Bed Bath & Beyond shares plummet after company warns of potential bankruptcy

Bed Bath & Beyond shares plummet after company warns of potential bankruptcy

PUBLISHED THU, JAN 5 

KEY POINTS

• Bed Bath & Beyond warned Thursday it’s running out of cash and is considering bankruptcy.
• The embattled home goods retailer is having trouble getting enough merchandise to fill its shelves and is drawing fewer customers to its stores and website.
• It anticipates a net loss of about $385.8 million for the third quarter, a nearly 40% jump in losses year over year.

In this article, Bed Bath & Beyond warned Thursday it’s running out of cash and is considering bankruptcy.

The retailer, citing worse-than-expected sales, issued a “going concern” warning that in the upcoming months it likely will not have the cash to cover expenses, such as lease agreements or payments to suppliers. Bed Bath said it is exploring financial options, such as restructuring, seeking additional capital or selling assets, in addition to a potential bankruptcy.

Shares of the company fell about 30% to close the day at $1.69 after Bed Bath issued the updates in a pair of financial filings. The stock earlier touched a 52-week low earlier in the day. Its market value has fallen to about $149 million as of Thursday’s close.

Still, CEO Sue Gove said the retailer is focused on rebuilding the business and making sure its brands, Bed Bath & Beyond, Buybuy Baby and Harmon, “remain destinations of choice for customers well into the future.”

Among its challenges, Bed Bath said it is having trouble getting enough merchandise to fill its shelves and is drawing fewer customers to its stores and website.

The retailer also said it wasn’t able to refinance a portion of its debt, less than a month after notifying investors it planned to borrow more in order to pay off chunks of existing obligations.

Bed Bath’s debt load has been weighing on the company. The retailer has nearly $1.2 billion in unsecured notes, which have maturity dates spread across 2024, 2034 and 2044. In recent quarters, Bed Bath has warned it’s been quickly burning through cash.

Bed Bath’s notes have all been trading below par, a sign of financial distress. 

Stalled turnaround

Bed Bath has been through an especially tumultuous stretch, with the departure of its CEO and other top executives, companywide layoffs, store closures and an overhaul of its merchandise strategy. As sales declined, its CEO Mark Tritton got pushed out in June. Gove, who stepped in as interim CEO, has assumed the role permanently.

She laid out a comeback strategy in late August. As part of the plan, she said the company would cut costs by shrinking its store footprint and workforce. Gove said it would add back more items from popular national brands, as it shifted away from an aggressive private label strategy. And she said it had secured more than $500 million in new financing to help steady the business.

The company said during its last earnings report it believed it had enough liquidity to forge ahead.

In a news release Thursday, Gove said recent sales results illustrate why that turnaround plan is so important.

“Transforming an organization of our size and scale requires time, and we anticipate that each coming quarter will build on our progress,” she said.

The company is also looking for a chief financial officer after executive Gustavo Arnal died by suicide in September.

Mounting losses

So far, Bed Bath has not seen its sales trends change. Net sales in the fiscal third quarter, which ended Nov. 26, are expected to be about $1.26 billion — a sharp drop from $1.88 billion in the year-ago period, the company said.

It anticipates a net loss of about $385.8 million for the third quarter, a nearly 40% jump in losses year over year. The quarterly losses include an approximately $100 million impairment charge, which was not specified.

The company is scheduled to deliver full quarterly results and hold an earnings call on Tuesday.

Signs of Bed Bath’s financial stress have shown up on store shelves, too. As the retailer’s cash hoards dwindle, some suppliers aren’t willing to ship large quantities of merchandise — or in some cases, any merchandise — to the company.

Gove said in a news release that reduced credit limits mean customers are seeing emptier shelves and less variety than they expect. She said the company is using the money it’s made over the holiday season to pay vendors and order more inventory.

“We have seen trends improve when in-stock levels have increased,” she said.

Bed Bath already has a history of strained relationships with key national brands, such as Dyson, Keurig and Cuisinart. During previous holiday seasons, Bed Bath didn’t have popular gift items, such as KitchenAid’s stand mixers. Meanwhile, those items were plentiful at competitors like Target.

https://www.cnbc.com/2023/01/05/bed-bath-beyond-shares-plummet-as-company-warns-of-deeper-financial-troubles.html  (video link)

Glossary:  

Bankruptcy—a legal state wherein a debtor (borrower) is temporarily protected from creditors (lenders); under Chapter 11 of the federal bankruptcy code, companies may continue to operate 

Chapter 11—a section of the federal bankruptcy code whereby a debtor is reorganized as a going concern rather than liquidated (see bankruptcy) 

Commercial paper—short-term loans from institutional investors to businesses 

Default—the status of a company that fails to make an interest or principal payment on a debt security on the required date 

Exchange offer—an offer made by a company to its security holders to exchange new, less-onerous securities for those outstanding 

Financial distress—the condition of a business experiencing a shortfall of cash to meet operating needs and scheduled debt-service requirements 

Hold-up value— benefits accruing to participants in a class of securities who are able to extract considerable nuisance value from the holders of other classes of securities 

Par—the face amount of a bond; the contractual amount of the bondholder’s claim 

Recapitalization—financial restructuring of a company whereby the company borrows against its assets and distributes the proceeds to shareholders 

Secured debt—debt backed by a security interest in specific assets 

Senior-debt security—security with the highest priority in the hierarchy of a company’s capital structure 

Shareholder’s (owner’s) equity—the residual after liabilities are subtracted from assets 

Subordinated-debt security - security with a secondary priority in the hierarchy of a company’s capital structure 

Working capital—current assets minus current liabilities 

Understanding financially distressed and bankrupt companies.

