Can someone please explain that to me as I just can't understand it
From what I understand it's very common in CH11 situations to gift / "tip" 2-5% equity to out-of-the money shareholders to secure their vote in the restructuring plan where they would otherwise get nothing following a Debt to Equity swap
2 things I don't understand:
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If any investor class is out of the money, would they not be simply excluded from the vote in the first place and crammed down? Therefore what leverage could they possibly have to obtain such "tip"
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Given everything is a zero-sum-game in a restructuring how do other creditors, be they financial or trade, accept that? Presumably any value that leaves the business makes someone worse off
Reason I'm asking is that this is now being discussed for the new UK Restructuring Plan and would be great to understand that better - thanks to everyone
Equity tips are not common in the US, especially when the equity is extremely obviously out of the money. If the class above such as the unsecureds aren’t getting anything, don’t expect an equity tip to even be in discussion. I’ve seen existing equity get warrants though, although they’re usually extremely out of the money. Existing equity usually also gets a first in chance to participate in any rights offering or equity raise, so there are alternative methods to preserve equity.
Other than that, sometimes if a certain equity holder is essential in the operation of the company (e.g. any employee owned equity in a human capital intensive business), there’s a carve out to prevent them from being diluted out / impaired. MIPs and the sort will also get / preserve a chunk of existing equity.
Thanks! Very helpful
Would add generally with bankruptcy processes that even though letter of the law / absolute priority may dictate certain treatments, ultimately the reality of how the process plays out may differ just to reach the finish line ASAP
So to answer why equity might get some recovery even when out of the money and more senior parties are being impaired, the answer is the equity may be able to sue / delay / object and obstruct the exit process (cram downs are more difficult than having a fully
Consensual process and will also cost the estate millions in additional legal fees and potentially delay exit), so often it is determined it’s worth providing some recovery to those stakeholders to get them to just come along without the fight
It’s ultimately to minimize value destruction these parties may cause in a scorched earth situation (“if I can’t win, nobody wins”) and maximize the value of the estate
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