Holding out for a bankruptcy cram down? Think again

In an insightful article published on January 25, 2024, Kenneth A. Rosen, chair emeritus of the bankruptcy and restructuring department at Lowenstein Sandler, presents a compelling argument for C-suite executives to meticulously evaluate the genuine costs of bankruptcy before opting for Chapter 11. Rosen underscores that, regardless of the specific circumstances leading to financial distress, Chapter 11 inevitably results in the devaluation of a company unless extraordinary conditions are at play.

Against the backdrop of an increasing number of companies seeking bankruptcy protection in the previous year, Rosen advises finance leaders to reassess the long-term sustainability of a company as a going concern. The critical decision between settling with creditors out of court or initiating a Chapter 11 case demands a thorough examination of the indirect soft costs and benefits associated with each option.

Rosen asserts that the prolonged duration a company takes to reorganize and restructure correlates directly with the extent of value loss. Lenders become less tolerant, customers begin seeking alternative sources, sales personnel may contemplate departure, and the management's attention is diverted from the core business to address the prevailing distress.

At the heart of the executive decision-making process lies the pivotal question: what measures are necessary to not only preserve but also enhance the company's value in the foreseeable future?

The article distinguishes between the direct costs of bankruptcy, such as professional fees and increased borrowing costs, which are quantifiable, and the equally detrimental indirect costs that are challenging to measure. These indirect costs encompass credit downgrades, the erosion of customer trust, strain on supplier relationships, and a reduction in decision-making autonomy.

Furthermore, Rosen delves into the nuanced scenario of a "cram down" reorganization, wherein a court sanctions a bankruptcy reorganization without the consent of certain creditors, offering the tantalizing prospect of a substantial reduction in debt for the filers.

Executives are urged to engage in a comprehensive analysis of these multifaceted factors before arriving at decisions related to bankruptcy. By doing so, they can ensure a nuanced understanding of the intricate trade-offs and implications associated with each potential course of action, thereby fostering a more informed and strategic approach to navigating financial distress.