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Saturday, November 23, 2013

Barron's Cover Story About SiriusXM Illustrates an Important Point About Corporate Restructurings

The current (November 25) edition of Barron's displays a bullish cover story about SiriusXM, the satellite radio company. The article reiterates how SiriusXM was only "hours" away from filing for Chapter 11 in February, 2009, when instead it closed on a financing package from Liberty Media and avoided bankruptcy. altogether.  The article is slightly off in describing the terms of the financing:  first, press reports on the day of the closing, February 17th, reported it to have been $530 million, consisting of $430 million of new funded loans and an offer to buy up to $100 million of existing loans; and second, the package included not merely an option to acquire 40% of SXM's common, as the article says, but the actual issuance that day of 2 new series of preferred stock convertible into that proportion.  But the gist is right:  Liberty put in the capital SXM needed and got back both a dollar of high-priced secured debt for every dollar it invested and an equity stake of 40% to boot.  A great deal for LM, but one that the board evidently believed was better for stakeholders than the uncertainty of a chapter 11 case in the environment that prevailed in February, 2009. A shareholder suit challenging their judgment was thrown out as well.

What would have happened in an 11 is unknown, but what is known, as the article reports, is that SXM stock has risen over 7000% since its low of $0.05 in February 2009; it seems hard to argue in the face of that kind of value creation that any significant group of stakeholders would have been better off had SXM filed a traditional "free fall" chapter 11 in February, 2009, that could easily have stretched into 2010.

So the LM / SXM deal can stand as fairly impressive evidence of the success that can be achieved from not filing chapter 11 to effect a restructuring, at least a balance sheet restructuring, and evidence that a company does not always need to enter chapter 11 to achieve the goals of chapter 11 - to obtain a breathing spell, to keep the operations running, to maximize value, etc.

But there is a second point, along those same lines, that is less well known but deserves more attention.  The Barron's article goes on to note that "The company has spent the last five years weaning itself from oppressive contracts."  An executive is quoted stating that SXM has been able to reduce its programming costs by over one-third, from $450 million to "under $300 million".

One of the big arguments for chapter 11 is that management can use the "tools" of bankruptcy law to "fix" a company.  And the paradigmatic example of those tools is the power to reject burdensome executory contracts and unexpired leases, the damage claims arising from which are then eliminated through payment of "little bankruptcy dollars" as opposed to full 100% satisfaction.

Yet here is a company, once so deeply financially distressed that its stock traded at a nickel and it was "hours" away from entering chapter 11, that was able to rid itself of "oppressive contracts" and shrink a major source of expenses by over one-third -- without resort to the rejection powers of the bankruptcy laws and the concomitant expense and uncertainty of a full-blown bankruptcy filing.

Certainly there are companies that need to file chapter 11 and need to reject contracts and leases to fix their operations or, if those can't be fixed, to stanch the bleeding of cash on those contracts and leases to preserve the remaining value for broader constituencies of creditors.  But the SXM restructuring experience shows that bankruptcy is not always necessary, that there are more than one "tool" to achieve what the "tools" of bankruptcy can achieve in improving cash flow.

But what determines when a company can effect its operational restructuring outside of chapter 11?  It's pretty clear it's the strength of the balance sheet, the maturity profile of its debt, its access to fresh capital and its liquidity.  A company whose financial condition is strong enough can last long enough to make operational changes without filing bankruptcy.  This is obvious: solvent companies do it all the time.

And this in turn has important implications even for companies that do file for chapter 11.  It teaches that fixing the balance sheet is often perfectly sufficient to achieve the goals of chapter 11.  A company can get a breathing spell to work on its operations by lingering in chapter 11 for 18 to 24 months with a bad balance sheet, or it can get a breathing spell to work on its operations by fixing its balance sheet through a 4 to 6 month pre-negotiated or prepackaged chapter 11, and use the rest of the time it would have been in chapter 11 to work on its operations just like any other solvent company.  Companies often don't need to linger in chapter 11 to fix themselves.  It's at least as often the case that particular investor constituencies, junior debt or equity, that are the only ones who gain any benefit from delaying the emergence from 11.  (And of course bankruptcy professionals who bill by the hour ...).

This is the lesson of Barron's lookback at the progress SiriusXM has made since it restructured outside of chapter 11 in 2009 - bankruptcy is not always necessary to fix a business and effect the goals of chapter 11.  A strong balance sheet with access to sufficient liquidity and no near-term debt maturities works at least as well.