The first half of 2023 has been a study in contrasts. After predicting deep economic contractions, economists are increasingly forecasting the American markets will avoid recession. But interest rates continue to climb, and global GDP is likely to slow. It’s perhaps no surprise, then, that the restructuring world has seen an increase in restructuring and liability management activity as companies grapple with economic uncertainty, increased financing costs, largely weakening demand, and a risk-off environment in global capital markets. In this article, which forms part of Cleary’s new Global Restructuring series, we will explore some of these challenges, and the ways companies are facing them.
The first half of 2023 has been a study in contrasts. After predicting deep economic contractions, economists are increasingly forecasting the American markets will avoid recession. But interest rates continue to climb, and global GDP is likely to slow. It’s perhaps no surprise, then, that the restructuring world has seen an increase in restructuring and liability management activity as companies grapple with economic uncertainty, increased financing costs, largely weakening demand, and a risk-off environment in global capital markets. In this article, which forms part of Cleary’s new Global Restructuring series, we will explore some of these challenges, and the ways companies are facing them.
Pressures Remain
In the first seven months of 2023, there have been more than 400 corporate bankruptcies in the U.S. involving firms with assets worth more than $2mn, outpacing all of 20221. That trend has been matched in the EU, where corporate bankruptcies are at an eight year high, and emerging markets, where experts have predicted increases in corporate debt defaults2. Indications from the Fed and other central banks suggest interest rates will likely remain higher, keeping pressure on businesses with near-term debt maturities3. Perhaps unsurprisingly, 44% of executives recently polled by AlixPartners say they expect middle-market companies to face the greatest risk of disruption from the cost and availability of capital over the next 12 months4.
So far, insolvencies have been somewhat limited to businesses facing company- or industry-specific challenges. However, we have seen an increasing number of filings caused by unsuccessful liability management transactions, or where existing lenders decide to equitize their debt.
Pressures Remain
In the first seven months of 2023, there have been more than 400 corporate bankruptcies in the U.S. involving firms with assets worth more than $2mn, outpacing all of 20221. That trend has been matched in the EU, where corporate bankruptcies are at an eight year high, and emerging markets, where experts have predicted increases in corporate debt defaults2. Indications from the Fed and other central banks suggest interest rates will likely remain higher, keeping pressure on businesses with near-term debt maturities3. Perhaps unsurprisingly, 44% of executives recently polled by AlixPartners say they expect middle-market companies to face the greatest risk of disruption from the cost and availability of capital over the next 12 months4.
So far, insolvencies have been somewhat limited to businesses facing company- or industry-specific challenges. However, we have seen an increasing number of filings caused by unsuccessful liability management transactions, or where existing lenders decide to equitize their debt.
Areas of Distress
We all know that, when it comes to withstanding economic headwinds, not all sectors are created equal. Although the current climate is likely to place downward pressure on all industries, we expect more restructuring activity in the following:
Real Estate
At the beginning of 2023, U.S. office vacancies remained 50% lower than pre-pandemic levels5. This has put increased stress on corporate mortgages, with more than $1.63bn worth of commercial mortgage-backed securities falling into delinquency between April and June 2023, according to Moody’s6.
Real estate bond prices also are being pressured7, which has cast doubt on the ability of some companies to weather the gathering storm amid lower revenues and liquidity. A prominent example is WeWork, with lenders reportedly engaging in preliminary talks on ways to shed expensive leases, including a possible bankruptcy filing8.
Elsewhere, soaring interest rates and falling house prices have hit developers. Sweden’s largest landlord SBB is engaged in asset sales and capital raise plans, amid creditor tensions9. Recent forecasts on the Nordic real estate markets suggest that real estate prices will remain pressured as housing investment falls sharply in the wake of increased construction costs, higher interest rates, and reduced demand10.
Retail
The long-beleaguered retail sector continues to be battered by the rising cost of capital, record levels of household debt and reduced consumer spending, and higher rent costs. This has pushed a number of companies into insolvency. Bed Bath & Beyond filed for a liquidating U.S. Chapter 11 plan in July after struggling to reduce lease and supply-chain related costs. Other major retailers undergoing restructuring have included David’s Bridal and discount home goods store, Tuesday Morning, while UK retailer Wilko saw its rescue deal collapse.
Automotive
The automotive sector has been hit by disruption caused by the growth of electric vehicles, historically thin margins, and supply constraints (despite an easing of bottlenecks this year)11. And, as recent events show, U.S. automakers are facing additional labor uncertainty, with more than 13,000 union workers striking in September 2023.
