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February 28, 2020
Another diocese, another 400 potential claimants. Nothing else new here relative to previous diocese filings.
Jurisdiction: W.D. of New York (Judge Bucki)
Professionals:
Legal: Bond Schoeneck & King PLLC (Grayson Walter, Stephen Donato)
Claims Agent: Stretto (*click on the link above for free docket access)
February 2, 2020
Kansas-based (like, real Kansas-based, as in not in Missouri) API Americas Inc. and its affiliate API (USA) Holdings Limited filed for bankruptcy in the District of Delaware.* API Americas is a manufacturer of foils, laminates, and holographic materials. Among other customers, API Americas provides (i) packaging to companies in the premium drinks, confectionery, tobacco, perfume, personal care, cosmetics, and healthcare sectors and (ii) laminated paper and board products to end users focused on fine spirits, tobacco, confectionary and beauty brands. It has facilities in both Kansas and Indiana.
The debtors appear to be victims of disruption.** They note:
The Debtors have suffered from operating losses over the last couple of years, arising out of three main factors. First, the Debtors have experienced a significant drop in demand for their products, due to unfavorable market dynamics and a shift toward more environmentally sustainable products. In large part, the drop in demand is due to tobacco customers shifting to lower cost, alternative packaging and a substantial portion of the US market moving from merchant to captive.
Given the recent push towards ESG, we suspect we’ll see more debtors note “a shift towards more environmentally sustainable”-everything as a significant headwind. Interestingly, the debtors also note that operating losses are also the result of competitive pressure stemming from overcapacity in the industry. In other words, the demand side is decreasing while the supply-side seems robust. What other companies will follow the debtors into bankruptcy as a result? 🤔
We’ve been commenting here at PETITION that the consumer has been carrying the US economy for months now as certain major manufacturing and services indices have, in contrast to increasing consumer confidence and spending numbers,*** been reflecting negative warning signs about the state of the economy.**** Interestingly, the debtors highlight:
…the manufacturing sector in general has faced economic headwinds in recent months. On January 10, 2020, the New York Times reported that the Institute of Supply Management’s manufacturing index for December 2019 reflected the fastest rate of contraction since June 2009.
We repeat: what other companies will follow the debtors into bankruptcy as a result? 🤔
The debtors have $44.4mm outstanding under its ‘17 $700mm revolving credit facility with PNC Bank NA. With the consent of PNC, they’ll use cash collateral to fund the cases.
So what now? Well, it’s a bit unclear. The papers give no indication of a trajectory for the cases but an attempted sale looks likely. That said, it doesn’t appear like a banker had been engaged at the time of filing.
*Ultimate parent API Group Limited entered administration proceedings in the UK on 1/31/20.
**The debtors cite other specific reasons for its financial distress including poor integration/consolidation of facilities and capex required after the acquisition of one of its plants. These issues cost the debtors $11mm over since 2016.
***Recent consumer confidence numbers continue to be positive.
Source: The Daily Shot
**** Of course, different surveys generally reflect mixed messaging on this front. For instance, the Fed manufacturing index showed some positive signs.
Jurisdiction: D. of Delaware (Judge Sontchi)
Capital Structure: $44.4mm RCF (PNC Bank NA)
Professionals:
Legal: Eversheds Sutherland US LLP (Edward Christian, Mark Sherrill) & Saul Ewing Arnstein & Lehr LLP (Mark Minuti, Monique DiSabatino)
Financial Advisor: Ernst & Young LLP (Briana Richards, Jon Henrich)
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Prepetition Lender: PNC Bank NA
Legal: Blank Rome LLP (Regina Stango Kelbon, Stanley Tarr, Mark Rabinowitz)
January 14, 2020
Take cover folks: it’s raining med device bankruptcies these days.
San Diego-based REVA Medical Inc. develops bioresorbable polymer technologies for coronary artery disease, peripheral artery disease and embolization therapy. If that sounds technical, you’re right: just like every other med device company that finds its way into bankruptcy. The details of the products go right over our heads but, fortunately, the general themes are the same as far less technical debtors. In a nutshell: the company’s products are highly capital intensive and require access to equity and debt markets.
And, indeed, REVA has accessed those markets. It was publicly-traded on an Australian exchange; it also raised tens of millions ($56.8mm to be exact) by way of convertible notes; and, finally, it had access to a senior secured credit facility that looks like a whole lot like bridge financing to a bankruptcy. Indeed, on January 9, just four days prior to filing, the debtor’s gained access to an additional $4.4mm from Goldman Sachs Specialty Lending Group, L.P. which perfectly teed up a cash collateral motion (which was granted the next day). With all of that debt and “relatively minimal sales,” the debtor “has not yet generated revenue at a level sufficient to support its cost structure.” (PETITION Note: we really hope that forthcoming med device AND biopharma debtors borrow this language because it’s likely universally applicable…they can save themselves the cost of 0.2 billable hours). Compounding matters was the maturity of its first issuance of converts, putting the debtor on the hook for $25.5mm. Ruh roh.
The debtor ran into other issues. For one, the debtor’s distributor, Abbott Laboratories ($ABT), withdrew one of the debtor’s products from the market (“Absorb”) after adverse events and poor clinical trial results. Score one for ethics! Thereafter, the European Society of Cardiology published new guidelines that basically napalmed the debtor’s Absorb saying that it’s not useful/effective and might actually be harmful. Whoops!
But there’s some good news here. The debtor has a deal. The deal will erase $90mm of debt with the senior secured lenders and the holders of convertible notes receiving new equity in the reorganized (read: post-bankruptcy) company. This product will live to see another day with the hope of a major course correction.
Jurisdiction: D. of Delaware (Judge Dorsey)
Capital Structure: $9.7mm senior secured credit facility (Goldman Sachs International), $25mm '14 7.54% convertible notes (matured 11/14/19)(Goldman Sachs International, Senrigan Capital Group), $47.1mm ‘17 8% convertible notes (GSI, Senrigan, Medtronic, Inc., HEC Master Fund LP, J.P. Morgan Securities plc, TIGA Trading Pty Ltd, and Saints Capital Everest LP)
Professionals:
Legal: DLA Piper LLP (Thomas Califano, Stuart Brown, Jamila Willis)
Financial Advisor: Ernst & Young LLP
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
5%+ Equityholders: Senrigan Capital Group, Goldman Sachs International, Robert Stockman, Elliott Associates, L.P, Brookside/Bain, Capital Public Equity, Cerberus Capital Management, JP Morgan, Citicorp Nominees PTY Limited, JP Morgan Nominees Australia Pty Limited, HSBC Custody Nominees (Australia) Limited –GSCO, HSBC Custody Nominees (Australia) Limited
Senior Secured Agent: Goldman Sachs International
Legal: Weil Gotshal & Manges LLP (David Griffiths, Kevin Bostel) & Richards Layton & Finger PA (Paul Heath, Zachary Shapiro, Sarah Silveira)
Senior Secured Lenders: MS Pace LP, Senrigan Capital Group Limited
Elliott Management Corporation
Legal: Debevoise & Plimpton LLP (Jasmine Ball) & Ashby & Geddes PA (William Bowden)
November 4, 2019
Pennsylvania-based Fleetwood Acquisition Corp. and two affiliated debtors, Fleetwood Industries Inc. and High Country Millwork Inc., filed for bankruptcy in the District of Delaware. The filing constitutes a “second order effect” bankruptcy in that, according to the debtors, it results primarily from two dominant macroeconomic trends entirely outside of their own control: (i) the #retailapocalypse; and (ii) President Trump’s trade war with China. As we’ll discuss below, the filing will have uniquely American ramifications — at least for a participant in retail business.
Fleetwood Industries and High Country Millwork Inc. are “providers of customized fixtures and displays” primarily servicing the retail and hospitality industries; they are “full service fixturing companies beginning with creative and collaborative design services and continuing through the manufacturing and installation processes.” Said another way, they design, build, install and service display shelving, casing and checkout infrastructure that you look at and use whenever you go shopping. You probably never even think about who makes that stuff and how lucrative it might be: interestingly, in 2018, the business had $70mm in sales. The debtors list scores of retailers as clients including, ominously, Destination Maternity, Gymboree, JC Penney, Quiksilver, and True Religion, among many others (including, to be fair, relatively “healthy” retailers…to the extent those exist).