Financially distressed and bankrupt securities are analytically complex and often illiquid.

The reorganization process is both tedious and highly uncertain. 

Although the number of variables is high in any type of investing, the issues that must be considered when investing in the securities of financially distressed or bankrupt companies are greater in number and in complexity. 

In addition to comparing price to value as one would for any investment, investors in financially distressed securities must consider, among other things, 

• - the effect of financial distress on business results; 
• - the availability of cash to meet upcoming debt-service requirements; and 
• - likely restructuring alternatives, including a detailed understanding of the different classes of securities and financial claims outstanding and who owns them. 

Similarly, investors in bankrupt securities must develop a thorough understanding of the 

• -  reorganization process in general as well as 
• -  the specifics of each situation being analyzed.

Financially Distressed and Bankrupt Businesses

Companies get into financial trouble for at least one of three reasons: 

• - operating problems, 
• - legal problems, and/or 
• - financial problems. 

A serious business deterioration can cause continuing operating losses and ultimately financial distress.

Unusually severe legal problems caused tremendous financial uncertainty for these companies, leading them ultimately to seek bankruptcy court protection. 

Financial distress sometimes results almost entirely from the burdens of excessive debt; many of the junk-bond issuers of the 1980s shared this experience.

Financial distress is typically characterized by a shortfall of cash to meet operating needs and scheduled debt-service obligations. 

• -  When a company runs short of cash, its near-term liabilities, such as commercial paper or bank debt, may not be refinanceable at maturity. 
• -  Suppliers, fearing that they may not be paid, curtail or cease shipments or demand cash on delivery, exacerbating the debtor’s woes. 
• -  Customers dependent on an ongoing business relationship may stop buying. 
• -  Employees may abandon ship for more secure or less stressful jobs.

Effect of financial distress vary from company to company

Since the effect of financial distress on business results can vary from company to company, investors must exercise considerable caution in analyzing distressed securities. 

The operations of 

• capital-intensive businesses are, over the long run, relatively immune from financial distress, while 
• those that depend on public trust, like financial institutions, or on image, like retailers, may be damaged irreversibly. 

For some businesses the decline in operating results is limited to the period of financial distress. 

• -  After a successful exchange offer, an injection of fresh capital, or a bankruptcy reorganization, these businesses recover to their historic levels of profitability. 
• -  Others, however, remain shadows of their former selves.  

The capital structure of a business also affects the degree to which operations are impacted by financial distress. 

• -  For debtors with most or all of their obligations at a holding company one or more levels removed from the company’s primary assets, the impact of financial distress can be minimal. Overleveraged holding companies, for example, can file for bankruptcy protection while their viable subsidiaries continue to operate unimpaired; Texaco entered bankruptcy while most of its subsidiaries did not file for court protection. 
• -  Companies that incur debt at the operating-subsidiary level may face greater dislocations.

More often bankrupt enterprise continues in business under protection for some to return to financial health

The popular media image of a bankrupt company is a rusting hulk of a factory viewed from beyond a padlocked gate. Although this is sometimes the unfortunate reality, far more often the bankrupt enterprise continues in business under court protection from its creditors. 

Indeed, while there may be a need to rebuild damaged relationships, a company that files for bankruptcy has usually reached rock bottom and in many cases soon begins to recover. 

• -  As soon as new lenders can be assured of their senior creditor position, debtor-in-possession financing becomes available, providing cash to meet payroll, to restock depleted inventories, and to give confidence both to customers and suppliers. 
• - Since postpetition suppliers to the debtor have a senior claim to unsecured prepetition creditors, most suppliers renew shipments. 
• -  As restocked inventories and increased confidence stimulate business and as deferred maintenance and delayed capital expenditures are undertaken, results may begin to improve. 
• - Cash usually starts to build (for a number of reasons). 
• -  When necessary, new management can be attracted by the prospect of a stable and improving business situation and by the lure of low-priced stock or options in the reorganized company. 

While Chapter 11 is not a panacea, bankruptcy can provide a sheltered opportunity for some troubled businesses to return to financial health.

Cashflow and monthly operating costs are key

Wed, 8 Apr 2020

AFTER watching Prime Minister Tan Sri Muhyiddin Yassin’s announcement on the enhanced stimulus package for SMEs, my various chat groups came alive with all kinds of comments and opinions. In particular, one chat group which comprises experienced retired senior bankers, entrepreneurs and senior business journalists (all about the same age of 60 and above) stood out for its wisdom and sharp foresight.

When asked about potential SME casualties in this economic crisis, a senior banker commented, “TH... I went through four deep recessions/business cycles, ie, 1987,1997,2007/8, and now 2019/20. Same like you, and no wiser than my friends in this group.

