Tariffs to the left of me, uncertainty to the right. To paraphrase the 1970’s rock song, an owner of a distressed business must feel stuck in the middle in a world of shifting governmental policies and an ever-changing economic landscape that alters the playing field on a weekly basis.
The automotive and health care industries have been especially susceptible to changes in tariff policy, supply chain issues and modifications in governmental policy and funding.
To make matters more challenging, the menu of restructuring options continues to expand. There is no longer a “one size fits all” approach to restructuring. In the good ol’ days, a secured lender would typically either foreclose on collateral or seek the appointment of a receiver, and a borrower would typically file a Chapter 11 bankruptcy petition to stave off collection action and buy some time to file a plan to restructure its debts. The bilateral approach is no longer viable for both debtors and creditors.
Below is an overview of common insolvency and restructuring non-bankruptcy options for distressed businesses:
- Out-of-Court Workout: The preferred method for resolving debtor-creditor issues is a consensual process where the debtor-creditor dispute stays out of the public record (i.e., no bankruptcy or receivership). Parties negotiate a resolution of their issues, with the threat of bankruptcy or litigation acting as the “hammer” in negotiations and forcing the parties to reach a deal to avoid the costs and harm to a business that potentially comes with a bankruptcy filing.
- Assignment for Benefit of Creditors (ABC): The debtor who is terminating operations and liquidating assigns the company’s assets to an independent party (i.e., an assignee) who, like a bankruptcy trustee, is charged with liquidating assets and distributing proceeds to creditors in accordance with established priorities. The assignee commences an action in state court to govern the process. The ABC process allows a business owner to select the liquidating agent to manage the wind down process.
- Receivership: This state or federal court proceeding is most often commenced by a secured lender seeking to appoint an independent professional to take possession of and ultimately sell the secured lender’s collateral. A receivership is generally less expensive than Chapter 11 and has less onerous reporting requirements for a distressed business. Further, a business owner who has personally guaranteed debt of the secured lender may consent to a receivership that will ensure that the secured lender gets paid. A business may negotiate with its lender to ensure certain company wind down expenses (i.e., accounting fees, final tax returns) are covered.
- Article 9 Sale: In an Article 9 sale, a secured creditor exercises its rights to foreclose upon assets of a borrower upon a default. While set up as an enforcement remedy, Article 9 sales often take place with the consent of the borrower through a consensual process, and as a part of a sale of assets as a going concern to an independent third-party buyer.
A small to middle-market business should keep the following points in mind as it seeks to navigate the current, uncertain landscape:
- Be proactive in communications: Because there is not a one-size-fits-all restructuring alternative for lenders or businesses, a borrower should be proactive in contacting a lender or creditors with respect to looming financial issues on the horizon to discuss restructuring options. Often, the business owner waits until it is too late (i.e., waiting until the lawsuit is filed or threatened is usually too late).
- Conserve cash: As Hemingway said, a business goes bankrupt gradually, then suddenly. The “suddenly” often arrives when a company runs out of money or lacks access to credit. Conserve cash by eliminating unnecessary expenses and becoming more selective in attracting new business. Now is not the time to try to hit the home run. The focus should be on hitting singles or just getting on base.
- Hire a financial advisor: A financial advisor experienced in assisting troubled businesses will identify issues and provide tips to place a business in the best position to succeed. Often, the perspective from a third party will pay dividends to a business owner who may be so focused on saving the business that he/she can’t see the forest through the trees.