And that’s where the rubber meets the road. It’s hard for companies servicing retailers to generate growth when…well…not to state the obvious…retail is CLEARLY not in growth mode.
Tariffs didn’t help. Per the debtors:
…in 2019 as a result of the certain tariffs instituted against China and other headwinds in the retail industry, certain of the Debtors’ customers began delaying orders, significantly extending project timelines, and slow paying certain receivables. At the same time, the Debtors’ overhead expenses increased due to the Fleetwood expansion and certain of the materials utilized by the Debtors became more expensive due to the tariffs.
They continue:
…some of the Debtors’ customers unexpectedly began delaying orders and pushing out project timelines. Many of those customers are retailers who reported that the newly instituted China tariffs were negatively impacting their sales and profit margin projections. This, in turn, led such customers to slow their store expansion and refurbishment plans, defer new projects indefinitely, and reduce the scope of existing projects. This caused a significant decline in the Debtors’ revenue. Indeed, the Debtors project a combined decline of approximately 50% in revenues from 2018 to 2019.
We’re not math experts but if revenue was $70mm in 2018, we’re talking a $35mm nut in 2019. 😬
Customers also began to delay payment or to challenge invoices in unusual ways, presumably to address their own cash flow issues. At the same time, the Debtors’ liabilities to suppliers and internal overhead ballooned as the Debtors continued to work to fulfill customer orders for which payment was now being delayed or withheld.
This is called death dominos, ladies and gentlemen. Retailers are stretching payables and that’s stressing players further down the chain. Consequently, these guys sh*tcanned 63 employees across the enterprise, delayed capex, and starting negotiating revised credit terms and extended payment plans with their suppliers. And this is where the “uniquely American ramifications” come in. This isn’t Payless Shoesource where virtually all of the companies biggest creditors were in China; rather, the debtors’ top 30 list of general unsecured creditors is replete with good ol’ USA-based businesses (PA, CA, NY, OR, etc.). With cash projected to hover between $1.3mm and $2.2mm over the next 13 weeks, things aren’t looking so great for those folks (absent inclusion among the critical vendors line-itemed for $320k/week through the end of November). There’s $60mm of secured debt on top of them. The debtors’ prepetition secured lenders consent to the use of cash collateral to fund the cases but make no mistake about this: the debtors aren’t in good shape. They checked administrative insolvency on their filing petitions. So, yeah, there’s that: the value of this company likely doesn’t clear the debt.
So, what’s the bankruptcy going to achieve? Note:
Over the past several months, the Debtors have actively sought financing to support their working capital and cash demands, including seeking additional financing from their senior lender, equipment finance companies, accounts receivable factoring lenders, and other potential asset-based and cashflow lenders, but none of those lenders were able to underwrite or approve a loan due to the Debtors’ current financial condition and the industry outlook. The Debtors also recently explored potential business combination opportunities that might result in a stronger combined balance sheet. These discussions did not present a path forward and one of the potential partners actually ceased its own operations after suffering the same challenges. (emphasis added)
Again, dominos. Savage. The most obvious answer — which the debtors acknowledge — is that the debtors needed the “breathing spell” provided by the automatic stay. They’ll use the bankruptcy process to “liquidate certain inventory, raw materials, and equipment at their Pennsylvania location.” Otherwise, they’ll attempt to “right-size and streamline their businesses with the goal of emerging as a profitable enterprise.” They don’t give any indication of how they’ll do it. No doubt, though, both the debtors’ lenders and their unsecured creditors will take it on the chin.
Anything that even touches retail these days is a hot mess.
Jurisdiction: D. of Delaware (Judge Gross)
Capital Structure: $51.2mm (RCF & TL - Fixture Holdings LP c/o Grey Mountain Partners), $9.8mm Term Loan (Brookside Mezzanine Fund III LP), $8.7mm subordinated unsecured debt (Fixture Holdings LP)
Professionals:
Legal: Bayard PA (Erin Fay, Evan Miller, Daniel Brogan)
CRO: Octavio Diaz
Director: Christopher Reef
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Prepetition Secured Lender: Fixture Holdings LP
Legal: Paul Hastings LP (Matthew Murphy, Nathan Gimpel)
October 4, 2019
Agera Energy LLC, a retail electricity and natural gas provider to commercial, industrial and residential customers filed for bankruptcy in the Southern District of New York. The company blames, among other things, mismanagement and poor strategy for the run-up to its financial problems: too many low margin fixed contracts in an environment that calls for variable contracts proved to be an albatross. Nevertheless, in September ‘18, sponsor Eli Global LLC agreed to pursue a turnaround plan including any and all capital infusions that might be necessary.
But then the hammer dropped. New management discovered “material balance sheet issues, which led to a restatement of the Debtors’ financials. Specifically, as of August 31, 2018, there was approximately $39 million of over stated receivables, of which $37 million related to unbilled receivables. As a result of the foregoing discovery, the Debtors suddenly found themselves in breach of the Senior Lien Supply Agreement’s $16 million Tangible Net Worth covenant.” WHOOPS.
Thereafter, the company and its lenders operated pursuant to a series of forbearance agreements while Eli Global LLC made millions of dollars of capital contributions. Until they didn’t. In May, Eli Global indicated that it was no longer in a position to inject capital into the business — and it still had $21mm in commitments from that point forward. Without the capital, the company was unable to satisfy, among other things, renewable portfolio standards it is subject to.* This dominoed into a separate liability for the company of approximately $72mm and a slate of enforcement actions from the Massachusetts Department of Energy Resources, the Rhode Island Public Utilities Commission and the New Hampshire Public Utilities Commission that threatened the debtors’ ability to sell electricity or natural gas in those states. Consequently, the debtors initiated a strategic alternatives review process which, naturally, included a marketing process for the sale of the debtors. The company now has Exelon Generation Company LLC lined up as a stalking horse purchaser (for the debtors’ contracts) for $24.75mm.
*RPS laws require a certain portion of a state’s electricity consumption to be generated from renewable sources, such as wind, solar, biomass, geothermal, or hydroelectric.
Jurisdiction: S.D. of New York (Judge Drain)
Capital Structure: $161.6mm Senior Lien Supply Agreement and Senior Lien ISDA Master Agreement (BP Energy), $35mm Second lien Revolving Credit Facility (Colorado Bankers Life Insurance Company)
Professionals:
Legal: McDermott Will & Emery (Timothy Walsh, Darren Azman, Ravi Vohra, Debra Harrison)
Independent Manager: Stephen Gray
Financial Advisor: GlassRatner Advisory & Capital Group LLC
Investment Banker: Miller Buckfire & Co. LLC & Stifel Nicolaus & Co. Inc.
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
DIP Lender: BP Energy Company
Legal: Haynes and Boone LLP (Charles Beckham Jr., Kelli Norfleet, Arsalan Muhammad, Kathryn Shurin)
Stalking Horse Bidder: Exelon Generation Company, LLC
Legal: McGuireWoods LLP (Cecil Martin III)
Platinum Partners
Legal: Otterbourg PC (Melanie Cyganowski, Eric Weinick)
10/7/19 #42
September 12, 2019
Source: Official Form 204, The Diocese of Rochester Chapter 11 Filing
If you haven’t seen the wonderful movie “Spotlight” yet, we highly suggest you do. It’s a compelling — and disturbing — movie about silenced and shamed claimants who were abused at the hands of the Catholic Church. There’s no more appropriate visual image for these people and what they’ve gone through than a black Sharpie line covering their existence. ⬆️
The Diocese of Rochester is the latest in a long line of dioceses that have now filed for bankruptcy as a means to manage the carnage of decades of abuse, neglect, and secrecy.
Earlier this year, the New York State Legislature passed the Child Victims Act (“CVA”) and Governor Cuomo signed the legislation into law in February. The CVA (i) opened a one-year “window” through which time-barred child sex abuse claimants could lodge claims and (ii) extended “the statute of limitations for claims that were not time-barred on its date of passage, permitting such child victims to commence timely civil actions until they reach 55 years of age.” The result? 46 lawsuits involving 61 plaintiffs (plus another 12 demand letters indicating future suits). Chilling numbers.