"My gut feeling is that there will be more casualties this time around because the pandemic is world-wide. But like all recessions, the economy will turn around. It will not likely be a V-shaped recovery. We all have to tighten our belts, cut losses, and make sure we survive to enjoy the recovery.”

He is correct, as this recession is like no other. It is the first time that almost all economic activities have stopped in all the major countries in the world at the same time. There is a supply shock as the supply chain has been completely disrupted to a standstill.

There is demand shock as sales of most industries have fallen off the cliff to almost zero during lockdowns, and there is capital market shock as global stock markets crash.

Predicting the timing of the recovery is extremely difficult as we now have to deal with a virus pandemic with no solution in sight. Yes, a complete lockdown can flatten the curve but the risk of a re-occurrence of a new wave of infections is very high when the movement control order (MCO) is lifted. Economic activities have to resume, so we will have to practise some form of restricted MCO for the next six months.

And this affects business.

Sales will continue to be very soft as consumption drops due to lower consumer confidence, higher unemployment and reduced personal income, as widespread paycuts are implemented. As in most recessions, not all businesses will do badly. From experience, consumers tend to trade down, ie, purchase lower-priced alternatives to sustain their lifestyle. Hawker stalls will continue to do well, while higher-priced restaurants will suffer.

The logical conclusion for SME owners is to focus on surviving the next six months. Once the moratorium on your loans ends in October, will you still be standing with the ability to start repaying them? Will you have sufficient cash flow to participate in the economic recovery which will probably start in 2021?

Your survival strategy till October will have to focus on two key issues - 

• cash flow and 
• monthly operating costs.

Managing cash flow 

> Sufficient banking facilities - Since all your loans have been placed under a moratorium (meaning that you won’t need to repay them for the next six months) by your bank, you will need to check if the balance amount of banking facilities will allow you to trade normally.

If not, quickly apply to your bank for additional trading facilities. If you have spare cash, it might be wise to start paying down your loan when you can and not wait till the end of October.

> Cash reserves - You will need to cover March and April losses from your cash reserves. Reduce your losses for the next five months through aggressive cost-cutting. Most businesses will face delayed collections so cash reserves, if available, will be most useful to cover cash-flow deficits.

> Wage subsidy - Expect delays in your claims as the government will not be able to cope with the massive influx of applications. If approved, expect delayed payments of at least a month in your cash-flow planning. The wage subsidy is only for three months but you need to survive the next six months. So, plan accordingly.

> Corporate tax - For companies that will definitely declare a loss in 2020, my advice is to write in to the Inland Revenue Board informing them that you will declare zero profits for the financial year-end 2020, and suspend all tax payments for future projected profits. There is no point loaning the money back to the government when you need it more to survive.

> Deferred EPF payments - Just like bank loans, EPF payments have been deferred for six months when you will have to restructure your payments with the agreement of the EPF. Do not consider this as savings. It goes into accounts payable, interest-free of course.

> Rental subsidy - The announced tax deduction for rental rebates of 30% for three months from April to June will be effective in encouraging private-sector landlords to implement only if double deduction is allowed. In times of need, business partners should help one another. This is how the Chinese business community has been built over the last 100 years in Malaysia.

This is probably the best Bank Negara strategy to help preserve cash-flow liquidity for businesses to continue trading. By allowing the banking system to prevent classifying non-payments after three months as non-performing loans (NPLs), businesses can breathe and continue trading for another six months. Individuals too have more cash in hand to offset the paycuts that will definitely happen. By end-October, Bank Negara must allow another restructuring of existing loans by another six months to businesses who will benefit from the economic recovery.



Reduce monthly operating expenses.

The survival of your company depends on the amount of cash reserves you have to fund losses in March and April and also losses to be incurred from May to October. So, it is imperative that losses are kept to a minimum in the next five months.

Losses are calculated after deducting expenses from net sales. Net sales is gross sales less cost of sales. So, if net sales are down, expenses must come down proportionately, which in this case might not be possible for companies which suffer a big drop in sales.

While your sales revenue is dependent on external factors which are beyond your control, to a major extent, you are in control of your own expenses. For most service companies, payroll forms the biggest portion of the monthly expense. This is normally followed by rental or in some companies, advertising and promotion.

> Rental - At the maximum, expect your landlord to give you a rebate of 30% from April to June. This means that you can factor into your expenses a reduction of 15% in rental payments for the next six months.

> Advertising and promotion - It has been proven in the last recession that companies that continue advertising and conducting promotional activities will sell more than their competitors who stop completely. You are advised to work with your media suppliers to get more bang for the same budget. I am sure the media companies will support you, as they too need sales and have excess inventory to give away.

> Office expenses, allowances and claims - Cut all the unnecessary frills that you can ill-afford. Not much but every penny counts. Spend some on healthcare, though, to look after the team.

> Wages - I have stopped comparing with the Singapore government’s wage subsidy plan because our government does not have sufficient reserves.

With the latest proposed enhanced wage subsidy, it looks like SME owners must take matters into their own hands. Some companies will enjoy reasonable support of up to 30% subsidy on the wage expense, while some will only enjoy 5% to 10%.

Do remember that this is only for three months. Why the government is not exempting EPF payments for six months is beyond my understanding. This will only translate to a higher paycut across the board.

