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Advanced Corporate Credit - Warning Signals

Understand what really matters in identifying, analysing, and responding specifically to corporate credit warning signals

Advanced Corporate Credit – Warning Signals Course

A two-day course

The concentrated format of this course entails a strong focus on what really matters in identifying, analysing, and responding specifically to corporate credit warning signals. Through spreadsheet analysis and case studies, the emphasis throughout is on practical advice to bankers and investors on how to use a range of techniques to manage lending and equity portfolios, including how to respond when warning signals emerge and companies are set to deteriorate and potentially default.

By the end of this course, participants will be able to:

  • Define distressed credits and default situations
  • Understand the main causes of corporate default and how they vary across sectors
  • Understand the warning signals of impending deterioration and potential default (sovereign, macro-economic, industry, firm-specific)
  • Learn how to find warning signals in the group’s financial statements and notes
  • Learn how key financial and productivity ratios can be useful predictors of distress
  • Learn how to undertake financial forecasting for distressed firms

Day One

Session One – Background, Causes and Early Warning Signs

Terminology and definitions

  • Divergences in the definition of NPLs and distressed assets across countries, legal regimes, accounting regimes, banks and data sources
  • Overview of recent trends in default and distress rates
  • Overview of recent rating agency global default studies
  • Estimated impact of the Covid-19 pandemic

Diagnosis of the problems

  • Is the distress caused by external factors, an unworkable business model, too much leverage and/or a lack of liquidity?
  • Is the cause of the distress within the firm’s control?

Early warning signals

  • Sovereign and geo-political factors
    • Are sovereign ratings a good leading indicator of credit quality?
  • Macro-economic factors
    • Exchange rates, growth outlook, borrowing costs, cost inflation, supply chain issues, sectoral decline and counterparty risks
  • Industry/sector factors
    • Industry growth, consumer trends and competitive outlook
    • Impact of ESG, new technology and the internet
    • Competitive dynamics and new entrants
    • Input and output pricing trends
    • Regulation and tariffs
  • Company specific factors
    • Financial factors – covered in Webinars 2-4
    • Non-financial factors - management, M&A strategy, investment strategy, competitive responses, differentiation, diversification, vertical integration, response to changing consumer preferences
    • Stock market signals for listed firms and signals from the CDS market

Session Two - Analysing The Accounts Of Distressed Firms

Overview of the accounts of firms in distress and re-organisation

Focus on the income statement

  • Understanding the sources and sustainability of revenues and earnings
  • Is there a revenue problem?
  • Is there a cost problem?
  • Analysing operating leverage and the scope for cost cuts to improve earnings
  • Segmental analysis and margin trends versus competitors
  • Is there an asset turnover problem?
  • Are the finance charges too high versus earnings and cashflow?
  • Will rising interest rates and higher inflation compound the problem?
  • Why interest cover may give a misleading impression
  • Can the firm generate in future sufficient earnings to service debt?
  • How the firm can hide negative trends – identifying creative accounting issues
  • Adjusting for exceptionals, non-core earnings, discontinued items, leases, NCI and joint ventures
  • The importance of defining underlying EBITDA
  • What constitutes finance charges, including charges for derivatives, hybrid securities and quasi-debt?
  • What does the statement of other comprehensive income tell us?
  • Case studies: reviewing the income statements of distressed firms; calculating underlying earnings; calculating and understanding productivity ratios, adjusted margins, EBITDA interest cover, historic dividend cover for weak/distressed firms

Day Two

Session Three - Analysing The Accounts Of Distressed Firms

Focus on the cash flow

  • What are the differences between operating profits/losses and operating cash flow?
  • Analysing the level of and trends in operating cash flow
  • Is net working capital a problem?
  • Analysis of receivables, payables, inventories and other working capital metrics
  • Are provision payments a problem?
  • What is the impact of investment spending on the firm’s situation? Has capex been too high or too low? Has it earned a return?
  • Is the firm in the middle of a major capex programme?
  • Have off balance sheet entities (joint ventures, associates, consortia) absorbed significant cash?
  • Can the firm cover its finance charges, tax, pension top-up payments, provision uses and capex payments?
  • What is the level of cash burn?
  • Have shareholder distributions contributed to the problem?
  • To what extent is the firm dependent on external financing?
  • Understanding Moody’s definitions of cashflow
  • Case studies: reviewing and analysing the cashflow statements of distressed firms in a range of sectors
  • Case studies: calculating and analysing key ratios – trends and levels
    • Debt service ratios, cash coverage ratios, conversion ratios, dependence on external financing

