Deepening Insolvency Part 1: A Challenging New Theory or Just the Search for a Deeper Pocket?

By: Phil C. Appenzeller, Jr. (Co-speaker) and Ross H. Parker (Co-speaker)
Presented at the Turnaround Management Association Spring 2005 Conference
March 9-12, 2005

I. Introduction

There is a scene in the movie The Princess Bride1 where the hero, Westley, has been tortured to the point of death. Hoping to heal him, Westley's friends take him to the old wizard. The wizard examines Westley and announces that Westley is not all the way dead but only "mostly dead." Much like Westley, many companies teeter on the edge of death but retain the hope that they can survive. In the legal vernacular, a company that is only mostly dead is "in the zone of insolvency." When a company is in the zone of insolvency, potential liability for its officers and directors increases. Creative lawyers, disgruntled shareholders and aggressive trustees and creditors' committees now use zone of insolvency theories to hold corporate management, auditors, professionals and lenders responsible for a company's demise.

The following scenario is an example of this theory at work. Assume you have been hired as the CEO of a struggling company in the professional-services industry.  You believe that with proper marketing, the company's services will be in demand.  Before you came aboard, the company, in accordance with its roll-up business model, acquired several smaller, similarly-situated companies. The company's plan was to increase its size and scope and develop a nation-wide footprint.

Unfortunately, the by-product of the company's aggressive acquisition plan (and consequent delays in getting its services to market) left the company with a serious cashflow problem. You call a meeting with the company's CFO to discuss a strategy for improving cash flow so that the roll-up business model be given a chance to succeed.

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