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This article was published in the Thought Leadership section of ACG Philadelphia. It is republished here with permission.
After rebounding from the 2008 financial crisis, the United States has seen 10 years of economic growth. In this time period, bankruptcies decreased, and the restructuring market slowed. But with increasing economic uncertainty and a possible recession in the future, these trends may shift in the near term. Restructuring, bankruptcy and commercial lending pros — self-described “canaries in the coal mine” — shared what they are seeing in the market and what they predict for the next year.
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Brian Gleason, senior managing director at Phoenix Management Services, Inc., noted that the restructuring industry has generally been slow in the last three to five years. Despite this slowdown, there exist certain hot industries for bankruptcies and restructurings, including energy and real estate.
Joe D’Angelo, a partner at Carl Marks Advisors, singled out highly regulated industries, such as health care and skilled nursing facilities, as being particularly vulnerable. Regulators are increasing their enforcement efforts and “watch lists are growing,” D’Angelo said.
There is significant liquidity in the current market, which could be hiding operational and balance sheet issues that might otherwise have been addressed.
Fran Lawall, a partner in the Corporate Restructuring and Bankruptcy Practice Group at law firm Pepper Hamilton LLP, remarked, “there is a suspicion that, with the large amount of liquidity in the market, a lot of operational issues are being covered up.”
Bob Grbic, president and CEO of White Oak Commercial Finance, identified another trend: banks are becoming more conservative in managing marginal borrowers in anticipation of an uncertain political and economic outlook, with the 2020 election on the horizon and an impeachment inquiry currently underway in Congress.
Gleason said he has seen this tightening in the market too. In the past, lenders turned to Phoenix Management Services to address issues at their borrowers, but wanted to keep the assets on their books. “Now, we are seeing an increased willingness among banks to find another home for that asset,” Gleason said.
If there is resurgence in the restructuring market, what will be the cause? Gleason posed this question to the panel, asking whether fraud and mismanagement, cyclical issues, or traditional industry decline would be to blame.
Lawall identified several factors that are already impacting the market and that will continue to cause ripple effects for years to come. According to Lawall, technology is causing direct and indirect shifts in numerous industries, and the “Amazon effect” continues to take down traditional retail companies. On the political side, the Trump administration’s focus on deregulation has generally been seen as good for business, but there is uncertainty as to whether these changes will stick after the next election cycle.
D’Angelo added that he sees fraud playing only a small role in companies that eventually turn to restructuring or bankruptcy. Rather, general management mistakes always exist, regardless of the economic climate, and “you can’t wait until the next recession” to address those issues, he said.
With an audience of dealmakers, the panel next turned to issues they frequently see in mergers and acquisitions that could result in restructuring or bankruptcy. Notably, the panelists all identified problems arising when acquirers view acquisition alone as their strategy.
“We see a lot of anchor corporations bolting on other synergistic businesses,” D’Angelo said. “When too much savings is baked into the plan, it doesn’t always pan out into full synergy and efficiency.”
Grbic agreed, noting that many acquirers of roll ups do not prioritize integration nor the best practices of the businesses they acquire. “This cultural crash creates dysfunctionality and often leads to losses,” he said.
Gleason summed up the discussion, saying “three small, bad companies don’t make a medium-sized, good company. Trying to acquire your way into a strategy without a good platform never works.”
Although bankruptcies have slowed, an upcoming recession could see an increase in companies turning to this solution for their economic woes. With this in mind, the panel discussed whether, and how, companies should consider bankruptcy proceedings.
Lawall noted that “the stigma of going into bankruptcy is less than it used to be,” but that there are significant downsides to bankruptcy proceedings that must be carefully considered, such as loss of control of the company.
Lawall also said companies must ensure they have enough liquidity to make it through bankruptcy, a concept that is not immediately obvious. “You can’t be broke when you go into bankruptcy,” he said.
Grbic echoed the sentiment and noted that one of the biggest mistakes he sees companies make heading into bankruptcy is trying to create liquidity by stretching their payables. For companies in retail that rely on a steady flow of fresh inventory from suppliers, stretching their payables can lead to broken relationships. “The lack of open credit can lead to problems that can’t be easily fixed,” Grbic said.
Following the panel discussion, the floor was opened for audience questions, and the possibility of recession was the hot topic for the day.
Gleason predicted that there will be a recession because the United States has not cured the economic cycle that led to the last recession. Grbic agreed that recession was likely, but that it would not arrive until after the election, predicting that the Republican-controlled government would take steps to fend off an economic downturn before facing reelection.
Audience members also asked if there were any “safe havens” that might escape recession. Grbic noted that the food and beverage and staffing industries have been and likely will remain strong, while Gleason recommended staying away from industries that rely on low-wage workers as the country grapples with concerns of pay inequality and a rising minimum wage.
At the end of the day, however, Gleason said strong leaders are the best safe haven in an uncertain economy. “The best option is to find companies with management teams that are prepared for fast-paced decisions and change.
The material in this publication was created as of the date set forth above and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship.