Restructuring

This deskWhat it does, who is in the room, and how the transactions relate.

The desk at a glance

Restructuring is what happens when a company cannot pay what it owes on the terms it agreed. The work is a negotiation between people who have already lost something about who loses how much more, conducted under a clock and, eventually, in front of a judge.

The first thing to get right, because almost everybody gets it wrong: companies fail when they run out of cash, not when the balance sheet says they are insolvent. A business worth more than its debts can fail if it cannot pay this month; a deeply insolvent one with a committed facility can continue for years. The two questions to ask in order are how long the cash lasts and when the next maturity falls.

The second: position beats size. Two creditors owed identical amounts can receive completely different recoveries depending on which entity they lent to and what secures them. That position was fixed years earlier, in a document nobody was reading closely at the time, and it is now the whole argument.

Who does what

• The company's adviser works for the company, which in this situation is not the same as working for its shareholders — and the moment it stops being the same is a question of law, not of preference.
• The creditor committees — usually more than one, because senior and junior creditors want opposite outcomes. Each appoints its own advisers, and each set of advisers is paid by the company.
• The distressed funds that bought the debt at a discount. Their economics are entirely different from a bank that lent at par, and so is their willingness to take equity instead of cash — see the debt-for-equity swap.
• The new-money providers — whoever funds the next months, usually with priority over everybody else. This is the position everyone fights for, and the fight is often not about value but about who is allowed to hold it. See debtor-in-possession financing.
• The court, which does not decide who is right about value but does decide whether the process was fair, whether classes were properly constituted and whether dissenters are worse off than in the alternative.

What decides whether this desk is busy

Six mechanisms, each with the direction it pushes in and the thing to watch. None of them is a forecast, and none is a number that goes out of date.

The calendar this business keeps

Every desk has a rhythm its regulars plan around and a newcomer discovers by being surprised by it.

How this desk reaches the rest of the site

The deals and the instruments are one subject. These are the corridors — each one a mechanism, not a resemblance.

How the work is actually doneWhat the client pays for, the documents in order, and the arithmetic.

What the client is actually paying for

Restructuring advisers are usually paid a monthly fee plus a completion fee, and the monthly fee matters far more here than on any other desk — these processes run for months or years, and a fee structure loaded onto completion would pay an adviser to reach any deal rather than the right one.

The company typically pays the advisers of the creditor groups as well as its own. That looks strange and is deliberate: creditors who cannot afford advice cannot negotiate, and a plan negotiated with unadvised creditors is a plan a court is more likely to refuse.

The largest cost is not the fees. It is the value that leaves while the argument runs — customers who go elsewhere, staff who leave, suppliers who shorten terms. Every month of delay is paid for out of the recovery everybody is arguing about, which is the strongest argument for an out-of-court deal and the reason most restructurings attempt one first.

Which blocker decides across this desk

• Price4 of 9The two sides cannot agree what it is worth.Decides: Debt-for-equity swap, Distressed exchange, Rescue financing, Wind-down. Matters on 4 more.
• Financing3 of 9The money is not there, or its cost moved under the deal.Decides: Court-supervised reorganisation, Rescue financing, Standstill. Matters on 5 more.
• Approval5 of 9A regulator, a court, a board or a shareholder vote says no.Decides: Amend and extend, Court-supervised reorganisation, Debt-for-equity swap, Rescue financing, Restructuring plan. Matters on 3 more.
• Diligence0 of 9What was found when the buyer actually looked.Decides: none of them. Matters on 1 more.
• Execution6 of 9Documents, disclosure, timetable, and the people running it.Decides: Debt-for-equity swap, Distressed exchange, Restructuring plan, Standstill, Uptiering and drop-downs, Wind-down. Matters on 3 more.

The documents, in the order they appear

• The reservation of rights letter — a creditor saying it is not waiving anything by continuing to talk. The first sign that the relationship has changed.
• The standstill agreement — creditors agree not to enforce for a period. This buys the only genuinely scarce thing: time. See the standstill.
• The independent business review — a forecast prepared for the creditors rather than by the company. Value is argued from a forecast, so the forecast is the battleground.
• The lock-up agreement — creditors who have agreed the plan commit to vote for it. The percentage locked up before a plan is launched is the best available prediction of whether it will pass.
• The plan or scheme document — what each class receives, and the comparison against what it would get in the alternative. See the scheme.
• The court sanction — the tests differ by jurisdiction but the shape is common: fair classes, informed creditors, no dissenting class worse off than in the alternative.

Run the numbers

Interactive: how far earnings can fall before a covenant breaksMedium

Open this calculator on its own page →

Headroom is not a number a lender publishes. It is how much of this year's earnings can disappear before the first test fails, and it is usually smaller than the board thinks.

EBITDA ($m) Net debt ($m) Interest rate % Maximum leverage (×) Minimum interest cover (×)

Leverage now

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Interest cover now

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Earnings needed for the leverage test

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Earnings needed for the cover test

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Headroom

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First to break

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Reading

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Covenants are tested on a defined EBITDA over a defined period, with add-backs the agreement lists. Every one of those definitions moves this number. Information and education only. Not advice, not a valuation, and not a quote for anything.

