Distressed IB Flashcards
What is it called when a company ultimately resorts to a sale of all or substantially all of their operations?
An external restructuring transaction
What is insolvency?
When a Company runs out or is about to run out of cash ,or the financial wherewithall, to support its debt burden
What are the early warning indicators of insolvency?
1- downturn in operational performance (sales, margins, operating cash flow, growth in AR days receivable, decline in inventory turnover)
2- bond price - (relative to spread over treasury of other similarly rated bonds)
3-credit availability (liquidity section of MD&A in 10k; changes to credit agreements)
4- stock price (high equity/debt ratio implies that company can tap equity markets to enhance liquidity)
5- stock buybacks (major buyback programs at distressed prices could exacerbate liquidity problem)
6- Lawsuits
7- Fraud and accounting irregularities
The % of receivables and inventory in an ABL
The collateral formula
If assets < liabilities, should you have asset sales?
No. When Enterprise Value < Debt, selling assets to pay down debt will create a deeper equity shortfall. (if Company has $90 of assets and $100 of liabilities, then selling $50 of assets to pay down debt will increase the equity shortfall from 10% to 20%)
How are incumbent financing investment banks treated when seeking a mandate as a restructuring advisor?
Bankruptcy code prohibits retaining an investment bank that has underwritten the Company’s bonds in recent years (this bank has a blatant incentive to see its client avoid chapter 11 even if it’s in the Company’s best interest; also protects accounts you sold bonds to)
What are the 6 primary stakeholders in a distressed company? What are their goals in a distress situation?
1- Board of Directors - maximize recovery for shareholders and limit individual liability
2- Management - maximize equity value and keep their jobs
3- Secured lenders - keep borrower on a short-lease and maximize recovery over time
4- Bondholders - maximize recovery immediately or take over management of Company
5- Trade Creditors - maintaining its customers viability as a going concern and maximizing CASH recovery
6- Old Equity - prove out a valuation where equity is in the money; invest in high-risk / high-return strategies
What is the incentive for a Board of Directors to pursue Chapter 11?
Any good-faith board decisions made after a Chapter 11 filing are largely immune from liability scrutiny. Provisions for director releases and indemnity for directors can also be included when filing for Ch 11
The two most important things for a Board and Management to establish with key constituencies during a period of distress
Liquidity and Credibility
In most financially challenged situations, what should be the Board’s mantra?
- stabilize, (potentially) monetize, and then reorganize
- any different order would ensure materially worse results for the Board, Company, and non-bondholder constituencies
the “sunset provision” in a confidentiality agreement negotiated by the UCC
provides for a debtor to make public all non-public and material information given to the UCC if an agreement is not reached within a certain number of days
-such disclosure would allow the bondholders to trade with the public again
How does a trade creditor claim view its claim in bankruptcy?
While the trade has a claim of 100 cents on the dollar, its cost of that claim may be 50-90 cents, with the rest being a markup/profit. Thus, it can take a “haircut” on the face amount and still not “lose” anything more than anticipated profits
COD
- Cash on Delivery
- a trade term in which payment for goods is made on delivery. If the purchaser does not make payment when the good is delivered, then the good is returned to the seller.
CIA
- Cash in Advance
- a trade term in which the buyer must pay the seller before the goods are shipped
If inventory is purchased on credit when a Company knows it will need to file for Ch 11 after receiving the goods, what could happen?
corporate directors could be found liable for not doing business in good faith
Administrative Priority
+example
+reasoning
- post-petition claims that are senior to all pre-petition unsecured claims and generally only behind DIP financing and secured loans. These claims must be satisfied before the company can emerge from Ch 11
- example: trade claims generated after the bankruptcy petition
- encourages trade vendors and professionals to continue to do business with a company that has filed chapter 11)
Which companies fare far better in a Chapter 11 situation?
Companies that enter Chapter 11 with a solution in hand (as opposed to companies that enter Ch 1 in order to find a solution)
What does Bankruptcy code allow regarding the issuance of public securities?
That a company may issue new public debt or equity without filing a registration statement with the SEC as part of a reorganization so long as the securities are:
A) issued or sold as part of a Plan of Reorganization and
(B) those securities are issued entirely in exchange for an existing claim against or interest in the debtor
What is an Involuntary Bankruptcy Proceeding?
- When creditors whose debt is in default file a petition against the debtor
- as opposed to an Voluntary Bankruptcy, where the Company files the petition
priming
- when the bankruptcy court carves up the pre-petition banks collateral and gives a senior slice to a new lender because existing lenders do not provide additional post-petition financing
- very bad for senior lenders and acts as incentive for them to provide DIP financing
What is “adequate protection”? How does it work?
- a special right for pre-petition secured lenders which prevents the value of their collateral from being dissipated in a bankruptcy
- example: in the case of priming, the court must find the pre-petition secured creditors to be fully covered by collateral both immediately after the senior slice of their collateral has been given to other lenders and on a continuing basis
The seniority of DIP financing
A super-priority administrative claim
The cram-down provisions of the bankruptcy code
- provides that as long as at least one impaired class accepts a plan, that plan can be imposed on all subordinate classes, provided that the subordinate class that objects gets more than it would in a liquidation AND is either made whole OR that no class junior to the objecting class gets anything
- a way to get around objections to form of recovery (equity vs debt) if debtor can prove securities are worth 100 cents
How does filing for bankruptcy provide the ability to bind together creditors
1) court can bind all holders within an impaired class, where actions require a vote from 2/3 of the aggregate claims and 1/2 of the individual voters (deals with small groups of holdouts)
2) allows cram down on objecting classes
What is a “cram-up”?
provides that as long as at least one junior impaired class accepts a plan, that plan can be imposed on all senior classes, provided that the senior class that objects gets more than it would in a liquidation AND is either made whole OR that no class junior to the accepting class gets anything
What claim does the counterparty of a rejected executory contract have in a bankruptcy?
An unsecured pre-petition claim
What are preferences? How are they handled in a bankruptcy?
Preferences - if a constituency receives benefits from the company (such as prepetition paydowns of debt debt or granting of collateral to backstop debt in the period leading up to bankruptcy
If benefits occurred within 90 days before bankruptcy for third parties or a year for insiders, the transactions would be reviewed by the court for possible return of the preferences to the estate. The transaction would be viewed as a preference if the recipient obtained more value than it would have in a hypothetical Ch 7 liquidation
How does filing for bankruptcy help the debtor with M&A?
Pre-bankruptcy sales could can be challenged by the sellers creditors for fraudulent conveyance, making the buyer subject to substantial liabilities or penalties. While an asset sale in Ch 11 let’s court give buyer an unquestionably clean title