Here’s another chilling number: “[s]ince the mid-1980’s, the Diocese has settled 44 claims related to child sexual abuse.” No wonder people today have lost faith in our institutions.
Per the Diocese:
The Diocese does not seek Chapter 11 relief to shirk or avoid responsibility for any past misconduct by clergy or for any decisions made by Diocesan authorities when addressing that misconduct. The Diocese does not seek bankruptcy relief to hide the truth or deny any person a day in court. In fact, the Diocese is committed to pursuing the truth and has never prohibited any person from telling his/her story or speaking his/her truth in public. The Diocese has publicly disclosed perpetrators. The Diocese has made and requires criminal referrals to be made for all credible allegations of sexual abuse. The Diocesan Bishop, The Most Reverend Salvatore R. Matano, has apologized for the past misconduct of the personnel of the Diocese and meets with victims at every opportunity in an attempt to bring comfort to such individuals, as did his predecessor. 1'he Diocese has established standards for the training and background assessment of all employees, clerics and volunteers who will likely interact with children and young people.
The bankruptcy is intended to streamline a claims process to promote equal treatment of the claimants. The Diocese grossed $21.8mm in the fiscal year that just ended June 2019 and has insurance policies; it recognizes that it has a “moral obligation to compensate all victims of abuse by church personnel fairly and equitably.” It hopes to use the bankruptcy process to prevent a race to the courthouse and depletion of any and all available funds to the benefit of those whose trials are first to the detriment of those whose come later.
But this isn’t just about the claimants. Per the Diocese:
Beyond the Debtor's obligation to all of its creditors, the Diocese has a fundamental and moral obligation to the Catholic faithful it serves, and to the donors who have entrusted the Diocese with the material fruits of their life's labor, to continue the ministries of the Church in fulfillment of the Debtor's canonical and secular legal purposes. In order to do this, the Diocese must survive.
…
Some faithful may believe that, going forward, their charitable gifts to any Catholic entity will be diverted from their intended purpose and used to satisfy the claims of the Debtor's creditors rather than to fund the ongoing ministries of the Church that benefit the faithful and their community.
That, frankly, is a bit painful to read. Sure, we get it: the Diocese provides many valuable services to many people in need. But statements like that reek of corporate-speak and makes it sound like the bankruptcy is meant to ensure survival rather than promote justice. It’s a shame.
So, we suspect this case will follow the usual playbook. The Diocese will seek a channeling injunction and set up a trust to address all claims, letting the trustee see what, if anything, can be extracted from insurance proceeds. The claimants will get some small reparation and life will move on. Just more easily for some than others.
Jurisdiction: W.D. of New York (Judge Warren)
Professionals:
Legal: Bond Schoeneck & King PLLC (Stephen Donato, Charles Sullivan, Ingrid Palermo)
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Official Committee of Unsecured Creditors
Legal: Pachulski Stang Ziehl & Jones LLP
Updated: 9/25/19 #65
August 30, 2019
The New York Times recently declared:
The crisis in local journalism is catastrophic — and it will get worse. More than 1,300 communities across the United States are without local news coverage, and thousands more have inadequate journalism. At the next recession, the collapse will accelerate.
Studies have now validated what we all know intuitively: The disintegration of community journalism leads to greater polarization, lower voter turnout, more pollution, less government accountability and less trust.
Insert doomsday music here, folks.
Champaign Illinois-based The News-Gazette Inc. is the leading local news source in Champaign County, Illinois. It publishes a daily newspaper that reaches approximately 22k people Monday-Friday and 24.3k people on Sunday; it has five weekly newspapers, two advertising-oriented shopper products and two magazines; through a wholly owned debtor subsidiary, DWS Inc., it also operates three radio stations and several companion websites.
Now it is another example of a struggling local news provider. The company filed for bankruptcy in the District of Delaware over the holiday weekend.
In 2008, the company “took on substantial debt to complete the first phase of a new 48,865-square-foot printing and distribution facility” and completed said phase (the distribution part) just prior to the Great Recession. The rest of the project — including the acquisition of a new printing press geared towards driving a regional commercial printing business — never got done. The company notes:
The “great recession” of 2008, however, marked the beginning of an accelerated trend of advertising revenue declines for the newspaper business in general. As revenues fell and financial performance suffered, expansion plans had to be shelved because Debtors could neither access, nor afford, the capital necessary to complete the project.
Compounding matters:
Over the last decade, circulation trends have generally been better than industry averages owing in large part to a continued commitment to maintaining a very high-quality news product. During the last two years, however, the rate of decline in circulation has increased meaningfully.
“Better than industry averages” is, by definition, a relative measurement. Which ain’t saying much. On the other hand, the metrics are “saying much.” Revenue dropped from $17.1mm in 2017 to $13mm in 2018. EBITDA went from $70k in 2016 to -$4.83mm in 2018.
Consequently, the debtors have spent the last few years rejiggering their business. That, naturally, means that people lost jobs. The debtors outsourced their production operations and liquidated its production assets; they also reduced their expenses and eliminated the facility-related debt. Nevertheless, the debtors needed an escape hatch; in late 2018, they engaged a broker to solicit interest from a strategic buyer “with financial resources and media footprint to further economize operations” to operate the debtors as a going concern.
The goal of the chapter 11 bankruptcy filing is to effectuate a sale to Community Media Group LLC by early November. Community Media Group is a privately-held multimedia company which owns and operates roughly 40 newspapers in six states. Subject to standard sale adjustments, CMG will pay $4.5mm.
It appears that the future of local news is increasingly in their hands.
*****
What happens to the employees? Well, as noted above, a number have already lost their jobs and those that remain were the glorious recipients of WARN notices (though some may be rehired). The company’s CEO said:
“It is most certainly regrettable that some employees won’t be rehired during the transition. Our economic circumstances — which are not unique to this operation — require that we operate more efficiently. Absent this sale transaction, we would be making similar decisions.”
The buyer is also leaving behind any and all liabilities (including withdrawal liabilities) with respect to defined benefit plans, pensions or similar retirement plans. As luck would have it, those liabilities make up the debtors’ three largest creditors:
Source: Chapter11 Petition
With a purchase price of $4.5mm, well, you can get a sense of how creditors, including folks who depended upon those pensions, will fare here. Pension liabilities alone are nearly $9mm.
And so this is a bittersweet result. The paper will live on but those who helped build it will be undeniably affected.
Jurisdiction: D. of Delaware (Judge Owens)
Professionals:
Legal: Chipman Brown Cicero & Cole LLP (William Chipman Jr., Mark Olivere) & Neal Gerber & Eisenberg LLP (NIcholas Miller Jr., Thomas Wolford)
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Stalking Horse Bidder: Community Media Group/Champaign Multimedia Group LLC
Legal: Leech Tishman Fuscaldo & Lampl LLC (John Steiner, Gregory Hauswirth)
August 11, 2019
We’re old enough to remember when subscription boxes were all the rage. The e-commerce trend became so explosive that the Washington Post estimated in 2014 that there were anywhere between 400 and 600 different subscription box services out there. We reckon that — given the the arguably-successful-because-it-got-to-an-IPO-but-then-atrocious-public-foray by Blue Apron Inc. ($APRN) — the number today is on the lower end of the range (if not even lower) as many businesses failed to prove out the business model and manage shipping expense.
And so it was only a matter of time before one of them declared bankruptcy.
Earlier this morning, Loot Crate Inc., a Los Angeles-based subscription service which provides monthly boxes of geek- and gaming-related merchandise (“Comic-con in a box,” including toys, clothing, books and comics tied to big pop culture and geek franchises) filed for bankruptcy in the District of Delaware.* According to a press release, the company intends to use the chapter 11 process to effectuate a 363 sale of substantially all of its assets to a newly-formed buyer, Loot Crate Acquisition LLC. The company secured a $10mm DIP credit facility to fund the cases from Money Chest LLC, an investor in the business. The company started in 2012.