Interactive: who gets what, and where the fulcrum sitsMedium

Open this calculator on its own page →

Value runs down the stack until it runs out. Wherever it stops is the fulcrum, and whoever holds that claim owns the outcome — whatever the old share register says.

Enterprise value in a restructuring ($m) Senior secured debt ($m) Subordinated debt ($m) Unsecured claims ($m) Cost of the process ($m)

Senior recovery

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Subordinated recovery

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Unsecured recovery

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Left for the shares

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Consumed by the process

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The fulcrum

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Reading

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Strict seniority, one pool of value, no inter-creditor terms and no priming. Real outcomes depart from this, and the departures are the negotiation. Information and education only. Not advice, not a valuation, and not a quote for anything.

Go deeper, and practiseLonger pieces, what an interview asks here, and a page to print.

Go deeper

How it goes wrong here

• The value break is disputed and nobody blinks. Whoever is above the break is paid and whoever is below is not, so the valuation argument is an argument about existence rather than about price.
• A creditor group finds a document permission nobody expected — assets moved beyond the reach of existing lenders, or new debt ranking ahead. Legal for the party that did it; catastrophic for the party that did not read the clause. See uptiering and drop-downs.
• New money cannot be agreed, and the company runs out of cash mid-negotiation. The plan becomes an insolvency.
• Classes are constituted in a way the court refuses, and months of negotiation have to be redone.
• The business deteriorates faster than the process moves. The most common ending, and the least discussed.

Test yourself: restructuring

Quick questions on this desk — four options each, checked entirely on your device, nothing stored or sent. Wrong answers come with explanations, and the deep dives above hold every one of them. For education only.

What an interview asks here

Restructuring questions test whether you think in claims rather than in companies: where the value stops is the answer to almost everything.

Try each one out loud before you open it. What is underneath is the shape of a complete answer, not a script — somebody who can produce those parts in their own words can also answer the four variations that follow, and somebody who has memorised a paragraph can answer one.

Q1What is the fulcrum and why does it matter?

What it is checking. The first question on this desk, and everything else follows from getting it right.

A complete answer contains:

• It is the point in the stack of claims where the enterprise value runs out.
• Claims above it are covered and will be repaid; claims below it get nothing on the arithmetic.
• The holder of the fulcrum is the one who converts into equity and ends up owning the company.
• Which is why the identity of the holders changes fast once a company is distressed: the claim is bought by people who want the company rather than the coupon.
• And why valuation becomes adversarial — every party's expert puts the fulcrum somewhere different, because where it sits decides ownership.

Read it properly: Where the value stops · Debt for equity

Q2Why can a company not simply agree new terms with its bondholders?

What it is checking. The collective action problem, and it is the reason every court process exists.

A complete answer contains:

• Most indentures require every holder to consent to a change in principal, interest or maturity.
• So a single holder can refuse a deal that every other creditor wants, and the more attractive the deal is to the majority, the more valuable holding out becomes.
• An exchange offer works around it by making the alternative worse, which is why it is voluntary in name only.
• A court process solves it properly: statutory majorities plus sanction bind the dissenters, and cross-class cram-down extends that to a whole class.
• The clearest illustration is a sovereign default with no collective action clause, which ran for fifteen years.

Read it properly: In court vs. out · Argentina and the holdouts

Q3What does Chapter 11 give a debtor that an out-of-court deal cannot?

What it is checking. A comparison question. Four specific things, and naming them is the answer.

A complete answer contains:

• An automatic stay: enforcement stops while a plan is negotiated, which turns a race into a negotiation.
• Cram-down: dissenting creditors and dissenting classes can be bound.
• New money with priority: debtor-in-possession financing can prime existing security with the court's permission.
• The ability to reject or renegotiate certain contracts, which for a leaseholder is frequently the whole point.
• The cost is money, time, publicity, and suppliers who tighten terms the moment it is filed.

Read it properly: Chapter 11 · DIP financing

Q4Explain an uptier transaction.

What it is checking. The defining transaction of the last few years, and it tests whether you read documents or headlines.

A complete answer contains:

• A majority of lenders amends the credit agreement to permit new debt ranking ahead of the existing loans.
• That majority then provides new money and exchanges its own holdings into the new super-senior tranche.
• The lenders who did not participate keep their original loans, now subordinated to a tranche that did not exist.
• The permission was already in the document — in the amendment thresholds, the sacred-rights list and the definition of what a majority may agree.
• A drop-down does the same damage from the other direction: the collateral moves to a subsidiary outside the security package.

Read it properly: Uptier and drop-down · The uptier transactions

Q5How would you value a company in a restructuring?

What it is checking. A trap. The right answer starts by saying that the number decides who owns it.