I have an investee company where the senior management has given the board of directors a revised sales forecast, with sales revenue dropping by 20% against the 2020 budget. But no corresponding reduction in expenses was given.

I have replied that this sales forecast might not be achievable and that we should start looking at reducing our expenses, mainly the payroll, which is a massive portion of it.

I would recommend a minimum 20% paycut across the board, freezing all intakes, probably retrenching a few positions deemed not necessary and linking the paycut to sales. If the sales for May to October drop by more than 50%, then the paycut will be more severe like 30%-40% for those who earn above RM4,000. However, if sales recover to its original budget then the salary will revert to its original amount.

Different companies will have to tailor different strategies, depending on the sales performance of the company up to October. For companies where payroll forms the bulk of expenses, detailed human resource requirements must be considered.

Where possible, the fixed salary cost should be changed to a variable cost, as a percentage of sales. This will help minimise losses to a great degree and at the same time save jobs and keep your key employees employed.

Some form of right-sizing is required now. Where possible, eliminate jobs to reduce 10% of your current payroll. Then undertake a paycut of 20% to make total savings of 30%. Then, submit for wage subsidies to the government if your company qualifies, which will probably save you another 5% to 10% of your existing payroll. With immediate savings of 35% to 40% from payroll deduction, you can take your chances with the remaining five months, of which April is already a complete loss for you.

Then my entrepreneur friend asked, “What if the employee does not accept a paycut?”. My answer: “Nobody can stop this employee from leaving the company on his own free will.”

At this moment of truth, SME owners’ only objective is to save the company from going bust. Minimise the losses so that you can stretch your reserves till October.

At the next moment of truth in October, SME owners will have to decide whether to continue or close their business. Don’t forget that you still have deferred EPF payments and the loans with interest to pay off. You can avoid bankruptcy if your business is still alive in October 2020.

From one battle-scarred entrepreneur to all the young entrepreneurs and SME owners out there: “Stay alive today to fight the next battle tomorrow. And you will win again.”

Views expressed here are the writer’s own.



https://www.thestar.com.my/business/business-news/2020/04/08/cash-flow-and-monthly-operating-costs-are-key

Investing in Financially Distressed and Bankrupt Securities: Issuer Responses to Financial Distress

There are three principal alternatives for an issuer of debt securities that encounters financial distress:

• continue to pay principal and interest when due, 
• offer to exchange new securities for securities currently outstanding, or 
• default and file for bankruptcy. 

A potential investor in distressed securities must consider each of these three possible scenarios before committing capital.

Financially troubled companies can try to survive outside bankruptcy by resorting to

• cost cutting, 
• asset sales, or 
• an infusion of outside capital. 

Such efforts can be successful, depending on the precise cause of the debtor's woes.  Short-term palliatives, however, can contribute to the erosion of long-term business value.

Efforts to conserve cash by cutting back inventory, stretching out accounts payable, or reducing salaries, for example, can get a business through a short-term crisis, but in the long run some of these measures may hurt relationships with customers, suppliers, and employees and result in a diminution of business value. 

A second option for a company is to make an exchange offer to replace outstanding debt and, where relevant, preferred stock with new securities. The possibility of an exchange offer adds a strategic dimension to investing in financially distressed securities absent from most passive investments. An exchange offer is an attempt by a financially distressed issuer to stave off bankruptcy by offering new, less-onerous securities in exchange for some or all of those outstanding.

An exchange offer can serve as an out-of-court plan of reorganization. Sometimes an offer is made to exchange for only one security; perhaps the issuer needs only to extend an upcoming maturity. Other times most or all outstanding debt securities and, where relevant, preferred stock are offered the opportunity to exchange.

Exchange offers are difficult to complete. Typically they involve persuading debt holders (and preferred stockholders, if any) to accept less than one dollar's worth of new securities for each current dollar of claim against the debtor. The greatest difficulty in consummating an exchange offer is that, unlike stockholders, bondholders cannot be compelled to do anything. Depending on state law, a vote of 50 percent or 67 percent of the stockholders of a company is sufficient to approve a merger; the minority is compelled to go along. However, the majority of a class of bondholders cannot force the minority to accept an exchange offer. This results in a free-rider problem since the value of "holding out" is typically greater than the value of going along with a restructuring.

Suppose Company X needs to cut its debt from $100 million to $75 million and offers bondholders an opportunity to exchange their bonds, currently trading at fifty cents on the dollar, for new bonds of equal seniority valued at seventy-five. This offer may be acceptable to each holder; individually they would be willing to forego the full value of their claims in order to avoid the uncertainty and the delay of bankruptcy proceedings as well as the loss of the time-value of their money. They may be concerned, however, that if they agree to exchange while others do not, they will have sacrificed 25 percent of the value owed them when others have held out for full value. Moreover, if they make the sacrifice and others do not, the debtor may not be sufficiently benefitted and could fail anyway. In that event those who exchanged would be rendered worse off than those who did not because, by holding a lower face amount of securities, they would have a smaller claim in bankruptcy.

An exchange offer is somewhat like the Prisoner's Dilemma. In this paradigm two prisoners, held incommunicado, are asked to confess to a crime. If neither confesses, they both go free. If both confess, they incur a severe punishment but not a lethal one. If one confesses and the other holds out, however, the holdout will be executed. If they could collude, both prisoners would hold out and go free; held in isolation, each fears that the other might confess.

