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When is a distressed firm restructured?

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A restructuring operates primarily on the liabilities side of the debtor’s balance sheet by postponing liabilities and using the time gained to readjust the claims against the firm such that they better correspond to the firm’s expected cash flows.  Although a restructuring need not affect the assets side, the sale of assets is also common.

When the core of a distressed debtor’s underlying business is essentially economically sound and the difficulties that the debtor is experiencing are mainly due to balance sheet illiquidity, it usually makes sense to try to prevent bankruptcy by restructuring the debtor’s balance sheet.  Debtors will first attempt to discontinue loss-making activities, sell noncore business activities or raise new money in equity or in the form of new debt.  When these actions are either not possible or insufficient, a restructuring will require the cooperation of the creditors.

Bankruptcy Options
   1.   Adjustment of Debts
   2.   Reorganization
   3.   Liquidation

Negative development in a debtor’s financial performance is generally first indicated in management accounts or revised management projections, which commonly triggers a meeting of lenders and other stakeholders in anticipation of insufficient cash flow or a breach of financial covenants.  A group of lending banks will commonly commission a review of the company and its financial position and outlook, which is used as the basis of the restructuring of their facilities.  Such reviews are normally undertaken by a specialist Commercial advisory service.  The lending group will typically appoint a turnaround professional as Commercial restructuring officer (CRO) to manage the structuring and implementation of a restructuring of the processes, strategy and operations of a financially distressed firm.

A plan of reorganization (POR) is a formal written proposal that specifies how the productivity and financial viability of a restructuring distressed debtor can be restored and how the debtor intends to pay the creditors.  Insolvency law may require the plan to be submitted by the various stakeholders (i.e., debtor, creditors, administrator) and confirmed by the court following approval by the requisite number of creditors.  Upon emergence, a reorganized entity that meets certain criteria is required to adopt fresh start accounting, which calls for the entity to use fair value concepts to determine its reorganization value and establish a new basis for financial reporting.

Treatment under Plan of Reorganization (Example)
Security Offers Plan of Reorganization
Sr Unsecured Debt 2017 90% Notes + Preferred 70% Notes + Common
Sr Unsecured Debt 2018 85% Notes + Preferred 70% Notes + Common
Sr Unsecured Debt 2019 80% Notes + Preferred 70% Notes + Common
Sr Unsecured Debt 2020 or Later 70% Notes + Preferred 70% Notes + Common
Structurally Sr Unsecured Debt 100% Notes 70% Notes + Common
Subordinated Debt Preferred New Common + CVR
Junior Subordinated Debt Preferred New Common + CVR
Preferred Stock, Series A and B Not Solicited Contingent Value Rights
Common Stock Not Solicited No Recovery


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