Speaking of investors in the business, this one got a $18.5mm round of venture financing from the likes of Upfront Ventures, Sterling.VC (the venture arm of Sterling Equities, the owner of the New York Mets), and Downey Ventures, the venture arm of none other than Iron Man himself, Robert Downey Jr. At one point, this investment appeared to be a smashing success: the company reportedly had over 600k subscribers and more than $100mm in annualized revenue. It delivered to 35 countries. Inc Magazine ranked it #1 on its “Fastest Growing Private Companies” list. Deloitte had it listed first in its 2016 Technology Fast 500 Winners list. Loot Crate must have had one kicka$$ PR person!
But life comes at you fast.
By 2018, the wheels were already coming off. Mark Suster, a well-known and prolific VC from Upfront Ventures, stepped off the board along with two other directors. The company hired Dendera Advisory LLC, a boutique merchant bank, for a capital raise.** As we pointed out in early ‘18, apparently nobody was willing to put a new equity check into this thing, despite all of the accolades. Of course, allegations of sexual harassment don’t exactly help. Ultimately, the company had no choice but to go the debt route: in August 2018, it secured $23mm in new financing from Atalaya Capital Management LP. Per the company announcement:
This financing, led by Atalaya Capital Management LP ("Atalaya") and supported by several new investors (including longstanding commercial partners, NECA and Bioworld Merchandising), will enable Loot Crate to bolster its existing subscription lines and improve the overall customer experience, while also enabling new product launches, growth in new product lines and the establishment of new distribution channels.
Shortly thereafter, it began selling its boxes on Amazon Inc. ($AMZN). When a DTC e-commerce business suddenly starts relying on Amazon for distribution and relinquishes control of the customer relationship, one has to start to wonder. 🤔
And, so, now it is basically being sold for parts. Per the company announcement:
"During the sale process we will have the financial resources to purchase the goods and services necessary to fulfill our Looters' needs and continue the high-quality service and support they have come to expect from the Loot Crate team," Mr. Davis said.
That’s a pretty curious statement considering the Better Business Bureau opened an investigation into the company back in late 2018. Per the BBB website:
According to BBB files, consumers allege not receiving the purchases they paid for. Furthermore consumers allege not being able to get a response with the details of their orders or refunds. On September 4, 2018 the BBB contacted the company in regards to our concerns about the amount and pattern of complaints we have received. On October 30, 2018 the company responded stating "Loot Crate implemented a Shipping Status page to resolve any issues with delays here: http://loot.cr/shippingstatus[.]
In fact, go on Twitter and you’ll see a lot of recent complaints:
Have you ever considered a Loot Crate subscription? (Don’t.) I’m still waiting on my tees for April, May, June, and July. I won’t be renewing my subscription. @lootcrate needs to get it together. pic.twitter.com/BqqScs9jQR
— Randi ☕️📚🌊🌈❤️ (@biblionoceros) August 11, 2019
Which past crates because I've been waiting for a replacement for a crate that never showed up for 2 months and a crate I ordered last October still hasn't shipped yet this company is ridiculous
— Krystle Bogerman (@Krys_theawesome) August 12, 2019
@lootcrate I would love to know where my loot crate is that was supposed to arrive IN MAY. Not making people want to buy more crates when the ones we've already ordered are still MIA after 3 MONTHS
— Oldworldromance (@Oldworldromanc1) August 12, 2019
High quality service, huh? Riiiiiiight. These angry customers are likely to learn the definition of “unsecured creditor.”
@lootcrate So, Chapter 11, huh? I guess that's another way of telling everyone with a late crate or Loot Wear item that they're well and truly screwed?
— Mike Guerrero (@thesporq) August 12, 2019
Good luck getting those refunds, folks. The purchase price obviously won’t clear the $23mm in debt which means that general unsecured creditors (i.e., customers, among other groups) and equity investors will be wiped out.***
Sadly, this is another tale about a once-high-flying startup that apparently got too close to the sun. And, unfortunately, a number of people will lose their jobs as a result.
Seeing all my friends at Loot Crate losing their jobs makes me ill. I’m sending you all love. This company is a shell of what it once was, & it breaks my heart. There were over 20 customer support agents at one time. They ALL cared about customers. All those jobs got outsourced. https://t.co/vxJx7ymumG
— Bookitty (@B00kitty) August 10, 2019
I'm trembling out of anger from the amount of bullshit in this statement..
— CΛΠDICE ❤️S YOU! (@CandiceLikesYou) August 12, 2019
I feel so goddamn angry that I am scared I'm going to pass out at my desk.https://t.co/BvBr8Ww3Kv
Market froth has helped a number of these companies survive. When things do eventually turn, we will, unfortunately, see a lot more companies that once featured prominently in rankings and magazine covers fall by the wayside.
*We previously wrote about Loot Crate here, back in February 2018.
**Dendera, while not a well-known firm in restructuring circles, has been making its presence known in recent chapter 11 filings; it apparently had a role in Eastern Mountain Sports and Energy XXI.
***The full details of the bankruptcy filing aren’t out yet but this seems like a pretty obvious result.
⚡️UPDATE: August 18, 2019⚡️
On August 12, we published — and you should revisit — 📦Nerds Lament: Subscription Box Company Goes BK📦, a report on the bankruptcy filing of a company called Loot Crate Inc., an e-commerce subscription service that ships all kinds of nerdy sh*t to dorks who like comics and stuff (PETITION Note: for the record, we’re not making fun of nerds…we’re nerds…we’re just not nerds who subscribe to nerdy e-commerce subscription boxes and collect nerdy lunch boxes, nerdy bobbleheads, nerdy trinkets and super-nerdy action figures…there are levels here, people). While this company is generally a pimple on the U.S. economy’s very large a$$, we think it’s important for our readers — bankruptcy pros, investors, operators, startup/tech enthusiasts — to understand some of the reasons behind its demise: the small to middle market, after all, tends to get short shrift in a sea of bankrupted retailers with a formidable brick-and-mortar footprint or bankrupted oil and gas companies that have shredded public equity and debt value to the chagrin of many an investor. And as if that isn’t justification enough, how can we NOTrevisit this company when there’s THIS summary in its bankruptcy papers:
In short, despite liquidity constraints unlike those I and the Debtors’ other professionals have ever seen, the Debtors have created a path to get through Chapter 11, albeit quickly, to maintain their going concern, reduce the backlog of shipments (and Vantiv’s potential exposure), allow for renewed dealings with valued vendors and licensors, and achieve a result that is the best we could foresee over the last few distressing weeks and months. (emphasis most definitely added).
HAVE. EVER. SEEN. HAHAHAHAHA. Restructuring professionals see a LOT. This is really saying something.
Anyway, to set the mood, let’s start with this choice quote from the company’s filing:
This is a company that has succeeded from ground zero – it is not an “old economy” business, shrinking every year, trying to determine how to remain relevant. Instead, it is the view of the Debtors’ management that once better capitalized and freed from legacy liabilities through the proposed sale of assets in these cases, the Debtors will return to success.
Some might take exception to the use of the word “succeed” here given the company’s current predicament. Just saying. Some might also be forgiven for viewing the conclusions of “Debtors’ management” with a glint of skepticism. Why? Keep reading: we’re about to explain the myriad reasons why this company failed.
First, and this is something that PETITION has focused on considerably over the last several months as digital advertising supply reportedly decreases, prices increase, and more and more DTC brands are seeking targeted eyeballs to sell product. Choice bit here:
By late 2017, the Debtors were having financial issues. The subscription and entertainment market has a healthy and sometimes insatiable appetite for marketing dollars. While the Debtors were very popular with their fan base, the need to continue to spend on marketing was hampering the Debtors’ finances. (emphasis added).
We cannot over-emphasize how critical this is. As more and more B&M retailers underscore their need to leverage social media, influencers, etc., they’ll find it’s not so easy in today’s hyper-competitive DTC environment to generate revenue while avoiding astronomical customer acquisition costs. The upcoming presidential election, meanwhile, might put increased pressure on retailer budgets as Facebook Inc. ($FB), Google Inc. ($GOOGL), and others attempt to limit the number of ads in users’ feeds in the name of “user experience.” Meanwhile, we’ll continue to see both of these behemoths on lists of top 30 creditors: Facebook, for instance, is listed here. Google is one of Avenue Stores LLC’s largest creditors.