The Prisoner's Dilemma is directly applicable to the bondholders in an exchange offer. Each might be willing to go along if he or she could be certain that other holders would also, but since no bondholder could be certain of others' cooperation, each has a financial incentive to hold out. Exchange offers often require a very high acceptance rate in order to mitigate this problem. If all bondholders could be brought together, there might be a chance to achieve voluntary cooperation. Historically, however, bondholders have been a disparate group, not always even identifiable by the debtor and hard to bring together for negotiations.

One way to overcome the free-rider problem is a technique known as a prepackaged bankruptcy, in which creditors agree to a plan of reorganization prior to the bankruptcy filing. Because negotiations have already been completed, a prepackaged bankruptcy is reasonably expected to be dispatched in months rather than years; the duration is not much greater than the time involved in completing an exchange offer. The advantage of a prepackaged bankruptcy over an exchange offer is that since a majority in number and two-thirds of the dollar amount of each creditor class must approve a bankruptcy plan, up to one-third of the dollar amount of a class can be compelled to go along with the other creditors, effectively eliminating the freerider problem. It seems likely that there will be increased use of the prepackaged bankruptcy in future efforts to restructure overleveraged companies in order to expedite the reorganization process, avoid the high administrative costs of a traditional Chapter 11 filing, and circumvent the free-rider problem.


If measures to keep the patient alive prove unsuccessful, the third option is to file for court protection under Chapter 11 of the federal bankruptcy code and attempt to reorganize the debtor with a more viable capital structure. This is typically a last resort, however, for there is still considerable stigma attached to bankruptcy.

Investing in Financially Distressed and Bankrupt Securities

Financially Distressed and Bankrupt Businesses 

Companies get into financial trouble for at least one of three reasons: 

• operating problems, 
• legal problems, and/or 
• financial problems. 

A serious business deterioration can cause continuing operating losses and ultimately financial distress. Unusually severe legal problems, such as those that plagued Johns Manville, Texaco, and A. H. Robins, caused tremendous financial uncertainty for these companies, leading them ultimately to seek bankruptcy court protection. Financial distress sometimes results almost entirely from the burdens of excessive debt; many of the junk-bond issuers of the 1980s shared this experience.



Financial distress is typically characterized by a shortfall of cash to meet operating needs and scheduled debt-service obligations.

• When a company runs short of cash, its near-term liabilities, such as commercial paper or bank debt, may not be refinanceable at maturity. 
• Suppliers, fearing that they may not be paid, curtail or cease shipments or demand cash on delivery, exacerbating the debtor's woes. 
• Customers dependent on an ongoing business relationship may stop buying. 
• Employees may abandon ship for more secure or less stressful jobs. 

Since the effect of financial distress on business results can vary from company to company, investors must exercise considerable caution in analyzing distressed securities.

• The operations of capital-intensive businesses are, over the long run, relatively immune from financial distress, while those that depend on public trust, like financial institutions, or on image, like retailers, may be damaged irreversibly. 
• For some businesses the decline in operating results is limited to the period of financial distress. 
• After a successful exchange offer, an injection of fresh capital, or a bankruptcy reorganization, these businesses recover to their historic levels of profitability. Others, however, remain shadows of their former selves. 

The capital structure of a business also affects the degree to which operations are impacted by financial distress.

• For debtors with most or all of their obligations at a holding company one or more levels removed from the company's primary assets, the impact of financial distress can be minimal. 
• Overleveraged holding companies, for example, can file for bankruptcy protection while their viable subsidiaries continue to operate unimpaired; Texaco entered bankruptcy while most of its subsidiaries did not file for court protection. 
• Companies that incur debt at the operating-subsidiary level may face greater dislocations. 

The popular media image of a bankrupt company is a rusting hulk of a factory viewed from beyond a padlocked gate.

• Although this is sometimes the unfortunate reality, far more often the bankrupt enterprise continues in business under court protection from its creditors. 
• Indeed, while there may be a need to rebuild damaged relationships, a company that files for bankruptcy has usually reached rock bottom and in many cases soon begins to recover. 
• As soon as new lenders can be assured of their senior creditor position, debtor-in-possession financing becomes available, providing cash to meet payroll, to restock depleted inventories, and to give confidence both to customers and suppliers. 
• Since postpetition suppliers to the debtor have a senior claim to unsecured prepetition creditors, most suppliers renew shipments. 
• As restocked inventories and increased confidence stimulate business and as deferred maintenance and delayed capital expenditures are undertaken, results may begin to improve. 
• Cash usually starts to build (for a number of reasons). 
• When necessary, new management can be attracted by the prospect of a stable and improving business situation and by the lure of low-priced stock or options in the reorganized company. 
• While Chapter 11 is not a panacea, bankruptcy can provide a sheltered opportunity for some troubled businesses to return to financial health.

Value Investor's Opportunities in Distressed Securities

Some of the risks and opportunities associated with investing in distressed securities. 


While regular value investing involves dealing with a wide number of unknowns, distressed securities represent particularly complex situations. 

Because most investors are unwilling to put in the time and effort involved with analysing such securities; for some, the opportunities are plentiful in this realm.