A complete answer contains:

• The same methods as anywhere — discounted cash flow, comparables, precedent transactions — but on a business plan that is itself contested.
• The difference is the purpose: the number decides where the fulcrum sits, so every party has an interest in a different answer.
• Senior creditors argue for a low value, because it puts the fulcrum above them and gets them repaid in full.
• Junior creditors argue for a high one, because it brings them into the money.
• So the honest output is a range with explicit assumptions, and an explanation of which assumption moves the fulcrum.

Read it properly: Discounted cash flow · The valuation desk

Q6What is a standstill for, if nothing is being agreed?

What it is checking. Whether the candidate understands that time is the scarce resource in a distressed situation.

A complete answer contains:

• It stops creditors enforcing while a solution is negotiated, so nobody has to move first to avoid being last.
• Without it the rational action for any single creditor is to accelerate, and everybody accelerating destroys the value they are competing for.
• It usually comes with information undertakings — the creditors get visibility in exchange for patience.
• It buys the time to do the analysis that decides where the fulcrum is.
• And it is the out-of-court substitute for the automatic stay a court process provides for free.

Read it properly: Standstill · The restructuring desk

Q7Why does governing law matter so much on a distressed bond?

What it is checking. A detail question that is really about what can be changed and by whom.

A complete answer contains:

• Domestic-law debt can be changed by domestic legislation; foreign-law debt cannot.
• So a sovereign can legislate a collective action clause into its own bonds retrospectively, and cannot do that to a New York-law bond.
• Enforcement differs too: a foreign court's judgement has to be enforced somewhere, and against a sovereign that is nearly impossible directly.
• Which is why the effective route in the best-known case was an injunction working through the payment system rather than against assets.
• For a corporate, governing law decides which insolvency framework and which cram-down mechanism is available at all.

Read it properly: Argentina and the holdouts · Greece, 2012

Q8Recovery rates: what actually determines them?

What it is checking. Whether the answer is a table from memory or the mechanism behind the table.

A complete answer contains:

• Where the claim sits, first: secured before senior unsecured before subordinated.
• What the security actually covers, and whether it was perfected — a security interest over assets that have since been moved is worth what the drop-down left behind.
• The enterprise value in the restructuring, which is a going-concern number if there is a plan and a liquidation number if there is not.
• The cost of the process, which comes out before anybody recovers anything.
• And the jurisdiction: priority rules, employee and tax preferences and the availability of cram-down all change the answer materially.

Read it properly: The recovery calculator · Wind-down

Do these against a clock → — one at a time, ninety seconds each, answer before you look.

Whose questions these are. Every question on this page was written for this publication. None is taken from anybody else’s question bank, and none is a claim about what any named firm asks — that is neither verifiable from here nor ours to assert. They are our own reading of which mechanism a question of this kind is testing. Information and education only.

How the transactions fit together

These are ordered by how much agreement is left. A standstill buys time and changes nothing else: lenders agree not to act while a plan is written. An amend and extend is the smallest real change — a maturity moved, a covenant reset, usually paid for with a fee and a higher margin — and it works only while the business can still service what it owes. A distressed exchange asks holders to accept less voluntarily, which requires nearly all of them to agree, and that requirement is why the next two exist.

When agreement cannot be reached, a court supplies it. A restructuring plan and a court-supervised reorganisation both bind a dissenting minority to a decision taken by classes of creditors, and both are decided on what each class would receive in the alternative — which is why the valuation fight is the case. A debt-for-equity swap is usually the outcome of one of them rather than a transaction in its own right: the debt is written down and the lenders become the owners.

Two sit outside that sequence. Rescue financing is new money lent into a process, ahead of everybody already there, because otherwise there is no process to fund; the priority is the whole of its economics. Uptiering and drop-downs are what some creditors do to others when the documents permit it, before any court is involved. And a wind-down is the admission that the business is worth more stopped than continued, which is a conclusion about the assets rather than a failure of the process.

Concepts to master

• The value break — the point in the capital structure where the enterprise value runs out. Above it, creditors are paid; below it, they are negotiating for option value.
• Structural subordination — lending to a holding company puts you behind everybody who lent to the operating company, whatever your documents say about seniority.
• Cram-down — a sufficient majority, in a formal procedure, can bind a dissenting minority or even a dissenting class. Choosing the forum is choosing which minorities can be overruled.
• New money buys priority, and priority is worth more than the money.
• Recovery is what the credit market prices every day — see credit and the credit default swap, whose settlement depends on exactly what happens here.

Analysis

⬇ The whole desk on one printable page

Who pays whom, drawn

The timetable on a transaction page says what happens and in what order. These say where the money goes — every payment between the parties, and what each one is for. Only the transactions where the cast list alone does not answer that carry one; each diagram sits on its own page.

• Debt-for-equity swap — Debt for equity: the fulcrum becomes the owner
• Rescue financing — Lending to a company already in a process

Who does this: Restructuring is a sell-side seat in Investment Banking, alongside Mergers & Acquisitions, Equity Capital Markets, Debt Capital Markets, Leveraged Finance, Structured Finance, Valuation & Deal Analysis. See the industry map.