All of which is to say that it appears that Loot Crate’s CACs were through the effing roof.
Second, PROGRESSIVES!!! And MAGA!!! The company initially had a distribution system based out of California, “a very high wage stage.” Now the company fulfills “most of their shipments with a third party warehouse and shipper, operating out of Tijuana, Mexico.” We wonder if the facility is wired up with Maxcom tech!?!?
Third, the company blames the Supreme Court’s Wayfair decision (which, for the record, we had highlighted long before the mainstream media) for some of its liquidity problems; it alleges that the decision “require[d] them to accrue sales tax charges for goods sold in the past.” More on taxes below: as a preview, there was seemingly some shady-a$$ sh*t going on here.
Fourth, this company got to experience first hand the dangers of venture debt. Because of the issues noted above, the company ran afoul of its $15mm credit facility with Breakwater Credit Opportunities Fund, an LA-based private investment firm that specializes in direct debt and equity investments in lower middle market companies. The company defaulted on the loan in 2017. This, naturally, gave Breakwater leverage to extract economic concessions from the company and juice their governance rights.
Needing to refinance out Breakwater to avoid Breakwater taking over the board (and presumably tossing the founding management team out the window), the company refinanced the Breakwater loan with a $21mm term loan from Midtown Madison Management LLC, an affiliate of Atalaya Capital Management (MMM also received a now-worthless warrant for 17% of the company’s common stock). Breakwater got out whole, with accrued and unpaid interest, default interest, fees, and repayment of OID provided at the time of default. Savage play by Breakwater. As a condition to the refinancing, the company issued $4.4mm in convertible subordinated notes and warrants to a number of holders, including the proposed DIP lender, the founder’s daddy, and Dendera Advisory LLC (which took notes and warrants in lieu of payment for services rendered in connection with the refinancing). Apparently, only Money Chest LLC, the proposed DIP lender, perfected liens.
The refinancing, while beneficial to Breakwater, did not prove the salvation for the company that it had hoped for. Per the company:
While the August 2018 Financing provided the Debtors with a slight liquidity reprieve, the fees and expenses that had to be repaid to Breakwater made this amount far less than expected, resulting in continued difficulty with vendors after the transaction, resulting in turn in difficulty in filling crates due to missing custom items, causing subscriber chargebacks and cancellations, and then resulting in serious concerns by the Debtors’ credit card processor, and its withholding of funds from the Debtors. All of this caused greater liquidity issues with each passing week and month. In short, the cycle in this unfortunate paragraph never stopped, with each negative event causing other negative events, again and again, and liquidity problems continued into 2019 and until these filing of these Cases. (emphasis added).
Man, these guys give good Declaration. For any business, not just a startup, that paragraph is utterly painful to read.
Let’s break this down: management (1) took an unfavorable deal to refi-out their venture lender and protect their a$$es, (2) quickly realized that, after all was said and done, the company still had severely constrained liquidity, (3) stretched vendors, (4) irritated vendors, resulting in inventory issues, (5) couldn’t ship their product, (6) pissed off customers, (7) sparked credit card chargebacks presumably en masse, and (8) red-flagged their credit card processor to the point that it, too, wanted to run for the hills (more on this below).
Yeah, sure, these guys are totally dependable.
Fifth, the company is prisoner to two large creditors. One, Clear Finance Technology Corporation d/b/a Clearbanc, paid the company’s vendors for the company in exchange for a royalty on billings. Clearly this was meant to provide vendors with comfort given the company’s liquidity shortfall. There will be some litigation to determine whether this arrangement is a financing vs. an ownership agreement and, in turn, whether Clearbanc is, by virtue of Clearbanc’s alleged failure to file a UCC-1 perfecting its interest, an unsecured creditor. The other, Vantiv LLC, is the company’s credit card processor and the company’s patsy for why shipments haven’t timely shipped and customers are pissed off. Per the company:
Vantiv has a contingent claim to the extent the Debtors do not ship goods to their customers for which such customers have already paid via credit card. Such customers could then, depending on their credit card agreements and applicable law, reverse or dispute prior charges, which may then have to be returned to the customers’ credit card issuer (and in turn, the customer) by Vantiv. Due to serious liquidity issues over the past months – including Vantiv’s withholding substantial sums to protect itself against this risk – the Debtors’ have over $20 million in customer orders for which the Debtors have obtained payment, but for which the Debtors have not shipped goods….
Vantiv is holding approximately $1.7 million of collections it made for the Debtors and, as of the Petition Date, continues to reserve 100% of the Debtors’ customer billings thereby guaranteeing a continuation of the vicious cycle that has strangled liquidity.
Right. Credit card processors aren’t typically in the business of losing money and they, generally, understand risk. This is what happens when a business starts to spiral: counter-parties who are more than happy to service your account when you’re, say, a high-flying startup ranked at the top of growth lists and featured in Techcrunch, abandon you like you’ve just fallen into a putrid pile of horse manure. Indeed, Vantiv’s threats to terminate credit card processing precipitated the chapter 11 filing: the company simply couldn’t function as an online business without credit card payment processing.
Sixth, we may be reading into things too much but it sure seems like the company engaged in some accounting shenanigans to help with liquidity — switching revenue recognition methodologies while in the midst of its liquidity issues. It helped…maybe…until it didn’t and when it didn’t, the company got pounded in a big big way with a big big outstanding tax liability. In many respects, the bankruptcy filing saves the debtors in this regard: through a customary tax motion and with DIP proceeds, the debtors seek to pay the approximately $5.87mm in back taxes owed. Death and taxes, baby. Death and taxes. Or, more appropriate here, bankruptcy and taxes. But we digress.
Finally, this bit should be a cautionary tale for startups in the e-commerce subscription business:
Unfortunately, the complexity of the transaction, the uncertainty surrounding eCommerce subscription companies, the amount of the Debtors’ funded, trade, and tax debt, and the recent challenges of the Debtors’ operations due to liquidity shortfalls, made it difficult to entice investors. Breakwater was one of the parties interested, and it spent substantial time and incurred costs in mid-July 2019 doing diligence and working on preliminary deal documents. But its interest waned, and sale discussions ceased. (emphasis added)
Riiiiight. Why would that be? Because, like, nobody has figured out how to make these subscription businesses actually work?!? 🤔
It’s telling when the entity that knows you the best and has been through the ups and downs with you wants no part of you going forward. Godspeed, Loot Crate. May the loot be with you.
Jurisdiction: D. of Delaware (Judge Shannon)
Capital Structure: $15mm credit facility (Breakwater Credit Opportunities Fund LP)
Professionals:
Legal: Bryan Cave Leighton Paisner LLP (Brian Duedall, Leah Fiorenza McNeill, Andrew Schoulder, Khaled Tarazi) & Robinson & Cole LLP (Jamie Edmonson, Natalie Ramsey, Mark Fink)
Independent Directors: Alexandre Zyngier, Osman Khan
Financial Advisor/CRO: Portage Point Partners (Stuart Kaufman)
Investment Banker: FocalPoint Securities LLC
Chief Transformation Officer: Theseus Strategy Group (Mark Palmer)
Communications Consultant: Sitrick and Company
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Prepetition Convertible Noteholder & DIP Lender: Money Chest LLC
Legal: Bayard PA (Erin Fay)
May 22, 2019
On May 22nd 2019, Elk Petroleum Aneth, LLC and Resolute Aneth, LLC voluntarily filed petitions for Chapter 11 bankruptcy with a restructuring support agreement with their noteholders. The debtors already have a plan of reorganization on file. Per the disclosure statement, the debtors claim that the cause of its financial distress and eventual bankruptcy was due to:
Debtors’ ambitious endeavors to acquire multiple oil and gas assets outpaced the Debtors’ balance sheet, and in certain respects, performance of the operated and non-operated assets failed to meet initial expectations.