Three Reasons for financial distress

There are three reasons a company might run into financial distress: 

• operating issues, 
• legal issues, and/or 
• financial issues. 

Responses to financial distress and the implications to the investment

Issuers can respond to such situations in one of three ways: 

• continue to pay obligations, 
• attempt to convert obligations into less stringent obligations (e.g. get debt holders to accept preferred stock), or 
• default and declare bankruptcy. 

Investors must understand the implications to their investments as the above scenarios play out. 

Investors must also: 

• understand how other stakeholders will react to such situations, and 
• understand the power that various stakeholders have (for example, one third of a stakeholder groups constitutes a blocking group, and can use this to further that stakeholder group's interests).

Investing Opportunities in Bankruptcies

While bankruptcies are often complex and difficult to analyse.

Investors who know what they are doing usually have tremendous opportunities for returns with very little risk. 

At the same time, someone who doesn't know what he's doing risks losing his entire investment.

The process of analysing financially distressed securities starts at the balance sheet. 

• Assets should be valued so that the size of the pie can be estimated. 
• Obligations should then be subtracted from this amount. 
• This task is much more difficult than it appears, however. 
• For a distressed company, asset values are usually a moving target, and getting a handle on their value can be difficult. 
• Furthermore, off-balance sheet liabilities must also be considered.

In bankruptcies, mis-pricing can occur which allow the enterprising value investors the opportunity for excellent returns.

Read also:

• 
  
• Your investments using Mutual Funds or Money Managers
• Trading and portfolio management from a value investing point of view
• Value Investor's Opportunities in Distressed Securities
• Value Investing Opportunities in the Banking Sector
• Look at FUNDAMENTALS and POTENTIAL CATALYSTS when making investment decisions
• Where to look for Investment Opportunities
• Business value cannot be precisely determined. Make use of ranges of values
• Central elements to a Value Investing Philosophy
• The Philosophy of Value Investing and Why It Works
• Philosophy of value investing. Need to have clear strategies too
• How Wall Streets can create investment fads? The Junk Bond Market of mid-1980s
• Understanding these changes in the investment world allows investors to earn superior returns
• What's good for Wall Street is not necessarily good for investors
• Speculators, Investors and Market Fluctuations

Why do profitable firms go bust?

Ways to Limit Opportunity Cost - Most Important is holding Part of your Portfolio in Cash

The most important determinant of whether investors will incur opportunity cost is whether or not part of their portfolios is held in cash.  

• Maintaining moderate cash balances or owning securities that periodically throw off appreciable cash is likely to reduce the number of foregone opportunities. 

Investors can manage portfolio cash flow (defined as the cash flowing into a portfolio minus outflows) by giving preference to some kinds of investments over others.  Portfolio cash flow is greater for securities of shorter duration (weighted average life) than those of longer duration.  Portfolio cash flow is also enhanced by investments with catalysts for the partial or complete realization of underlying value.

• Equity investments in ongoing businesses typically throw off only minimal cash through payment of dividends.  
• The securities of companies in bankruptcy and liquidation, by contrast, can return considerable liquidity to a portfolio within a few years of purchase.  
• Risk-arbitrage investments typically have very short lives, usually turning back into cash, liquid securities, or both in a matter of weeks or months.

An added attraction of investing in risk-arbitrage situations, bankruptcies, and liquidations is that not only is one's initial investment returned to cash, one's profits are as well.

Another way to limit opportunity cost is through hedging. 

• A hedge is an investment that is expected to move in a direction opposite that of another holding so as to cushion any price decline. 
• If the hedge becomes valuable, it can be sold, providing funds to take advantage of newly created opportunities .

When to choose bankruptcy over debt management

By Steve Bucci

Dear Debt Adviser,
I have more debt than I can handle, and I am enrolled in a debt management plan. However, my expenses still amount to more than I bring home, and the debt management agent knew this going in. They calculated my debt payment as $344 with the program, and they never advised as to whether I should file for bankruptcy. Should I have filed for bankruptcy instead? If I file for Chapter 7, would I have to include all of my debt including personal loans? 
-- Shirley

Dear Shirley,
Slow down, Shirley! You have a lot going on here, so let's take things one at a time. First, you should not have been enrolled in a debt management plan if your income level does not allow for the monthly payment. Call the debt management agency as soon as possible, and ask to speak with a supervisor. Have them go over your case from start to finish. If a mistake as big as putting you in an unaffordable plan was made, other issues may have been overlooked as well. Find out if your payment can be lowered to what you can afford. Many agencies can offer a hardship debt management plan titled a "call to action," which lowers the interest rate on your credit card accounts to the lowest possible level. That may decrease your monthly payment enough to make the debt management plan work for you.

A reputable credit counseling agency will not enroll persons in a debt management plan unless the counselor has provided a spending plan that balances income and expenses. If you are having trouble meeting your monthly payment because you are not following the spending plan provided by the agency, then you have a decision to make. Either get back on track and spend only as the plan allows, or increase your income with a part-time job or other income source.

Second, as for bankruptcy advice, I'm not surprised the counselor didn't give you any. Only an attorney can give legal advice, and bankruptcy is a legal process. However, your counselor can and should go over the pros and cons of filing for bankruptcy and whether it would make sense for you to get a legal opinion for your particular situation.

