Juggling Wind Downs, Liquidations Outside of Court

Transcription

1 Juggling Wind Downs, Liquidations Outside of Court Avoiding Insolvency Proceedings Can Save Time, Money BY ALPESH AMIN & MARK J. WELCH, CTP, MANAGING DIRECTORS, MORRISANDERSON W inding down a company without an insolvency or bankruptcy proceeding involves key disciplines centered on negotiating and resolving difficult creditor concerns. Important components of such an approach are: formal wind-down plan 1 A 2 Open and direct communication with creditors bsolute transparency to the process 3 A 4 Clear economic incentives for creditors to support the plan The goal is to perform the wind down with minimal disruption and economic pain to all stakeholders, including customers, vendors, owners, and lenders. If the process is managed according to a formal wind-down plan characterized by transparency and consistent communications, then avoiding an involuntary bankruptcy filing is possible. A formal wind-down plan should include: 26 A weekly wind-down cash-flow budget A committed order/shipment plan and confirmed revenue from customers during the wind-down period Waterfall projection of claims paid from recoveries in priority order (using bankruptcy priority), with high and low recovery estimates A communication plan with all stakeholders and, when applicable, a company-organized informal creditor committee The primary benefits to winding down a business outside of a legal proceeding are reduced costs and increased speed, which almost always produce a greater net recovery for creditors. Bankruptcy and receivership proceedings involve many layers of professionals representing debtors, creditors, and lenders. Professional fees, court costs, and other administrative burdens can often exceed the benefits of an insolvency proceeding for a wind down and, therefore, handling a wind down outside of court is typically the most cost-beneficial path to maximizing recovery. Winding down a business outside a legal proceeding is also faster. The company can initiate a liquidation process immediately and

2 BANKRUPTCY & ITS ALTERNATIVES avoid burdensome bankruptcy reporting and the time-consuming nature of the bankruptcy process, which typically involves motions, notices, objections, hearings, and ultimately approval for most major decisions. Stakeholders also typically receive a larger economic recovery in a shorter amount of time in a out-of-court wind down. Customer Considerations Once a decision is made to wind down a company, the owner(s) must first consider the adverse effects on customers. The general rule is that if a company doesn t damage its customers operations, it will maximize the collection of accounts receivables and the sell-through of existing inventory to those same customers. Operations refer to a customer s ability to provide products or services to its own customers without interruption and without being forced to incur extraordinary costs to do so. In essence, the outof-court process allows a distressed company to quickly maximize the value of its most liquid asset, working capital. Often it can even charge customers a pricing premium or surcharge to allow them to avoid any disruption risk to their supply chains, while providing adequate time for them to re-source. Customers will fight this, but a company often has the leverage to extract this economic concession from them because they are not ready to re-source immediately. Contracts, blanket orders, and inprocess production need to be fulfilled or transitioned, and thus resolved, for each major customer. An immediate break in supply or an operational shutdown may cause customers to initiate legal action or, worse, immediately cease payment on accounts receivables. The company should proactively communicate and negotiate with all of its major customers and prepare them for the wind down of the operations. Negotiations should center on bulletproof guarantees of collections of accounts receivables and build-out of inventory for which new invoice payment risk is eliminated for the company and customers are required not only to pay for their own purchases, but also to assist in funding the wind down via surcharges. Continued production and fulfillment that benefit customers but cause the company to lose money make no sense for the company and its creditors. Because the company has no need to worry about ongoing relationships with its customers, it should pursue concessions aggressively. Potential concessions include customer purchases of raw materials, immediate payment of all new invoices and all open accounts receivable, wind-down surcharges to cover wind-down losses, agreed liability releases, cancellation of long-term agreements, and the sale of needed production equipment and manufacturing process intellectual property (IP). Customers should be expected to bargain for enough products to ensure a smooth re-sourcing to a new supplier, a timely return of all tooling, and the transfer of all IP needed to manufacture their products. Open, Direct Communications The creditor communications process should be proactive and open so that all parties hear the same message and salient facts and are all presented with associated economic considerations. Creditors include secured lenders, trade creditors, landlords, leaseholders, and employees. After deals are developed and completed, or at least nearly completed, with major customers, the company should approach unsecured creditors and leaseholders and start negotiations with them. Typically, a secured lender is brought into the plan to wind down the company early. The lender is generally supportive of an out-of-court attempt, subject to the company s adherence to a reasonable weekly budget, much like a debtor-in-possession (DIP) budget in a Chapter 11. Lenders usually hold the most leverage over a company, so lender negotiations should center on what the company can do to maximize recovery for the lenders as soon as possible. Larger companies often have secured lending groups, as well as leaseholders of equipment and real property. All lenders need to be treated in the same manner and receive communications regarding the formal wind-down plan. Real property leaseholders should be given, as close to possible, the same benefits to establish their unsecured claims as they would receive in a bankruptcy proceeding. The company should negotiate termination provisions of all contracts upfront and notify the leaseholders of its intentions to cooperatively turn back property and equipment after the wind down is complete, while making timely payments for use of the assets during the wind-down period. The company should also assist with the transition, sale, or disposal of all assets for leaseholders to the extent that the company is not required to expend money or allocate significant resources to do so. The next step is to handle employee matters and communication with trade creditors. Once employees learn of the wind down, trade creditors will find out soon after. Accordingly, the company should plan for a direct communication of the formal wind-down plan to its trade creditors and employees simultaneously. Written communication is the preferred method to the process. The communication message should not scare creditors, but rather should lay out the facts and benefits of the formal winddown plan. The written communication should include a brief history of how the company arrived at this point and the restructuring efforts that were made over time. It should clearly state the alternatives that were evaluated and continued on page 28 27

