In any restructuring involving creditors, one of the hardest issues is value destruction.
A creditor's starting position will normally be getting their money back. While this does happen, often it is just not possible.
Value destruction in a business can occur for many reasons, including through:
- poor business decisions
- fraud (including related party transactions)
- external events such as civil unrest or Covid-19
- asset price deflation
- goodwill erosion
- changing market conditions.
One example of value destruction that comes to mind was where a company was lent USD 120 million by a group of banks even though they had only requested USD 90 million. So the company speculated on the stock market with the balance USD 30 million and lost it.
The banks were unhappy. Getting their money back was impossible. Arguably, the banks shared some blame in this instance as they had not monitored how the USD 30 million was used.
Where value destruction occurs, the prospect of creditors being made whole diminishes. A restructuring plan can be framed so that creditors participate in any recovery upside. Often, this is via a debt:equity swap or the issue of a convertible security interest.
How well a stakeholder fares in a restructuring may depend on their negotiating skills and whether the jurisdiction is more creditor or debtor friendly. Creditors are also subject to cram down under court approved restructurings.
It can be a challenge to get creditors to act realistically. It is why banks will often swap out the person who extended or managed the credit facility for a fresh face. This hopefully removes any emotional element from the restructuring.
December 2020
© PELEN 2020
The content of this publication is intended to provide a general overview on matters which may be of interest. It is not intended to be comprehensive. It does not constitute advice in relation to particular circumstances nor does it constitute the provision of legal services, legal advice or financial product advice.