scheme security in a valuation negotiation

Case studies

The background

Our client was the Trustee of Scheme with assets of around £150m. It was sponsored by the UK trading company of a well-known food and drink business, which was ultimately owned by an overseas parent. However, no guarantees were in place.

The Trustee had not previously commissioned any independent covenant advice, but had historically considered the covenant to be strong due to the scale of the company’s assets.

The Trustee became concerned when the company’s profits began to show a declining trend over time, so engaged LCP to conduct a bespoke covenant assessment.

Our solution

The recent trading trends were self-evident, so we focussed our scope of work on assessing the reasonableness of financial projections and on testing the assumption that the company’s assets could support the Scheme if profits could no longer be relied upon to support contributions.

We found that most of the balance sheet strength was underwritten by a complex web of intercompany loans, which we unpicked to understand the potential exposures that the company was facing.

The overall intercompany receivable had always been presented to the Trustee as a cash balance which the company had ready access to in order to underwrite the risks in the Scheme. Although this may have been true in scenarios where the company and the wider group remained profitable, we had concerns that the cash may not be easily repatriated into the company at a time when the business was struggling.

Combined with the adverse trading trends, this led us to conclude that the covenant was at the weaker end of the scale.

The results

As a result of our advice, the Trustees targeted a more prudent level of technical provisions than would otherwise have been the case. We subsequently assisted in negotiations to achieve full funding over a relatively shorter timescale in order to bring down period of covenant reliance. 

Although the company’s trading forecasts suggested that this may constitute a high level of contributions versus projected profits, the solution ensured that the Trustees could capture any value required from the intercompany balances whilst they were still suitably liquid.


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