The debtors tried to alleviate uncertainty of future cash flows through hedging oil prices. Oil prices went up, however, not down, and the hedging was, with the benefit of 50/50 hindsight, clearly a bad mistake. Here is what they have to say about that:
Debtors were unable to capture the financial benefits of the improving commodity price environment due to their hedge obligations under the BP ISDA.
Whoops. The Debtors are to receive $10mm in Debtor-in-Possession financing by certain supporting noteholders. All in all, the cause of distress continues to align with the reason for other bankruptcy filings in O&G land we’ve touched on. High fixed costs, lower than expected revenues and impatient lenders.
Jurisdiction: District of Delaware (Judge Laurie Silverstein)
Pre-Petition Capital Structure:
Revolving Credit Facility: $14.5mm FO Revolver (AB Elk Holdings LLC)
First Lien Credit Facility: $114.0mm TL (HPS Investment Partners)
Unsecured Debt: $54.9mm TL (LIM Asia Special Situations Master Fund Limited, AB Elk Holdings, ACR Multi-Strategy Quality Return (MQR) Fund, A Series of Investment Management Series Trust II (“ACR”), Fulcrum Energy Capital Fund II, LLC)
Professionals:
Legal: Proposed Debtors & Debtors-in-Possession - Norton Rose Fulbright LLP (Gregory M. Wilkes, Kristian W. Gluck, Scott P. Drake, John N. Schwartz & Shivani Shah) Womble Bond Dickinson LLP (Matthew P. Ward & Morgan L. Patterson)
Financial Advisor: Ankura Consulting Group, LLC (Scott M. Pinsonnault), Opportune LLP
Investment Banker: Stephens Inc.
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
HPS Investment Partners: Provider of First Lien Term Loan
Certain unsecured loan holders:
AB Co-Invest Elk Holdings LLC
Certain secured debt holders:
AB Elk Holdings LLC
Riverstone Credit Partners - Direct, L.P.
Riverstone Credit Partners II - Direct LP
Riverstone Strategic Credit Partners S, L.P.
Riverstone Strategic Credit Partners A-2 AIV, L.P.
May 16, 2019
Hilltop Energy LLC, a Dallas-based E&P company with assets in Texas, has filed for bankruptcy in the District of Delaware, its second bankruptcy in four years. The company also filed its wholly-owned subsidiary, Hilltop Asset LLC (together, the “Debtors”).
The company’s predecessor, Cubic Energy Inc., filed for bankruptcy in late 2015, confirmed a prepackaged plan of reorganization in February 2016 and never emerged from bankruptcy (due to an ongoing adversary proceeding involving the chapter 11 debtors’ CEO and prior operator). Nevertheless, pursuant to the confirmed plan, secured noteholders swapped their notes for membership interests in the reorganized Cubic Energy and 14% first priority senior secured takeback paper due 2021. This is how these chapter 22 Debtors came to be owned by Anchorage Capital Group LLC and Corbin Opportunity Fund LP. General unsecured creditors and equity otherwise got wiped out.
This is the company’s capital structure:
$5mm Superpriority Notes + $30mm 14% First Priority Senior Secured Notes
$$18.5mm Superpriority PIK Notes + First Priority PIK Notes
Why is the company in bankruptcy? Let’s break this down into its component parts:
The Company has been cash flow negative every year since its formation following the chapter 11 cases of Cubic and its affiliates, as the revenue generated by producing wells is not sufficient to cover operating expenses and "workover" expenses, which is maintenance capex to keep the wells flowing.
Ugh. Here we go again. Flashback to the finding in this Delaware order from February 2016:
“The valuation analysis contained in the Disclosure Statement (x) is reasonable, persuasive, credible, and accurate as of the date such analysis or evidence was prepared, presented, or proffered, (y) utilizes reasonable and appropriate methodologies and assumptions and (z) has not been controverted by other evidence.”
Source: Cubic Energy Disclosure Statement
Ok, sure. The court finding may have been right — “as of the date.” But the assumptions proved to be dramatically askew. Take, for instance, the workover expense line-item. The company indicates an aggregate $600k hit there. What does the company have to say about this now?
Although production declines are expected in the oil and gas industry, the Debtors have faced several unanticipated challenges since emerging from the Cubic Chapter 11 Cases. Since emergence, over 20% of the Debtors’ producing gas wells have stopped producing due to downhole operational and/or technical issues. During this same time period, the Debtors also invested in production uplift projects—including an estimated $4 million on workover and/or recompletion projects for three wells—but the efforts to increase production from those wells were unsuccessful. The effects of these production problems on the Debtors’ revenue have been compounded by the weak natural gas market over the past few years.
That’s quite a miss. But it’s not the only one. Significantly, the company also notes:
The Debtors’ gross production has declined from approximately 10.5 million cubic feet per day ("mmcfd"), in March 2016 to roughly 5.0 mmcfd as of the date hereof. (emphasis added)
That is what it is but it begs the question: out of whose a$$ did the company pull the assumptions behind the company’s chapter 11 projections? Per the Disclosure Statement:
Daily Production of natural gas is forecast based upon anticipated January 2016 daily production of 15,500 mcf per day and calculated on a 1% month-over-month decline curve on existing drilled and producing wells.
So, uh, we’re not math experts, but a 1% decline month-over-month doesn’t get you to 10.5 mcf per day A MERE TWO MONTHS LATER. Which begs the question: were the projections actually accurate and credible “as of the date”? This certainly seems to indicate otherwise.
Consequently, the Debtors saw an impending maturity and were like, “oh sh*t”:
Although the Debtors have been able to service their debt obligations (primarily by paying interest in the form of additional notes), over time, the yield of the Debtors' producing oil and gas wells has been and may continue to be in constant decline.
This is top notch spin. Yeah, sure, we suppose issuing PIK debt is a form of debt “service” but c’mon. Really??
Consequently, the Debtors anticipate that they will generate less revenue and cash flow and, ultimately, be unable to satisfy their debt obligations before or at maturity.
Which is in 2021. So, here we are again: cue up the CHAPTER 22!!
The prepackaged plan will give 100% of the membership interests in the reorganized debtors and $1.47mm of cash to its senior secured noteholder, eliminating the $53mm of debt. The Debtors’ prepetition operator, Rivershore, will get 55% of the equity in the Hilltop Asset.
And we’re all left to wonder whether this is just a chapter 33 waiting in the wings. According to the new projections, that’s entirely up to Rivershore’s willingness to make an equity contribution in 2021:
Source: Chapter 22 Disclosure Statement
Jurisdiction: D of Delaware (Judge Sontchi)
Capital Structure: $5mm superpriority senior secured notes, $30mm first priority senior secured notes, PIK notes (Wilmington Trust Company NA).
Professionals:
Legal: Cole Schotz PC (Norman Pernick, J. Kate Stickles, Katherine Monica Devanney)
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Senior Secured Noteholder: J.P. Morgan Securities LLC and Lender: Chase Lincoln First Commercial Corporation
Legal: Landis Rath & Cobb LLP (Adam Landis, Richard Cobb, Holly Smith)
Company Operator: Rivershore Operating LLC
Legal: Gray Reed & McGraw LLP (Jason Brookner, Ryan Sears)
March 29, 2019
New York-based Sizmek Inc., an online advertising campaign management and distribution platform for advertisers, media agencies, and publishers, filed for bankruptcy in the Southern District of New York. The company indicates that it lost access to capital when Cerberus Business Finance LLC “…took control of the Company's bank accounts and sought to divert customer receivables…” and filed, in large part, to have access to its lenders’ cash collateral. Major creditors include players in the ad world, including Google Inc. ($GOOGL), Facebook Inc. ($FB) and AOL ($VZ)(yes, AOL is still, technically, a “player” in something).
The company is a portfolio company of private equity firm, Vector Capital, which took the company private — merely two years after its IPO — via a 2016 all-cash tender offer for the outstanding shares of common stock for $3.90/share, a 65% premium over the then-30-day weighted average trading price. Kirkland & Ellis LLP represented Vector in the transaction.* In 2017, the company made a $145mm acquisition of Rocket Fuel, another struggling adtech company. And then shortly thereafter, AdExchanger reported merely two years later that Vector was looking to divest the company.