3 continued from page 27 explain that the out-of-court wind down is the most cost-effective and valuemaximizing option for all stakeholders, including the trade creditors. The primary purpose of this written communication is to buy time for the company to work through the beginning of the wind-down process and to initiate a transparent process. Once it is sent, the company has a short period of time to get the trade creditor body to go along with the out-of-court process. The company should assign a dedicated employee as the point person for all trade creditor communication and ensure that responses are timely and helpful. The company is not looking for trade creditors to agree with the out-of-court wind down, the wind-down plan, or the wind-down budget. It is simply looking for the trade creditors to acquiesce to the process and, most importantly, not to obstruct it. The two biggest obstruction risks are an involuntary bankruptcy filing and trade creditor demands to receive significant pay downs on old debt and a refusal to accept simple cash on delivery (COD) terms on new purchases. 28 MEMBER FDIC Trade Creditors Trade creditors are vital to the success of the formal wind-down plan, because the company undoubtedly will need to purchase new products and services while avoiding an involuntary filing by its trade creditors and new trade creditor collection lawsuits. There are most likely past due invoices, and trade creditors demanding past due payments can cause a disruption in fulfillment of products that will impact the timing and costs of the wind-down process. Trade creditors should be told that they will all be treated equally and that the company intends to treat unsecured creditors as they would be treated in a Chapter 11. That means that all new purchases will be COD, but there will be no pay-down of any old creditor balances. However, creditors also should be told that money will be placed in an escrow account each week to pay all unsecured creditors a guaranteed dividend at the conclusion of the wind down. Experience suggests that a 10-cent dividend is often a fair and realistic target. It s critical to promise the trade creditors a fair and open wind-down process managed by an objective outsider. Experience also shows that it is helpful to organize creditors into an informal committee and pay for the group s counsel and financial advisor. Establishing the committee and allowing the group to review and comment on the formal wind-down plan further assures creditors that the process will be managed fairly. The escrow account of funds set aside for the creditors dividend should be held by the committee s counsel. By organizing such a committee, it may at first seem that the company would be taking an unnecessary risk. In practice, however, such a committee helps the company centralize negotiations with trade creditors as opposed to conducting multiple oneoff talks with each trade creditor. Additionally, the committee and its counsel can be helpful in convincing dissenting creditors to cooperate. Fellow creditors are viewed as much more nonbiased than wind-down managers, even if the manager is an objective outsider. Trade creditors that are represented by a committee and given a line of communication into the