Third, should you find you absolutely cannot afford to make your payment and want to explore bankruptcy, I recommend you contact an attorney who specializes in consumer bankruptcy. To qualify for a Chapter 7 filing (in which your debts are forgiven and not repaid) your income must be below the median income for your state.

You would typically include all your debt in a bankruptcy filing, but you can file a reaffirmation document for a particular debt(s) if you have a good reason for doing so. You and your attorney will have to sign the reaffirmation document that states you can afford to repay the debt and it will not be an undue hardship on your post-bankruptcy budget to continue to pay the debt you would like reaffirmed. Typically, unsecured debts would not be included in a reaffirmation, which would include personal loans. Most reaffirmations would be for car or mortgage loans. I'm not sure why you would want to reaffirm a personal loan, but if you can convince the court and your attorney that it would be in your best interest to do so, you could file a reaffirmation for the debt.

Lastly, you wanted to know if you should have filed instead of going on a debt management plan. My answer is that if the debt management plan can be made to work, you are usually better off. A bankruptcy can stay on your credit report for up to 10 years. A poor credit report may affect your ability to get a decent apartment, home or insurance for years to come. If you have no other way out, then you may have no choice but to file. Just be sure you consider all the potential ramifications before you decide.

Read more: When To Choose Bankruptcy Over Debt Management | Bankrate.com http://www.bankrate.com/finance/debt/choose-bankruptcy-over-debt-management.aspx#ixzz1hOvuZp5p

Rise in middle-class bankrupts in Australia

Rise in middle-class bankrupts
DANIELLA MILETIC
May 24, 2010
PROFESSIONALS and people on high incomes are declaring bankruptcy faster than ever in Australia, according to a study that reveals bankruptcies have risen by more than a third in the past four years.

The report contradicts the common belief that most people who file for bankruptcy are either chronically poor with no other options or the hugely wealthy avoiding debt obligations.

Bankruptcy is increasingly becoming a ''middle class phenomenon'' in Australia, says the report from the University of Melbourne Centre for Corporate Law and Securities Regulation.

Professor Ian Ramsay, an author of the report, which will be published later this year, said the number of personal bankruptcy filings jumped by 6 per cent in 2008-09, after rising steadily over the past four years. There were 27,520 in 2008-09, an increase of 34 per cent since 2004-05, when there were 20,501 cases of bankruptcy. In 2009 the number of personal insolvency cases (which mainly involves bankruptcy but includes debt agreements) shot up to 36,487.

In an earlier study Professor Ramsay and his co-author, Cameron Sim, found that since 1990 there had been a 300 per cent increase in the number of personal insolvencies in Australia, far exceeding population growth and indicating a strong middle-class presence.

In their recent report Personal Insolvency in Australia, they have focused on middle class bankruptcy profiles. ''There are so many urban myths about bankrupts … students skipping on credit card bills, wealthy hiding assets who prefer to go into bankruptcy,'' Professor Ramsay said. ''They exist but are not indicative of the typical bankrupt.

''One of the biggest findings was that more and more of the middle class are being claimed by bankruptcy and, to us, it seems a social problem that has escaped notice.''

Because the phenomenon of the middle class bankrupt is so unheard of, Professor Ramsay said that Australians were largely unaware of the social costs to those affected, which includes 

• tarnished credit ratings, 
• difficulty in the workforce, 
• cost to personal relationships and 
• the still-prevalent stigma attached to becoming bankrupt.

He said insolvents are increasingly from higher-status occupations, have higher levels of personal and household income, and have rising asset and property ownership levels.

A major cause of rises in bankruptcy among the middle class, said Professor Ramsay, has been due to unsustainable home loans. Excessive use of credit as a cause of bankruptcy has jumped significantly in recent years, he added.



Source: The Sydney Morning Herald

http://www.brisbanetimes.com.au/business/rise-in-middleclass-bankrupts-20100523-w41p.html

Be fearful of excessive leverage and debt

Property tycoon Simon Halabi bankrupt

Simon Halabi, the property tycoon who was estimated to be worth £3bn in 2007 and whose portfolio includes London HQs of JP Morgan, Aviva and Old Mutual, has been declared bankrupt.

By Graham Ruddick, City Reporter (Property)
Published: 12:13AM BST 02 Apr 2010

Simon Halabi and his wife Urte in 2006 Photo: Dominic O'Neill

The bankruptcy order was made in the High Court on Tuesday over a £56.3m loan he received from failed Icelandic bank Kaupthing Singer & Friedlander.

The nine offices make up a £1.15bn securitisation vehicle called White Tower 2006-3, and the fall in value caused a breach of loan to value covenants that prompted creditors to call in the debt.
Loan servicers were appointed to manage the portfolio and Ernst & Young were then called in as administrators on seven of the properties after HM Revenue & Customers issued a winding-up order over unpaid tax.

The financial health of Mr Halabi has so far been difficult to establish because his control of the properties was through a web of off-shore vehicles and family trusts.

He conducted most of his business through Buckingham Securities, his property advisory company, but this was put into liquidation last August following the collapse of commercial property values across the UK.
Mr Halabi first emerged on to the UK property scene in 2000 as a backer of Irvine Sellar's Shard development in London Bridge, but sold his stake in the project to Qatari investors two years ago.

