More retail bankruptcies likely, environment difficult for restructuring, expert panel says

By Jennifer Lanning Drey

Portland, Ore., April 17 - The current wave of bankruptcy filings that has taken many distressed retailers into Chapter 11 does not appear to be slowing down, a panel of retail restructuring professionals said Thursday during a web-based seminar focused on the distressed retail environment.

"There have been a decent amount of bankruptcies already but it's at least my sense that more will come," Adam C. Rogoff, partner in Cooley Godward Kronish LLP's bankruptcy and restructuring practice, said during the presentation, which was hosted by Turnaround Management Association of Chicago.

Rogoff believes the bankruptcy cycle is still in its early phases, possibly heading toward the middle.

"I don't think we're anywhere near the end," he said.

Consumer crisis

A series of factors have contributed to the heightened level of retail Chapter 11 filings, Michael A. O'Hara, president and managing member of Consensus Advisors LLC, a financial advisory firm focused on retail and consumer products companies, said during the presentation.

The obvious factor is the consumer crisis that has come along with the weakened economy and meltdown in the credit markets.

The tightening of credit has made it difficult for many consumers to get credit while at the same time has increased their mortgage loans and interest rates on credit cards. Beyond all that, consumers are being asked to pay more for everything from copper and platinum products to basic foods.

Meanwhile, consumers are also watching their assets - particularly their homes and their stocks - drop in value.

The combination of factors is keeping consumers out of the stores.

"People just aren't spending," Rogoff said.

Retailers are also not able to rely as heavily on their private label credit cards to generate business, as they too have been forced to tighten credit standards in order to be able to pass along the private label card receivables to other financial institutions.

Mass retailers, fewer LBOs

Other reasons for the current spike in retail bankruptcies, O'Hara said, include the continued vertical integration of mass retailers who have the scale to go directly to the factories, which allows them to keep their shelves stocked with competitively priced, in-demand products. Such retailers, which include Target and Wal-Mart, are taking marketshare from specialty retailers such as Bombay Co., which filed for bankruptcy in September 2007 and had liquidated its inventory by the end of that year.

Additionally, the leveraged buyouts of the past are gone, taking with them the possibility of gaining a funding infusion rather than making a bankruptcy filing.

Cash crisis

Other internal factors are also contributing to the rise. In particular, Rogoff said many specialty retailers rely on asset-backed loans, which require appraisals from independent parties. Recently, those appraisers aren't finding as much value in companies' assets as they did in the past.

"Nowadays, there's just so many things being liquidating, it's our view ... that there's so much for the liquidators to chase after and so few liquidators out there that the amount that a liquidator will pay will necessarily go down because there's less competition," Rogoff said.

The result is that the amounts the lenders will lend against are decreasing, forcing marginal retailers to face cash flow shortfalls caused by the hole in the borrowing base.

"We've got a time when lenders are retrenching, maybe for good reason, and we also have a tightening of liquidity in the general market," O'Hara said.

However, the panelists did agree that there is more junior capital available today than in the previous bankruptcy crisis, which began in 2000.

More challenging to restructure

With more junior capital available, bankruptcy cases have also become more complicated, Rogoff said.

When multiple investment arms are involved, lenders and creditors are less interested in the restructuring and simply want out, he said.

"You can't get the lenders to sit around the table and either restructure their debt or even take them out with somebody new," Rogoff said.

"The capital has just either dried up or just refuses to continue to stay in a retailer."

Distressed companies are also finding that others are less willing to work with them to restructure in the current environment, O'Hara said. The result is more "going-out-of-business" sales.

In the past, Chapter 11 retailers could generally get good credit, exit loans and deals with lenders to restructure debt. Additionally, trade creditors were more likely to take long-term debt or a significant haircut to keep a customer base, and landlords wanted to keep merchants in their spots.

"Today, they're not even getting that opportunity," O'Hara said. "A lot of these [companies] are truly D.O.A. once the filing happens."

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