Session Four - Analysing The Accounts Of Distressed Firms

Focus on the balance sheet

  • The outlook for asset impairments – tangible and intangible
  • Asset recovery values
  • Potential for asset disposals
  • Leverage analysis
  • Defining and quantifying debt and quasi-debt (leases, derivatives, deferred payments, hybrid securities)
  • Do hybrid securities absorb losses?
  • Analysis of other liabilities (tax, VAT, payroll, deferred tax, provisions, retirement benefits, deferred revenues, contract losses, warranty claims etc)
  • Analysing supplier finance and receivables finance
  • Analysis of liquidity sources – has the firm fully drawn its ODs and RCFs?
  • To whom do the financial assets belong? Are they accessible or are they restricted?
  • Analysis of undrawn facilities and whether they could be available
  • Debt maturity profile
  • Does the level of book equity matter?
  • Does the firm have negative equity?
  • Off balance sheet liabilities (receivables funding, leases, vendor funding, guarantees, other contingent liabilities)
  • Post balance sheet events
  • Case studies: reviewing and analysing the balance sheets of distressed firms in a range of sectors
    • Case studies: calculating and analysing key ratios – trends and levels
    • Leverage (EBITDA/net debt, FCF/net debt, RCF/net debt), liquidity, ROIC, asset-based ratios (where relevant), working capital ratios
    • Altman’s ‘Z’ score
    • KMV credit scoring model
  • Financial forecasting for distressed firms
    • Forecasting a continuation of current trends
    • What is the cash burn? When could the firm run out of cash?
    • Forecasting remedial actions to improve operating performance and the capital structure

Course conclusion and close

For the last twelve years, the trainer has worked as a financial trainer and consultant with major training firms, covering basic and advanced corporate credit analysis and valuation, distressed debt and financial modelling. Recent assignments have included the European Central Bank, the European Investment Bank, the European Bank for Reconstruction and Development (EBRD), Gibbs Business School in Johannesburg, Bahrain Institute of Business Finance, Bank of China, BBVA, the African Development Bank, Siemens, Rand Merchant Bank, Hamburg Central Bank, Guarantco and Mizuho Bank.

A former Executive Director of CSFB and Lehman Brothers, the trainer spent seventeen years working as an investment banker in Europe and the US.  After graduating from the London School of Economics, she joined Kleinwort Benson Ltd as a graduate trainee. She worked initially on analysing, structuring and investing in US LBOs and MBOs and also US high yield debt. Thereafter she worked in Kleinwort Benson’s European corporate finance department, gaining experience of IPOs, mergers, acquisitions, disposals and corporate restructurings, with particular focus on receivership and bankruptcy situations.  She then moved to CSFB’s fixed income department as the lead European corporate credit analyst, covering new issues and secondary trading and advising clients on their fixed income portfolios. She was then head-hunted to go to Lehman Brothers as lead corporate credit analyst. She specialised in high-grade and cross-over telecoms, including new issuance and advising proprietary traders and fund management clients on their investments. She has also worked as an expert witness on financial trials and as an advisor on private equity transactions.

The aim of this course is to teach delegates how to identify and assess the early warning signs that may indicate that a group’s credit profile is set to deteriorate, possibly to the extent of becoming distressed. We focus on warning signs that may be outside the borrower’s control, including sovereign, geo-political, macro-economic, ESG, regulatory and sector-based signs. We also focus on early warning signs that are particular to the borrower, including a detailed analysis of the group’s historical financial statements and notes and of any available forecasts. We calculate and analyse key credit ratios, including Z-scores, to help assess the degree of a firm’s deterioration in its operating and cashflow generation performance. We also use ratio analysis and subjective assessments to determine the firm’s liquidity, financial strength and financial flexibility. We also focus on non-financial early warning signs, including management, financial policy and strategy, operating and investment strategy, M&A and disposal strategy, record of innovation and re-action to a changing environment, competitive responses and its record of risk management.

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