Restructuring COPY Flashcards

Pass technical questions

1
Q

What do you do in restructuring?

A

Restructuring bankers advise distressed companies - (i) those going bankrupt, (ii) in the midst of bankruptcy or (iii) getting out of bankruptcy - and help them change their capital structure to get out of bankruptcy, avoid it in the first place or assist with a sale of the company.

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2
Q

What are the two sides of a restructuring deal?

A

Debtor - advising the company. Like advising the sell-side in M&A, you’re advising the company that’s trying to sell or get out of the mess it’s in.

Creditor - buy-side. Advising buyers and lenders that are trying to take what they can from the company.

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3
Q

Why are you interested in restructuring?

A

Canned answer - gain a very specialized skill set and the work is more technical and interesting than other fields.

My answer - working with complicated capital structures and brokering agreements between conflicting constituencies presents a unique challenge, requiring strategic thinking and diplomacy. Legal background also helps.

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4
Q

How are you going to use your experience in restructuring for your future career goals?

A
  • Stay in RX IB

- Best background for distressed/special situations

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5
Q

How would a distressed company select its restructuring bankers?

A

Requires extremely specialized knowledge and relationships:

(i) experience doing similar deals and
(ii) relationships with the parties in interest.

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6
Q

Why would a company go bankrupt in the first place?

A
  1. Can’t meet its obligations / interest payments
  2. Creditors accelerate debt payments and force company into bankruptcy
  3. Acquisition goes poorly or company has written off the value of its assets steeply and needs extra capital to stay afloat
  4. Liquidity crunch - can’t afford to pay vendors/suppliers
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7
Q

What options are available to a distressed company that can’t meet debt obligations?

A
  1. Refinance and obtain fresh debt / equity
  2. Sell the company (as a whole or in pieces via asset sale
  3. Restructure financial obligations to lower interest payments / debt repayments, or issue debt with PIK interest to cut cash interest expense
  4. File for bankruptcy: obtain additional (DIP) financing, restructure obligations and be freed of onerous contracts.
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8
Q

What are the pros/cons of each option?

A
  1. Refinance:
    A. Pro - least disruptive, help revive confidence
    B. Con - difficult to attract investors to distressed firm
  2. Sale:
    A. Pro - SH could get some value, creditors less mad
    since funds are coming
    B. Con - may only get fire sale value
  3. Restructuring:
    A. Pro - quickly resolve problems w/o 3rd parties
    B. Con - lenders reluctant to increase exposure to firm;
    tensions b/w mgmt. / lenders
  4. Bankruptcy:
    A. Pro - could be best way to negotiate w lenders,
    reduce obligations and get add’l financing
    B. Con - significant disruption, lack of confidence from
    customers, prob. wipe out equity
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9
Q

What strategies do creditors have to recover their capital in a distressed situation?

A
  1. Lend additional capital / grant equity to company
  2. Conditional financing - only agree to invest if co. cuts expenses, stops losing money and agrees to other terms / covenants
  3. Sale - force company to hire banker and shop itself/assets
  4. Foreclosure - bank seizes collateral and forces a BR filing
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10
Q

How are restructuring deals different from other types of transactions?

A
  • More complex, involve more parties, require more specialized/technical skills and must follow Bankruptcy Code
  • Negotiations are bigger than bilateral
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11
Q

What’s the difference between Ch. 7 and Ch. 11?

A
  • Ch. 7 - liquidation. Sell off assets to repay claims.

- Ch. 11 - reorganization. Change terms/renegotiate.

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12
Q

What’s DIP financing and how is it used with distressed companies?

A

Money borrowed by debtor on a superpriority basis. For that and other reasons, lenders consider it safe.

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13
Q

How would you adjust the 3 F/S for a distressed company when you’re doing valuation or modeling work?