4 company and observe transparency in the process are more likely to buy into the formal wind-down plan. Ongoing communication should be conducted in a regular and formalized manner, using the committee and its counsel as a conduit to the entire creditor group. As part of the formal wind-down plan, the company should first reconcile all trade accounts, verify amounts past due, and schedule all required outstanding pending purchase orders. The risk remains that small-balance trade creditors who are outside the committee s reach could file an involuntary bankruptcy petition against the company during the wind-down process. This risk should be evaluated and special considerations may be called for, including paying off some smaller creditor balances, negotiating one-off payments directly with certain creditors, and requesting that the committee expand its membership to include problem trade creditors. The main question trade vendors will ask is, When will I get paid for my past due invoices? The correct response should be, Distribution will occur based on the committee s guidance and positive results of the wind-down process. Quoting expected returns or distribution amounts must be done very carefully, and creditor expectations must be conservatively managed. Of course, some creditors will suggest that the company should be in a Chapter 11. A stock answer to that suggestion used by the authors firm is: Let me understand this. You re telling me that you would prefer to bypass a fair and straightforward out-of-court wind-down process, where you get a guaranteed dividend in the near future, in favor of a litigious and lengthy Chapter 11 legal proceeding, where you find out in two or three years that you, as creditors, will get nothing? If trade creditors remain hostile because they don t trust that the wind down will be fair or they are simply angry at the company and its management, there is a real risk that some of them will petition the company into an involuntary bankruptcy. This is the primary risk of attempting an out-of-court wind down. However, a company that ends up in an involuntary bankruptcy is no worse off than if it had filed a voluntary Chapter 11 in the first place. Although certain wind downs need to be done in a Chapter 11 to protect directors and officers from personal liability (e.g., a WARN claim that cannot be paid), in most cases there is simply nothing to lose by taking a run at an out-of-court wind down. Employees For sizable companies, notifying employees of a wind down must comply with the federal Worker Adjustment and Retraining Notification Act (WARN), as well as any potentially more restrictive individual state laws. WARN requires notification to affected employees and government authorities 60 days prior to employee separation, or payment of 60 days wages and benefits in lieu of notice. WARN applies to a plant closing or a layoff of 100 or more employees in one geographic area. Similar to the process established for trade creditors, a formal communication plan for employees, whether or not the WARN Act is triggered, should be followed. The employee formal communication plan down should explain: continued on page 30 D EAL N O.3 When the going gets tough, the tough get resourceful. 10 DEALS IN 10 WEEKS C L I E N T: P U B L I C S A F E T Y S U P P L Y R E S O U R C E S I N D U S T R Y: D I S T R I B U T O R Public Safety Supply Resources, direct-markets and distributes public safety equipment such as emergency warning systems, duty gear, radios, and the like to police, fire, and EMS departments throughout the U.S., as well as to the people who work those jobs. Demand has flattened because municipalities large purchasers of these items have cut budgets. Public Safety sought to improve sales by building a robust e-commerce platform to reach out to individuals, and by focusing on high-margin uniform sales. We came to the rescue with a secured, revolving line of credit to fund these strategic moves. At AloStar, we grow the companies that grow America, especially the ones that help the people who look after us. See all ten deals at 10 DEALS IN 10 WEEKS.COM

5 30 continued from page 29 Termination timing and payment of wages for time worked Vacation pay WARN pay and severance, if applicable Health insurance plan continuance and COBRA availability, if applicable Plans to transition year-end reporting, including pension/401(k) reporting, W2 and 1099 forms, IRS form 5500, 941, and 940 filings, 401(k) termination, and Part 4041 pension standard termination Because the process will be conducted outside of an insolvency proceeding, the company should have a key employee retention plan (KERP) to facilitate cooperation and reduce early exits of key employees who are critical to performing the wind down cost effectively. Bonuses should be paid at the end of the process and conditioned on fulfillment of duties relating to the wind-down plan. However, bonus payments should be escrowed weekly to protect employees from an unexpected event, such as an involuntary bankruptcy filing, that might otherwise prevent them from collecting their accrued bonus money. Implementing the Plan After communication of and negotiation of the formal wind-down plan is complete with all stakeholders, the company can fully implement the plan. These negotiations with all stakeholders will typically occur over a maximum of two to four weeks. Because timing and cost control are critical to completing the plan, a detailed weekly budget and variance analysis must be maintained. This budget is used to communicate progress to all stakeholders and ensure critical benchmarks are attained. The first few weeks of the wind down are the most volatile period in the process. Customers, vendors, and lenders watch very closing for any disruption in the plan and to verify that the wind down is being managed fairly and in a transparent manner, with the actual financials tracking reasonably close to the budget. Essentially everyone is verifying that they are getting what they bargained for. Accordingly, any potential problems or material changes to the plan and budget must be communicated immediately to all stakeholders. Once the company gets past the initial phase of the wind down and establishes regular communications, the Non-Bankable? Have Equipment? We unlock existing equity and convert it into working capital. Utica Leaseco, LLC specializes in providing asset-based financial solutions in the form of sale/leaseback transactions for complete operations utilizing machinery and equipment as collateral. We rely only on the underlying collateral for our credit determinations. We have funded over $100 million. Can we help your clients? To learn more about how Utica Leaseco can be the key to solving your cash flow issues: Utica Leaseco Utica Road Utica, MI Info@UticaLeaseco.com remainder of the process becomes more straightforward with the continuing execution of the plan and reporting on its status to all stakeholders. The further along the company is in the process, the less likely creditors are to pursue an involuntary bankruptcy proceeding. Through the entire process, the company should be completely open and transparent. Establishing the creditor committee is only one part of transparency process. Reporting of financials and issues, allowing committee access to the facilities and financial records, communicating with management, and providing consistent updates to stakeholders all contribute to the company s efforts to maintain transparency. This may include immediately communicating any changes to the formal wind-down plan and material problems affecting the wind down. Doing so makes creditors feel included in the process and may even prompt them to help with or take ownership of corrective actions as a result. The fastest way to provoke an adverse action by creditors is to make them feel left out of the process. Economic Incentives At the beginning of the wind-down process, the savings in professional and administrative costs associated with a legal insolvency proceeding were touted as one of the primary benefits of the formal wind-down plan. This benefit should be shared with all creditors, including with unsecured creditors receiving a set-aside placed into an escrow account for a guaranteed dividend. Additional incentives going further must be communicated to maintain commitment of the creditors. In addition to incentives mentioned earlier, these might include: Facilitation of customers and suppliers to a re-sourcing supplier Company assistance with timely surrender or sale of leased assets Safekeeping and continual maintenance of leased assets Undisputed bailment and other securitization attachments Resolution of EPA and safety concerns of collateral Employee transition and assistance Creditors should view these and other incentives as beneficial because winning such concessions in a contentious bankruptcy or insolvency

