In the valuation of inventory, we are frequently asked to differentiate between the Forced Liquidation concept (Auction Value) and the Orderly Liquidation Value concept. The primary difference, especially in the instances of manufacturing operations, is not so much the allotment of time but the method of sale.
A manufacturing concern, which has been in business for more than fifty years, has an installed base of thousands of machines, both domestically and internationally. At its height, its technological advantage, due to proprietary advances related to its machines, was such that it was able to establish technology to the point where it was able to control a predominant market share.
Over time, the subject’s advantages were eroded by newer technologies, cheap foreign "knock-offs," and all the sundry vagaries with which we are familiar in which the production values are static and controlled by relatively minor increases in production and cost. At the point of which production of finished machines is no longer financially viable and liquidation of assets will invariably ensue, we find that traditional methods of liquidation that apply to the production machines (auction) do not necessarily apply to the other assets.
Assuming a total and irrevocable cessation of operations, the replacement parts in inventory and the associated intangibles, especially the tooling for replacement parts, has value that is seldom quantified. At this point, the parts inventory that remains may be considered in severable from the intellectual property, relevant extant patents, drawings, tooling, etc., at least in the initial offering. For this reason, the initial offering of these assets as a product line should be pursued prior to any consideration of a no reserve auction.
To the extent, the data is available; every effort should be expended to track the spare parts inventories at the part number level to the specific customers who rely on a continued availability of these parts. In other words, customers "X" and "Y,” both of whom have a number of older machines requisite to their operations will have no option but to compete for the remaining stockpile of parts. This condition will prevail until production is moved elsewhere, or at the very least until the tooling is preserved for future production.
In this case, the leverage is with the lender in possession or, preferably, in a cooperative relationship with a borrower whom both understand the proper application of this leverage. Under the sealed bid offering, in which there is a clearly defined inspection period, the liquidator allocates part demand by customer based on past usage, both in quantity and sales price. The offering is stratified to maintain flexibility in the bidding process -- the bidders have the option of buying the entire inventory as a package, the inventory bundled with manufacturing rights including the tooling, or in individual lots that are designed to tie back to individual machines.
The essential advantage under this method accrues to the seller(s) who, as opposed to the situation under the auction method, retain the right to refuse or accept bids based on an independent analysis. Based on our experience, there will invariably be a handful of buyers who need the parts since the supply will be limited. The goal in this sale, in its starkest terms, is to blindly pit those requiring a limited parts supply against one another to achieve the highest bid. Since no bidding, party will know what the other may bid, and given the normal secrecy among bidders, the best result can be expected under the limitations defined in the bid process. In most cases, the cash flow generated by the spare parts business as a "stand-alone" entity, and one that can be identified separately in the operation of a related company, will produce bids that may not be generated otherwise. By the time the subject has been reduced to restricting its operations to the production of spare parts for existing machines to generate immediate cash flow, the inventory will have been depleted to the point where the parts’ business itself is the chief source of interest in the bid process.
Logistically, the need of the liquidator is access to a database that identifies those users of parts who will be the most reliant upon the existing pool until production can be replaced. The "wild card" is whether the end user on an individual part number basis will produce higher lot prices, as opposed to a single buyer who, having evaluated the parts business on its own merits, will bid higher for the inventory as a whole, with all of the associated intangibles.
In this hypothetical case, the first step is to isolate each part number and track sales by individual customer and measure available quantities relative to prior sales. If a particular part is in shortage, and if there is no alternative supply, this part will be marketed differently from parts that are abundant from alternate sources. Again, the idea is to maximize leverage and not allow improper lotting to lower recovery. In many cases, the strategy will be to "lot" the "junk" with the "gold,” thereby forcing upon the buyer no option but to acquire a lot of parts in which he has little to no interest; otherwise, the needed parts could not be acquired.