These challenges have already begun to affect the sector’s attempts to right-size, as evidenced by the difficultly had in placing bonds for car parts supplier Tenneco12. Carvana, an online auto retailer, also faced challenges trying to secure support for a deal to trim more than $1.3bn in debt. Other restructurings have included Wheel Pros, which recently overhauled its balance sheet, as well as Goodyear Tire which, after prodding by activist investor Elliott, has cut 1,200 jobs as part of a forthcoming “broader” plan to restructure13.
Healthcare
A sector once focused on pharmaceutical giants is now increasingly turning to smaller biotech companies and technology firms, which now make up more than one in 10 healthcare businesses14. In an inflationary environment which has driven up the cost of goods and led more consumers to defer non-essential care, healthcare organizations are facing a squeeze on their margins, alongside ongoing workforce challenges started by the pandemic.
Bankruptcies in healthcare have surged in recent months, with 40 filings in the first six months of 2023 nearly matching 2022 and doubling 202115. Recent examples have included Envision Healthcare, which filed for Chapter 11 in May 2023 and entered into a restructuring agreement with stakeholders, and digital health company Babylon Health, which announced in August that it would shut down its operations after struggling to secure funding16.
Real Estate
At the beginning of 2023, U.S. office vacancies remained 50% lower than pre-pandemic levels5. This has put increased stress on corporate mortgages, with more than $1.63bn worth of commercial mortgage-backed securities falling into delinquency between April and June 2023, according to Moody’s6.
Real estate bond prices also are being pressured7, which has cast doubt on the ability of some companies to weather the gathering storm amid lower revenues and liquidity. A prominent example is WeWork, with lenders reportedly engaging in preliminary talks on ways to shed expensive leases, including a possible bankruptcy filing8.
Elsewhere, soaring interest rates and falling house prices have hit developers. Sweden’s largest landlord SBB is engaged in asset sales and capital raise plans, amid creditor tensions9. Recent forecasts on the Nordic real estate markets suggest that real estate prices will remain pressured as housing investment falls sharply in the wake of increased construction costs, higher interest rates, and reduced demand10.
Retail
The long-beleaguered retail sector continues to be battered by the rising cost of capital, record levels of household debt and reduced consumer spending, and higher rent costs. This has pushed a number of companies into insolvency. Bed Bath & Beyond filed for a liquidating U.S. Chapter 11 plan in July after struggling to reduce lease and supply-chain related costs. Other major retailers undergoing restructuring have included David’s Bridal and discount home goods store, Tuesday Morning, while UK retailer Wilko saw its rescue deal collapse.
Automotive
The automotive sector has been hit by disruption caused by the growth of electric vehicles, historically thin margins, and supply constraints (despite an easing of bottlenecks this year)11. And, as recent events show, U.S. automakers are facing additional labor uncertainty, with more than 13,000 union workers striking in September 2023.
These challenges have already begun to affect the sector’s attempts to right-size, as evidenced by the difficultly had in placing bonds for car parts supplier Tenneco12. Carvana, an online auto retailer, also faced challenges trying to secure support for a deal to trim more than $1.3bn in debt. Other restructurings have included Wheel Pros, which recently overhauled its balance sheet, as well as Goodyear Tire which, after prodding by activist investor Elliott, has cut 1,200 jobs as part of a forthcoming “broader” plan to restructure13.
Healthcare
A sector once focused on pharmaceutical giants is now increasingly turning to smaller biotech companies and technology firms, which now make up more than one in 10 healthcare businesses14. In an inflationary environment which has driven up the cost of goods and led more consumers to defer non-essential care, healthcare organizations are facing a squeeze on their margins, alongside ongoing workforce challenges started by the pandemic.
Bankruptcies in healthcare have surged in recent months, with 40 filings in the first six months of 2023 nearly matching 2022 and doubling 202115. Recent examples have included Envision Healthcare, which filed for Chapter 11 in May 2023 and entered into a restructuring agreement with stakeholders, and digital health company Babylon Health, which announced in August that it would shut down its operations after struggling to secure funding16.