The offices held by Mr Halabi's White Tower are being marketed for sale by property agents CBRE and Knight Frank. The agents hope an initial wave of eight sales will raise around £800m, with at least £200m then coming from the most valuable property in the portfolio, Aviva Tower.

http://www.telegraph.co.uk/finance/newsbysector/constructionandproperty/7546381/Property-tycoon-Simon-Halabi-bankrupt.html

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The Dark Secret of the Best-Performing Stocks

By Matt Koppenheffer 

March 25, 2010 | Comments (19)

At this point, I've seen this list of the past decade's top-performing stocks so many times that I can recite most of them from memory. But there's good reason to keep picking apart these top performers, because any one of them had the potential to turn a mediocre portfolio into a market-beater.

Here's a peek at 10 of the top 25 performing stocks of the past decade:

Company	Price Change Jan. 1, 2000, to Jan. 1, 2010
Bally Technologies	5,975%
XTO Energy (NYSE: XTO)	5,917%
Southwestern Energy	5,776%
Clean Harbors	4,669%
Deckers Outdoor	3,775%
Jos. A Bank Clothiers	3,196%
Range Resources	2,246%
FTI Consulting	2,022%
CarMax	1,997%
Terra Industries (NYSE: TRA)	1,960%

Source: Capital IQ, a Standard & Poor's company.

The list may look pretty familiar, but what you may not know is that these companies, and many of the decade's other top performers, share a dark secret.

Skeletons in the closet
If you're thinking I'm going to say that all of the companies above were small and that they beat the pants off of large, well-known stocks like Procter & Gamble (NYSE: PG) and Disney(NYSE: DIS) (which returned 10.7% and 10.3%, respectively), I'm not. It's true, but a number of my colleagues have already done a great job highlighting that very important aspect.

So what is the secret, then? Instead of simply telling you, let's take another look at the companies listed above and see if you can figure it out.

Company	Price Change Jan. 1, 1998, to Jan. 1, 2000	Return on Equity in 1999	Debt-to-Equity in Early 2000
Bally Technologies	(84.1%)	Unprofitable	Negative book value
XTO Energy	(45.5%)	19.5%	340.8%
Southwestern Energy	(49%)	5.3%	140.5%
Clean Harbors	(20%)	Unprofitable	230.2%
Deckers Outdoor	(65%)	5.3%	14.6%
JoS. A. Bank Clothiers	(44.2%)	3.2%	35.9%
Range Resources	(80.4%)	Unprofitable	417.5%
FTI Consulting	(60%)	2.9%	206.7%
CarMax	(74.3%)	Unprofitable	62.2%
Terra Industries	(88%)	Unprofitable	77.7%

Source: Capital IQ, a Standard & Poor's company.

Now what would you say ties all of these top-performing companies together?

If you said something to the tune of "they looked like terrible investments," then you get a gold star. Even a quick glance at that chart would send chills up the spine of most fundamental-oriented investors. Many of the companies were unprofitable, the ones that weren't produced lackluster returns on capital, and quite a few were swimming in debt.

Maybe it's not so surprising, then, that the market hated these stocks at the time. Those are some massive declines posted above, and bear in mind that this was over a period when the S&P jumped more than 50%.

Time to scrap everything we know?
Does this mean that we should forget about looking for high-quality companies trading at reasonable prices in favor of looking in the garbage bin? I don't think so.

The list of the decade's top-performing stocks isn't the only place where lousy returns on equity and high debt levels show up. You can also find numbers that look like that on a list of the decade's bankruptcies.

According to Capital IQ, there were 667 publicly traded companies with market caps above $10 million that filed for bankruptcy over the past decade. In 2000, only 22 of those companies could claim a return on equity above 15% and debt-to-equity below 50%. The rest of the companies that went belly up sported numbers that looked a lot like those in the chart above.

In other words, taking fliers on companies with ugly-looking financials could land you a massive winner, but it also gives you a big chance of taking hefty losses.

Swing at good pitches
By sticking to investing in reasonably capitalized and solidly profitable companies that are trading at attractive prices, we may miss out on some of the biggest winners, but we also vastly reduce the chances of sticking ourselves with clunkers headed toward bankruptcy.

And don't worry, there are still plenty of opportunities for big returns. With gains of 9,211% and 7,024%, respectively, Green Mountain Coffee Roasters (Nasdaq: GMCR) andHansen Natural (Nasdaq: HANS) were two of the very best performing stocks of the decade, and both would have fit a "high quality at a reasonable price" strategy back in 2000.

Of course, even companies that produce good-looking numbers can end up being poor investments. Ten years ago, the numbers all seemed to line up for American Capital(Nasdaq: ACAS) and Ethan Allen Interiors, but both stocks ended up getting clobbered.

That's why the team at the Motley Fool Hidden Gems newsletter not only focuses on companies that produce attractive financial returns, but also digs in to evaluate intangibles like competitive moat, growth opportunities, and management effectiveness. The team's research recently led it to buy shares of a fashion retailer for the newsletter's real-money portfolio.

http://www.fool.com/investing/small-cap/2010/03/25/the-dark-secret-of-the-best-performing-stocks.aspx