A
  • Adjust COGS for higher vendor costs (no trust from suppliers)
  • Add back non-recurring legal/professional fees from process
  • Add back excess lease expenses (lack of trust) to EBIT and excess salaries (private cos. saving on taxes)
  • Adjust working capital for A/R unlikely to turn into cash, overvalued/insufficient inventory and insufficient A/P
  • Capex is often off: too high can cause distress; too low could be a consequence of distress
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14
Q

Would those adjustments differ for public companies vs. private companies?

A

Excess salaries - harder to manipulate in a public firm

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15
Q

If the market value of a distressed company’s debt exceeds its assets, what happens to its equity?

A
  • Book equity - turns negative (A = L +E, L > A)

- Market cap - remains positive

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16
Q

In a bankruptcy, what is the order of claims on a company’s assets?

A
  1. Administrative claims
  2. DIP lenders
  3. Secured creditors (RCFs + TLs)
  4. Unsecured creditors (HY)
  5. Sub debt investors (sub. HY)
  6. Mezzanine investors (converts, pref., PIK)
  7. Common equity
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17
Q

How do you measure the cost of debt for a company if it is too distressed to issue additional debt?

A

Look at yields of bonds / CDS spreads of comparable companies. Could also current yields on firm’s existing debt, but only if it’s liquid.

18
Q

How would valuation change for a distressed company?

A
  • Comps (public co., transaction): use lower range, and use acct. adjustments. May need revenue multiples if EBIT/EBITDA/EPS-negative.
  • DCF: lower projections since need a turnaround period.
  • Do liquidation valuation, assuming company’s assets will be sold to repay creditors.
  • May need to do valuations on (i) assets-only and (ii) current liabilities-assumed bases.
19
Q

How would a DCF analysis be different in a distressed scenario?

A
  • More value comes from TV, given CF-negative turnaround period
  • Sensitivity on hitting/missing earnings forecast
  • Add operating distress premium to WACC
20
Q

If you’re selling a distressed company, how would the M&A process differ from for a healthy company?

A
  1. Timing is quicker - sell or go bankrupt
  2. May producer fewer upfront marketing materials (i.e., Info Memo, Mgmt. Presentations) in the interest of speed
  3. Creditors often initiate the process
  4. Distressed sales can’t “fail” - result in a sale, bankruptcy or a restructuring.
21
Q

What are the differences between stock purchases and asset purchases, and which would buyers/sellers in distressed sales prefer?

A
  • Stock purchase - acq. 100% of shares, assets and liabilities. Used for large/public/healthy companies.
  • Asset purchase - only acq. certain assets and assume certain liabilities. Used for divestitures, distressed M&A and smaller private companies.

Buyers prefer asset purchases to avoid assumption of unknown liabilities (+ tax benefits). Distressed sellers prefer stock purchases to rid itself of liabilities and avoid heftier taxes.

22
Q

Normally in a sell-side M&A process, you always want to have multiple bidders to increase competition. Is there any reason they’d be especially important in a distressed sale?

A

YES - in a distressed sale you have almost no negotiating leverage (distressed co.), so competition is best way to improve sale price.

23
Q

Sometimes a distressed sale doesn’t end in a conventional stock/asset purchase - what are some other possible outcomes?

A
  • Foreclosure
  • General assignment (faster alt. to bankruptcy)
  • Section 363 asset sale
  • Ch. 11
  • Ch. 7
24
Q

Normally M&A processes are kept confidential - is there any reason why a distressed company would want to announce the involvement of a banker in a sale process?

A

YES - to increase bidding/competition and drive a higher purchase price.

25
Q

Are shareholders likely to receive any compensation in a distressed sale or bankruptcy?

A

It depends, but probably not. If debts > assets not much to get, esp. in liquidation.

26
Q

Let’s say a company wants to sell itself or simply restructure its obligations - why might it be forced into a Ch. 11 bankruptcy?

A

Oftentimes, aggressive creditors - if they won’t agree to the restructuring or can’t finalize a sale outside court, they may force a company into Ch. 11 by accelerating debt payments.