Dealing with Difficulties
With a number of borrowers facing upcoming maturities, companies are exploring their options with regards to liability management. In many cases, they are being pushed by private equity sponsors who are looking to extend runway for their portfolio companies and increase the option value of their out-of-the-money equity. These transactions take many forms. Companies with sufficient liquidity for operations, but which cannot absorb near-term debt maturities, opt for the “amend and extend” route, kicking out their existing debt maturities – examples include Vivion, Euroboden, and EG Group. Some companies have also needed to bring in new money, which we expect to be a cross‑sector trend. Cineworld, for example, raised $800mn in new equity capital as part of a court‑approved reorganization plan this year.
Where new money and/or flexible covenants permit, we have and will continue to see creative transactions where existing creditors effectively team up with companies and/or private equity sponsors to enhance their position, either with collateral, structural seniority and/or double dip features at the expense of other creditors. This so-called “creditor-on-creditor violence” has been a prominent feature of recent deals in the U.S. and increasingly in other markets. High profile examples in the U.S. have included retailer J.Crew, Serta Simmons, Envision and Incora (the latter three of which ultimately ended in a bankruptcy).
Courts in the U.S., particularly in Texas, have been receptive to these sorts of creditor enhancing transactions so long as they are consistent with the terms of the underlying debt documentation and not marred by bad-faith conduct.
Dealing with Difficulties
With a number of borrowers facing upcoming maturities, companies are exploring their options with regards to liability management. In many cases, they are being pushed by private equity sponsors who are looking to extend runway for their portfolio companies and increase the option value of their out-of-the-money equity. These transactions take many forms. Companies with sufficient liquidity for operations, but which cannot absorb near-term debt maturities, opt for the “amend and extend” route, kicking out their existing debt maturities – examples include Vivion, Euroboden, and EG Group. Some companies have also needed to bring in new money, which we expect to be a cross‑sector trend. Cineworld, for example, raised $800mn in new equity capital as part of a court‑approved reorganization plan this year.
Where new money and/or flexible covenants permit, we have and will continue to see creative transactions where existing creditors effectively team up with companies and/or private equity sponsors to enhance their position, either with collateral, structural seniority and/or double dip features at the expense of other creditors. This so-called “creditor-on-creditor violence” has been a prominent feature of recent deals in the U.S. and increasingly in other markets. High profile examples in the U.S. have included retailer J.Crew, Serta Simmons, Envision and Incora (the latter three of which ultimately ended in a bankruptcy).
Courts in the U.S., particularly in Texas, have been receptive to these sorts of creditor enhancing transactions so long as they are consistent with the terms of the underlying debt documentation and not marred by bad-faith conduct.
Although these solutions may provide the answer to some companies, others will simply hand over the keys to creditors, a path chosen by the previously KKR-owned Swedish mattress firm Hilding Anders as part of an English scheme of arrangement.
In the U.S., companies are also engaging with creditors to negotiate pre-packaged deals before filing for Chapter 11, dramatically reducing the time a company spends in bankruptcy and saving time and money in the process. This avenue also provides room for the company to obtain short-term financing with prepetition lenders as part of the reorganization process. Recent examples include opioid manufacturer Mallinckrodt (this prepackaged plan coming less than a year after its prior Chapter 11), as well as AeroCision and Novation, both of which were shepherded through the accelerated process with DIP financing from prepetition lenders who would receive certain equity in the reorganized companies.
Irrespective of the solutions sought by companies, what is certain is that the issues highlighted here will continue to drive an active restructuring market in the U.S. and beyond for the next 12-24 months. We look forward to keeping you updated on the latest in the restructuring markets and offering deeper dives into important trends and legal issues.
Although these solutions may provide the answer to some companies, others will simply hand over the keys to creditors, a path chosen by the previously KKR-owned Swedish mattress firm Hilding Anders as part of an English scheme of arrangement.
In the U.S., companies are also engaging with creditors to negotiate pre-packaged deals before filing for Chapter 11, dramatically reducing the time a company spends in bankruptcy and saving time and money in the process. This avenue also provides room for the company to obtain short-term financing with prepetition lenders as part of the reorganization process. Recent examples include opioid manufacturer Mallinckrodt (this prepackaged plan coming less than a year after its prior Chapter 11), as well as AeroCision and Novation, both of which were shepherded through the accelerated process with DIP financing from prepetition lenders who would receive certain equity in the reorganized companies.
Irrespective of the solutions sought by companies, what is certain is that the issues highlighted here will continue to drive an active restructuring market in the U.S. and beyond for the next 12-24 months. We look forward to keeping you updated on the latest in the restructuring markets and offering deeper dives into important trends and legal issues.
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