Have you been through/witness a bankruptcy?
Hi Fellow Monkeys,
I believe the title is quite self-explanatory. I was wondering if any of you have been through a PortCo bankruptcy and if so, how did you deal with it.
To give you a bit of context. Been working with a PortCo quite closely with a Director for the past 2.5 years and been through (re)financing, co-invest and most recently a sell-side. The recent economic turmoil coupled with interest rates hikes have made capital raises (debt and/or equity) more difficult which in turn puts the whole business in jeopoardy given the current cash burn. Worst case scenario, our equity is wiped out and the business is being taken over by the lenders and sold during an auction. Although we are still trying to find alternative (stop CapEx spendings, mezz/pref, you name it), I am not going to lie, I am already prepping for the doomsday scenario.
The question is quite open on purpose, how would you guys get ready for this?
Hopefully this topic will trigger some interesting facts and stories.
Not a whole lot you can do if your fund isn't willing to inject equity and support the business. Obviously cutting capex / reduce headcount etc., but that only goes so far.
Buckle up boys & girls, going to bet A LOT of BKs in the next 1-2 years. PE shouldn't have levered up their shitty PortCo's to 5x-6x+ (that's based on an EBITDA figure that is 20-30% bullshit).
Y'all think PE fundraising is bad now? Wait until your fund performance tanks.
What's a reasonable leverage ratio? Asking bc never worked on the debt side / financing. Assuming it varies by industry but even then feel like it shouldn't too much.
I'm going to read up on it
It depends on the specific business and how much FCF they generate. A biz with high capex is not going to be able to lever-up nearly as much as one with light capex.
In this environment, close attention needs to be paid to Interest Coverage and Fixed Charge Coverage when trying to figure out how much leverage can go on the biz - the higher the leverage, the more interest expense, the tighter the IC/FCC ratios.
In the current market (SOFR is currently at 5% and the spreads, depending on execution style i.e., Direct Lending or Institutional TLB can be very high). For a Direct Lending deal (generally priced at SOFR + 600, minimum in today's market), you're not seeing anything really above 5.5x for an All-Senior (all first lien debt) structure and generally, 4.5x - 5x seems to be the more comfortable leverage point. An Institutional Deal (talking single B rated) could maybe push the envelope another 0.5x turn because SOFR spread are generally a bit lower (maybe 100-200bps vs. a Direct deal depending on the credit rating). This is fluid, but gives you an idea where the current market is at.
To put it in perspective, some Sponsor's were getting ~7x Leverage in 2021 because SOFR was near zero. Can't put that kind of leverage on a biz right now bc the IC/FCC ratios won't work. What happens when debt is expensive and Sponsor's can't lever up like 2021? Valuations ultimately need to come down to account for this.
Also, let's all remember that "PF ADJ EBITDA" is a bunch of bullshit and is riddled with add-backs. Most Credit Agreement EBITDA definitions allow for 25-30%+ of all sorts of add-backs meaning, "true leverage" is even higher than advertised if you strip out the BS. A good indicator to watch is liquidity - are they actually generating/building cash? Is their Revolver balance consistently going up?
No pain no game.
You'll need to be hiring advisors and engaging with your lenders. Someone on your team is probably already doing this. Lenders likely don't want to take they keys, but will definitely want to see the Sponsor putting in more equity. Lots of ways to restructure debt without going through the courts.
My son, have you considered moving your assets *somewhere else* and telling your lenders to go fuck themselves
How would this work realistically? If you emptied the company before bankruptcy wouldn't that be reversed in court?
(Know nothing about this)
Somewhere in the distance, a bk lawyer is reading this and salivating.
Borrowers, particularly sponsor backed, have become aggressive with document interpretations over the last ~3-4 years to the detriment of their lenders. This usually involves creating new subsidiaries outside your restricted credit group and tapping restricted payment or other investment-related baskets available under your credit agreements to essentially "transfer" assets to the new subsidiary. This effectively strips your existing lenders of their security interest and allows you to re-lever the assets to raise new money. To be clear, this is a great way to blow up your lender relationships, open you up to lawsuits, potentially hurt future fundraisings, and show up on the front page of Reorg. But it happens all the time. If you have ice in your veins, your attitude might be that you're doing nothing that isn't permitted under your documents which was agreed to be your lenders, and if your lenders are unhappy it is their fault for not reading the fine print. My guess is your documents allow for something like this. And why wouldn't a sponsor want to do this if they thought they could? If you are at this crossroad your equity is likely worth zero, so why not try to maximize the value of your option? A nice way to describe these types of deals are as a "capital solution", "novel financing", etc. I have done several of these, both as the new money guy and the guy getting screwed. Sometimes they work, most of the time they don't and the borrower still ends up in BK a year later.
Need some Chewy & Serta blockers in your docs lenders...
Again know nothing about this, but isn't this a trick that one or two borrowers can pull off once and then all lenders will include in the contracts that you can't do that specific transfer of money or that if you do so and the company goes bankrupt then the money of the subsidiaries is used to cover the lenders or those transfers are simply reversed?
Hard to imagine that distressed lenders will fail to identify this trick at the time of lending when other companies have already done it.
cough..fraudulent conveyance cough..
Didn't go through bankruptcy but was in a pretty challenging situation in the beginning of COVID.
I think now is even harder cuz everyone believed COVID was more temporary and lenders were a bit more understanding / we could do furloughs for short-term cash savings.
In general, I think you'll have to pay very close attention to cash - 14-week cashflow to see if you have enough cash for all the opex and interest payments.
I think your deal team may also start considering scenarios and going to ICs with potential additional equity injections.
VPs and above are likely talking to lenders as well in terms of debt renegotiations.
Not gonna be fun :( but if it happens, it happens :/ (I do think it's a lot of learnings tho! Coming from a consulting background, I naturally leaned more towards thinking about income statement and growth, but that experience gave me a lot exposure in terms of thinking about debt financing, liquidity, and balance sheet health.)
Time to engage counsel to figure out your options. Get aggressive with add-backs if you're about to trip a covenant to buy some more time. If you can, you may want to draw on your revolver to buy more time (if you can stay within covenants and can avoid repping to solvency if that's required) and have at least some leverage over lenders.
Depending on how screwed the company is (as in, is it even generating cash before interest and principal payments), you may need to explore trying to find a buyer as lenders may end up wanting to sell rather than take ownership and front the money for an expensive DIP.
My dad's COO soon to be CEO at a ~$600mm revenue manufacturing/industrials portco that went through bankruptcy in 2018/2019. Very levered up and there are occasional cash crunches but the PE fund principal overseeing the business maintains it's the best return on the ~10 companies he oversees. Going for sale in 12-18 months. Bankruptcy was not pretty (capex/headcount cuts), but sale of part of the business opened room for a subsequent merger that boosted the business and expanded it overseas in EMEA/APAC.
If you're at a MF/UMM fund, your directors/partners already know (or should know) the drill, most MF/UMMs have had an in-court $0 and have gone through the process. UMM/MF docs should have enough loopholes to strip collateral, stretch runway and make the process less painful and more orderly.
If you're at a MM/LMM, you need to get on the phone with your counsel and have them guide you through the process. Random DL docs for a $90mm TL or so will be a lot less user friendly for collateral strips but it's all about what you negotiated.
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