27
Q

Sometimes distressed companies “buy back” their debt at a discount (i.e., 50%). What’s the motivation for doing this and how does it work accounting-wise?

A
  • Rationale: use excess csah to buy back debt cheaply and sharply reduce go-forwaard interest expense / obligations. Works b/c foregone interest on cash < interest rate on debt, so net interest expense falls.
  • Accounting: B/S cash and B/S debt decrease in equal amounts
28
Q

What kind of companies would most likely enact debt buy-backs?

A

Over-levered companies that were acquired by PE sponsors in LBOs, now facing burdensome interest payments and have excess cash.

29
Q

Why might a creditor have to take a loss on the debt it loaned to a distressed company?

A

Junior (esp. unsecured) creditors may fall below the line - not enough to repay in full.

30
Q

What is the end goal of a given financial restructuring?

A

Not to change the amount of debt outstanding in and of itself, but to change the terms thereof (e.g., interest payments, monthly/quarterly principal repayment requirements and the covenants).

31
Q

What’s the difference between a Distressed M&A deal and a Restructuring deal?

A

Restructuring is one possible outcome of a distressed M&A deal. Company can be distressed for many reasons, but solution isn’t always to restructure its debts - may declare bankruptcy, may liquidate and sell assets or it may sell 100% of itself.

32
Q

What’s the difference between acquiring just the assets of a company and acquiring it on a “current liabilities assumed” basis?

A
  • Assets = JUST assets.
  • CL assumed - must make adjustments b/c distressed working capital can be extremely skewed. “Owed expenses” like A/P and accrued expenses are often much higher than they would be for a healthy company, so you have to subtract the difference if assuming CLs.
33
Q

How could a decline in a company’s share price cause it to go bankrupt?

A

TRICK QUESTION. As a result of share price drop, customers, vendors, suppliers and lenders may be reluctant to deal with the distressed company, causing revenues to fall and A/P and accrued expenses to climb very high. This could cause failure, but not share price.

34
Q

What happens to A/P days with a distressed company?

A

They get very high b/c can’t pay vendors / suppliers

35
Q

Let’s say a distressed company wants to raise debt or equity to fix its financial problems rather than selling or declaring bankruptcy. Why might it not be able to do this?

A
  • Debt: if company is too small or investors don’t believe its turnaround plan is credible, they’ll refuse to lend
  • Equity: same, but worse, since lower priority. Further, getting “enough” equity to turnaround could mean selling ~100% of firm b/c of depressed market cap.
36
Q

Will the adjusted EBITDA of a distressed company be higher or lower than the value you would get from its F/S?

A

Generally higher, b/c adjusting for higher-than-normal salaries, one-time legal and restructuring charges, etc.

37
Q

Would you use levered free cash flow for a distressed company in a DCF since it might be encumbered with debt?

A

NO - want to analyze unlevered CF precisely b/c they might have higher-than-normal debt expenses. “True earnings power.”

38
Q

Let’s say we’re doing a liquidation valuation for a distressed company. Why can’t we just use the shareholders’ equity number for its value? Isn’t that equal to assets minus liabilities?

A

NO - assets will prob. be sold for fire sale value, leading to realization of less than the S/E account.

39
Q

What kind of recovery can you expect for different assets in a Liquidation Valuation?

A

A. Cash - ~100%, since highly liquid
B. Investments - varies by liquidity; close to 100% for those like cash and less for equity in other firms.
C. A/R - less than cash, since customers may not pay a distressed company.
D. Inventory - less than cash or A/R b/c useless minimal utility to another company.
E. PP&E - similar to cash for land and buildings; less for equipment
F. Intangibles - 0%. No one cares about goodwill or brand of distressed firm.

40
Q

How would an LBO model for a distressed company be different?

A

Purpose of LBO would be to assess how quickly company could repay its debts and IRR for new debt/equity investors, not determine sponsor’s IRR.

Returns probably lower since distressed.

Structurally, LBO more likely to take form of an asset purchase than a stock purchase.