsustainable debt-to-earnings ratio finally steered the business into the wall in January owing £412m to creditors.

A study by Plimsoll Research last summer found that 132 tech firms had debts exceeding more than half their turnover, and many took over 80 days to settle bills with distributors - double the industry norm.

Henstridge said with private equity firms increasing the stake in British businesses, Atradius needs to "identify the specifics involved in each deal".

Squeezing regular updates on aspects such as management accounts information from VCs can be notoriously difficult.

Henstridge said insurers need a "sound transfer of information" should private equity backers invest in a company, and this may help Atradius cover a business that "might look unsupportable".

“Our approach to underwriting needs to adapt in today’s market to ever more sophisticated debt instruments and unique structures," he said.

The Bank of England warned in March of the threat to the UK economy of highly geared companies that amassed huge debts, assisted by VCs, in the years before the credit crunch.

"Many of these buyouts, especially the large ones, were highly leveraged and the increased indebtedness of such companies poses a risk to the stability of the financial system," the Bank said.

In the run up to the credit crunch average debt to EBIT ratios hit 12 times, Jon Bunyard, director at Ingram Micro previously pointed out, saying "close scrutiny" from Atradius was no surprise.

Insolvency rates across the UK channel are falling but sources hope the formation of Atradius' crack force is not a thinly veiled attempt to simply slash lines of cover. ®

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