6 proceeding can be costly and timeconsuming. Another incentive would be the possibility of the company agreeing to a quick sale of the business, despite the publicly announced wind down. Sometimes customers so strongly desire that a business remain open that they will assist in finding a going concern buyer. Despite the potential to sell the company, experience demonstrates that the wind down should continue until a buyer steps forward and agrees to a term sheet, posts a cash deposit, agrees to a fast time line, and secures funding to offset any continuing losses sustained by the business. Pushing forward with a wind down separates serious buyers from pretenders by forcing a sincere buyer to step forward quickly with a deal and ready cash, or the business wind down will be concluded. Alpesh Amin (top) and Mark J. Welch, CTP are managing directors at MorrisAnderson. Amin has more than 10 years of experience in corporate finance, restructuring, and banking, and has served in advisory capacities for both company management and creditors. Welch is a senior financial executive and management consultant who has led numerous turnaround, crisis management, recovery, and bankruptcy assignments, and has held interimmanagement positions as CFO, CRO, controller, and financial advisor with underperforming and bankrupt companies. He also has testified in state and federal courts as an expert witness, prepared fraud cases for the government, and testified in bankruptcy court. Amin can be reached at aamin@morrisanderson.com, and Welch can be reached at mwelch@morrisanderson.com. Repayment, Final Negotiations Once the wind down is complete, the company, with help from the committee, moves toward claims settlement. At minimum, the committee can distribute funds from the set-aside escrow. Depending on the success of the wind down, funds in excess of the secured creditor debt and a small estate cleanup reserve to complete the final wind down of the company s estate may be available for distribution as well. completing the wind down could trigger an insolvency proceeding or Chapter 7 bankruptcy that would undo much or all of the benefits obtained through the wind-down process. J The company must set aside funds for additional professional fees related to closing down the business, preparing final tax returns, and terminating all benefit plans. Books and records should be retained for three years in prepaid storage, and employee records should be destroyed. Claim payments should be spread out over a short time frame, and the company and committee should clearly document all amounts paid and remaining funds, while maintaining communications throughout the entire process. Some assets, such as real estate, trusts, bonds, minority investments, workman s compensation reserves, and annuities, may take years to liquidate. Smarter Solutions. Superior Results. With an expertise in working with financial firms specializing in receivables, liquidations, wind-downs, and work-outs, Hunter Warfield professionals work closely with you to address the most complex debt issues. Our team has the industry knowledge and experience to design solutions for any situation. Our best in class technology and best practice approach ensures our clients optimal recovery for even the most challenging assignments. The company must perform a costbenefit analysis to determine whether to retain personnel or consultants to administer the remaining estate or to turn it over to a liquidating trustee. Either way, the company must see the entire process to completion and must not abandon the remaining assets. Abandoning assets before For more information please contact Julie Kaplan at jkaplan@hunterwarfield.com Hunterwarfield.com 4620 Woodland Blvd, Tampa, FL