Coming Recession Makes for Busy Times in the Restructuring Business

A coming recession makes for busy times in the restructuring business, said panelists at the Turnaround & Restructuring Conference. Changes in the federal bankruptcy code coupled with new players like hedge funds complicate the picture, they said.

The restructuring business is “probably the most intellectually challenging and stimulating area” within the business world, said Flip Huffard, managing director, The Blackstone Group, who moderated the Emerging Trends and Implications for the Next Wave of Restructurings panel. “Every day you walk into the office and it’s some new challenge that you’ve got to get your head around.”

The conference, sponsored by the Turnaround & Restructuring Group, took place January 18 at the Chicago Cultural Center.

With continuing fallout from the subprime mortgage crisis and continuing word of an economic downturn, “We’re actually one of the few groups of bankers and lawyers you talk to right now who are very hopeful about what the next year promises for us,” Huffard said. He said there’s been a “pent-up need” for restructurings.

Coming off a period of high liquidity, many business deals have been structured with first and second liens, making restructuring more complex than in the past.

Following a period of “unprecedented easy money” and “quick balance sheet corrections,” said David Bell, managing director, Deutsche Bank, “we’re just starting to see now” the effects of these new structures, and with the complexities, he anticipates “some severe fights between the first and second lien holders.”

Some of those lien holders are hedge funds who have a much different interest in restructuring negotiations than traditional banks do.

Traditional banks, who are “actually concerned about a relationship” with a company are “less likely to pursue aggressive strategies,” Bell said.
 
“Hedge fund investors have less of an interest in the relationship” and more of a “relative value of investment model,” he pointed out. They are more interested in their rate of return.”

Speaking from a hedge fund point of view, Richard Shinder, senior vice president, Avenue Capital Group, agreed saying, “We don’t necessarily have a strategic interest in a company.”

Hedge fund representatives are only given access to proprietary information for a short time. Because of the nature of hedge funds, “we place a premium on short-term burnoffs” where the company or debtor is a public one, Shinder said.

The role of the bank agent has also changed. A decade ago bank agents would be the largest creditor to the bank loan. But today, “in many cases the agents have little or no money interest in it,” Huffard said.

Where bank agents used to work with the company and take control of the restructuring, “that’s kind of gone,” Bell said. “We find ourselves just trying to be a consensus builder” among the parties, “trying to keep people rationally involved.”

Shinder said people who don’t have an interest in the deal may be setting the deal.

“You can have all these players acting absolutely rationally and creating awful debt structures,” he said.

Restructuring processes also are affected by the recent trend of loans granted without covenants. As a result, “a company’s performance can deteriorate for a period of time and there’s not much a lender can do,” Bell said.

Some companies, Huffard said, “arrive at the lender’s door, saying, ‘Sorry, we are all the way out of liquidity.’”

The situation is at the point where some secured lenders “are finding out overnight, they are the [new] owners of these companies,” he said.

Restructuring experts already are working on cases that haven’t been announced, panelists said. Preplanning is necessary due to changes made in federal bankruptcy code in fall 2005. Under the old laws, companies had the sole right to propose their own restructuring plan, said Matthew Barr, partner, Milbank, Tweed, Hadley & McCloy LLP. That might take four or five years. Under new laws companies have 120 days to propose a plan and when filing for extensions, they face a “hard stop” time of 18 months, Barr said.

Barr predicted “90 percent of the restructurings are going to be much shorter,” and the remainder may involve “huge litigations.”

In addition, Barr said, a 10-day period for creditors to reclaim goods has been expanded to 45 days. Most companies request cash back rather than actual goods. The effect of requiring larger reserves will ripple throughout the entire financial process, he said.

The law changes have yet to be tested in any major case.

“It’s not entirely clear to me the markets have fully digested the changes in the law,” said Shinder.

Part-time student Gregory Vutrano said he thought the most relevant part of the panel’s discussion was bankruptcy law changes, with restructuring time diminished to 18 months from a “virtually infinite period of time.”

“Now that crunch time is coming around, a lot of companies are probably not anticipating how to deal with the new law,” Vutrano said. “I thought that was the most poignant part of the discussion for today’s market.”

- Mary Sue Penn