We’ll have more on this once the docket is updated.
*Interestingly, after filing, Katten Muchin Rosenman LLP replaced Kirkland & Ellis LLP as debtors’ counsel in these cases.
Jurisdiction: S.D. of New York (Judge )
Capital Structure: $172mm funded debt
Professionals:
Legal: Kirkland & Ellis LLP (James Sprayragen, Stephen Hessler, Marc Kieselstein, Justin Bernbrock)
Replacement Legal: Katten Muchin Rosenman LLP (Steven Reisman, Cindi Giglio, Jerry Hall, Peter Siddiqui)
Board of Directors: Eugene Davis, Mark Grether, Tom Smith, Marc Heimowitz
Financial Advisor: FTI Consulting Inc.
Claims Agent: Stretto (*click on the link above for free docket access)
Other Parties in Interest:
Prepetition Secured Agent: Cerberus Business Finance LLC
Legal: Klee Tuchin Bogdanoff & Stern LLP (David Fidler, Whitman Holt, Michael Tuchin, Thomas Patterson)
Official Committee of Unsecured Creditors
Legal: Cooley LLP (Seth Van Aalten, Michael Klein, Robert Winning, Lauren Reichardt)
Financial Advisor: Province Inc. (Carol Cabello)
Updated 4/1/19 6:08 CT (#10)
March 10, 2019
In January's "What to Make of the Credit Cycle. Part 25. (Long Warning Signs)," we discussed the leveraged loan market and, among many other things, highlighted the then-recent reports that KKR was planning to cut its leveraged loan exposure.
— Guy LeBas (@lebas_janney) January 9, 2019
It seems pretty safe to say that this decision was partially informed by KKR's recent experience managing the $2b ex-Blackstone loan fund, Franklin Square Investment Corp. According to reporting by The Financial Times back in December, the Franklin Square fund (now FS-KKR Capital Corp) wrote down five loans between April and December last year. That must be lovely news for investors in the publicly-traded business development corporation ($FSK). Per the FT:
"Executives at Blackstone’s GSO credit arm approved the original loans. But KKR is now responsible for collecting the cash and assessing the loans’ value, and has taken a much gloomier view of their prospects. It has placed 28 percent of the portfolio on a list of deals that require close monitoring or are at risk of losing money, according to securities filings.
'KKR is a formidable group, but they probably weren’t anticipating the losses that came forth in the GSO book,' said Finian O’Shea, an analyst who covers private credit funds for Wells Fargo."
Strangely, this is obviously good news for professionals with restructuring experience:
"KKR’s credit division has been hiring restructuring specialists to beef up a dedicated team charged with salvaging value from troubled investments — a move that executives there say was planned when the FS-KKR portfolio began to deteriorate. KKR declined to comment, as did the fund’s co-manager, Franklin Square Investments."
Those specialists might get increasingly busy. FSK owned, as of December 31, 2018, first lien loans in Acosta Inc. (written down by the BDC's board to "fair value" from $19.2mm to $11.8mm), Charlotte Russe (yikes), CTI Foods (which was written down by $900k), and Z Gallerie (which had been written down from $31.9mm to $11.3mm). It also owns second lien paper in Belk Inc. (written down from $119.1mm to $94.7mm), CTI Foods, and Spencer Gifts LLC (written down from $30mm to $25.6mm). And subordinated debt in Sungard (written down by 80%). The BDC's equity holdings in Charlotte Russe and Nine West are now obviously worthless.
Lots of people are focused on BDCs given lending standards during this long bull run. If that portfolio is any indication, they should be.
*****
Speaking of Z Gallerie, it filed for bankruptcy last weekend in the District of Delaware. It is a specialty-niche furniture retailer that has 76 stores across select states in the US. And this is its second trip into bankruptcy in 10 years. While we think that's too large a spread to really be a "chapter 22," its an ignominious feat nonetheless.
So another retailer in bankruptcy. We're all getting bored of this. And we're also getting bored of private equity firms helping drive companies into the ground. In this instance, Brentwood Associates, a $2.4b Los Angeles-based private equity purchased a 70% stake in the company in 2014 (and took two seats on the company's board of directors). At the time, Brentwood had this to say about the transaction:*
"Z Gallerie is a differentiated retailer in the home furnishings market with a very unique merchandise assortment. We see a significant opportunity to accelerate growth of the current retail store base."
But…well...not so much. This statement by the company's CRO is a pretty damning assessment of Brentwood's claim that they "build[] category-defining businesss through sustained, accelerated growth”:
"Following a transaction in 2014 in which the Zeidens sold majority control of Z Gallerie to Brentwood Associates (“Brentwood”), Z Gallerie’s overall performance has declined significantly. The reasons for these declines are mostly self-imposed: (i) a store footprint expansion did not meet performance targets, (ii) the addition of the Atlanta distribution center disrupted operations and increased costs, and (iii) the failure to timely invest enough capital in their e-commerce platform limited its growth. These missteps were exacerbated by macroeconomic trends in the brick and mortar retail industry and lower housing starts. As a result, net revenue and EBITDA declined during fiscal year 2018. With Z Gallerie’s current cash balances of less than $2 million, and no availability under its secured credit facilities, the commencement of these chapter 11 cases became necessary to ensure access to capital going forward."
That's brutal. Something tells us that Z Gallerie is going to make a swift disappearance from Brentwood's website.
Anyway, the company includes all kinds of optimistic language in its bankruptcy filing papers about how, after it closes 17 stores and executes on its business plan, it will be poised for success. It intends to enhance its e-commerce (currently 20% of sales), revamp its Atlanta distribution center, launch social media campaigns (long Facebook), and better train its employees (long Toys R Us PTSD). The company claims numbers have already been on the upswing since the holidays, including February same-store sales up 5% YOY.
Current optimism notwithstanding, make no mistake: this is yet another instance of value destruction. This is the company's balance sheet (at least some of which dates back to 2014 and is related to Brentwood's purchase):
That $91mm senior secured term loan? Yeah, that's where KKR sits.
The company has a commitment for a $28mm DIP credit facility from KeyBank which will effectively rollup the senior secured revolving loans and provide $8mm in new money.
The company has already filed a "hot potato" plan of reorganization — in other words, the lenders will take the company if they have to, but they don't really want to, and so they're happy to pass it on — and have a banker actively trying to pass it on (Lazard Middle Market) — to some other schmuck who thinks they can give it a go. In other words, similar to the plan proposed earlier this year in the Shopko case, this plan provides for the equitization of the allowed secured revolver and term loan claims IF the company is otherwise unable to find a buyer to take it off their hands and pay down some of their loans with cash. The company filed bid procedures along with the plan; it does not have a stalking horse bidder lined up. The company estimates a 4 month timeline to complete its bankruptcy.
We can't imagine that KKR is stoked to own this company going forward. And we can only imagine what kind of projections the company will put forth to convince the court that this thing is actually feasible: the plan has a blank space for the exit facility so that exit structure is also apparently a work in progress.
In any event, given recent loan underwriting standards, KKR, and other BDCs, might want to get used to owning credits they never expected to.
*Brentwood was represented in the transaction by Kirkland & Ellis LLP, now counsel to the company. The company drops in a footnote that any potential claims against Brentwood and its two directors will be conducted by Klehr Harrison Harvey Branzburg LLP, a firm we’re sure was hired with absolutely zero input by Kirkland and/or the two Brentwood directors. Two independent directors are currently sitting on the board.
Jurisdiction: District of Delaware (Judge: Laurie S. Silverstein)
Capital Structure: see above
Professionals:
Legal: Kirkland & Ellis LLP (Joshua Sussberg, Justin Bernbrock, Joshua Altman, Emily Kehoe) & (local) Klehr Harrison Harvey Branzburg LLP (Dominic Pacetti, Michael Yurkewicz)
Financial Advisor: Berkeley Research Group LLC (Mark Weinsten)
Investment Banker: Lazard Middle Market LLC (Jason Cohen)
Claims Agent: Bankruptcy Management Solutions, Inc. d/b/a/ Stretto (*click on the link above for free docket access)
Other Parties in Interest:
DIP Agent: Keybank NA
Legal: Buchanan Ingersoll & Rooney PC (Mary Caloway, Mark Pfeiffer)
KKR Credit Advisors US LLC
Legal: Proskauer Rose LLP (Vincent Indelicato, Christ Theodoridis) & (local) Morris Nichols Arsht & Tunnell LLP (Robert Dehney, Matthew Talmo)
March 5, 2019
Three things immediately occurred to us when we saw the news that Diesel USA Inc. filed for bankruptcy in the District of Delaware:
That makes perfect sense — Jersey Shore went off the air a long time ago;
This is “The Mattress Firm Effect” in action — a retailer using a quick trip in bankruptcy to, on an expedited basis, flush out some burdensome leases and otherwise leave parties in interest unimpaired; and
More surprising than the company filing for bankruptcy is the law firm filing it for bankruptcy. Arent Fox LLP, while a fine firm for sure, isn’t exactly known for its debtor-side chops. Just saying.
The numbers around this one are…well…interesting. The company’s brick-and-mortar retail operations consist of 28 retail store locations in 11 states, comprised of 17 full-price retail stores and 11 factory outlet stores. Net sales were:
In 2014: $83mm for full-price retail and $42mm for outlet (Total: $125mm); and
In 2018: $38mm for full-price retail and $34.5mm for outlet (Total: $72.5mm).
In terms of percentages:
In 2014: brick and mortar represented 64% of net sales; and
In 2018: brick and mortar represented 70% of net sales.
We see a couple of significant problems here.
Despite the superlatives that the company’s CRO generously uses to describe the company, i.e., “cutting-edge,” and “cultural icon,” the numbers reflect a BRAND — let alone the business — in significant trouble. Sure, net sales are down generally, but the distribution has gotten wildly askew. The numbers reflect a bare reality: Diesel simply isn't a brand people will pay full price for anymore. This couldn’t be more stark. And that’s a big problem when the company is (or was) party to expensive height-of-the-real-estate-market leases in prime locations like Manhattan’s Fifth Avenue. Diesel, quite simply, isn’t “Fifth Avenue,” let alone “Madison Avenue.”* We’re not convinced the company is being realistic when it says that it has “retained a loyal customer base.” The numbers plainly say otherwise. Moreover, in an age where digital sales are increasingly more important, the business has become MORE dependent on brick-and-mortar as opposed to its wholesale and e-commerce channels.**
But don’t take our word for it. Here’s the company’s CRO:
…in 2015 prior management implemented a strategic initiative that was focused on repositioning Diesel stores and products in premium locations and with premium customers so as to place them side-by-side with other premium fashion brands across the retail, online, and wholesale platforms. Unfortunately, since its implementation, the Debtor’s net sales have significantly decreased while its losses have significantly increased.
The market has spoken: Diesel is, according to the market, simply not “premium.”
And by “market” we also mean wholesalers. The company opted to stop distributing its products to wholesale partners “that were deemed not to fit the premium image.” Now, we can only imagine that included discount retailers. Basically, SOME OF THE RETAILERS WHO HAVE PERFORMED THE BEST OVER THE LAST SEVERAL YEARS. But wait: it gets even worse: the wholesale customers the company DID retain pursued voluminous “chargebacks.” Per the company:
As is common in the retail industry, the Debtor provides certain customers with allowances for markdowns, returns, damages, discounts, and cooperative marketing programs (collectively, the “Chargebacks”). If the Debtor’s customers fail to sell the Debtor’s products, they generally have the right to return the goods at cost or issue Chargebacks, which are netted against the Debtor’s accounts receivable. Due to mounting Chargebacks from wholesale customers, the Debtor was forced to significantly reduce its wholesale activities in recent years.
Basically, nobody is buying this sh*t. Not in stores. Not in wholesale.
And, yet, the company holds premium leases:
The primary means of implementing the 2015 strategy was to reposition the Debtor’s full-price retail and outlet stores to “premium”, high-profile, and high-visibility locations, which was executed by opening certain new stores and relocating others to “premium” locations while closing others deemed not to fit the new strategic positioning model. The result was, despite the losses suffered in connection with the Fifth Avenue store, management’s negotiation and entry into several expensive, long-term leases for certain of the Debtor’s retail locations, such as the Debtor’s “Flagship” store on Madison Avenue, which do not expire by their terms until 2024-2026. Of course, it was then (and remains today) an inopportune time to make long-term commitments to costly retail leases and the significantly increased lease expenses have not been offset by increased sales, which, in fact, have dropped precipitously.
…numerous of the Debtor’s stores are producing heavy losses. The Debtor’s unprofitable stores combined to produce negative EBITDA of approximately $10.7 million in 2018, nearly all of which flowed from full-price retail stores. The Debtor’s profitable stores are not enough to off-set the losses, as the 17 fullprice stores combined to produce negative EBITDA of approximately $8.7 million in 2018.
Now, the company does indicate that certain (seemingly outlet) stores remain profitable, as do the wholesale and e-commerce operations.*** So, there’s that. New management is in place and their plan includes (a) using the BK to negotiate with landlords, shutter some locations, shutter and relocate others, opening new smaller stores and refit existing locations; (b) deploying influencer marketing generally and aiming more efforts towards females (and hoping and praying that athleisure — a term we didn’t see ONCE in the entire first day declaration — doesn’t continue to hold sway and steer people away from jeans, generally);**** (c) growing e-commerce; and (d) revitalizing the wholesale business with key selective wholesale partners. This plan is meant to take hold in the next three years and “will require significant capital investments.” (PETITION Note: cue the chapter 22 preparation). The company intends to effectuate its new business plan via a plan of reorganization pursuant to which it will reject certain executory contracts. All in, the company hopes to be confirmed in roughly 5 weeks. Aggressive! But, like Mattress Firm, trade creditors are “current” and there’s no debt otherwise, so the schedule isn’t entirely out of the realm of possibility.
But this is the part that REALLY gets us. If you’ve been reading PETITION long enough — particularly our “We Have a Feasibility Problem” series — you know by now that you ought to be AWFULLY SKEPTICAL of management team’s rosy projections. Per the company:
The Debtor’s projections indicate that the Reorganization Business Plan will return the Debtor to stand-alone profitability by 2021 assuming successful store closures through this Chapter 11 Case, thereby ensuring its ability to continue operating as a going-concern, saving over 300 jobs, and creating new ones through the new store openings.
Generally, we’ll take the under. Though, we have to say: at least they’re not audaciously projecting a miraculous profit in 2019.
How will they achieve all of these lofty goals? The company’s foreign parent will invest $36mm over the three-year period of the business plan because…well…why the hell not? Everyone loves a Hail Mary.
*The company suffered from an ill-advised and poorly-timed real estate spending spree. Between 2008 and 2015, right as brick-and-mortar really started to decline and e-commerce expand, the company expended $90mm on leases. As for Fifth Avenue, per the company, “the Debtor’s store on Fifth Avenue in Manhattan, which opened in 2008 and closed in 2014, by itself received approximately $18 million in capital expenditures during its tenure while generating substantial losses.”
**The company doesn’t appear to have put much into its e-commerce growth. While e-commerce now represents 12% of net sales, sales are only incrementally higher in absolute numbers (from $8mm in 2014 to $12mm in 2018). The wholesale channel, on the other hand, has gone in the opposite direction. Net sales went from $61mm (2014) to $19mm (2018) and now represent only 19% of net sales (down from 32%).
***It seems, though, that outlet stores, wholesale and e-commerce resulted in negative $2mm EBITDA if the math from the above quote is correct. Curious.
****Score for Facebook Inc. ($FB)!
Jurisdiction: D. of Delaware (Judge Walrath)
Professionals:
Legal: Arent Fox LLP (George Angelich, David Mayo, Phillip Khezri) & (local) Young Conaway Stargatt & Taylor LLP (Pauline Morgan, Kenneth Enos, Travis Buchanan)
Claims Agent: Bankruptcy Management Solutions d/b/a Stretto (*click on the link above for free docket access)
Other Parties in Interest: