Vol 4 (2007) - Issue 3

Article preview

Failing Firm Defence: A Success or Failure for Corporate Restructuring?

Nowadays, we face global restructuring of industries that may be the most significant economic change of recent decades. Distressed companies on the verge of bankruptcy are a common phenomenon, to be observed in both developed and developing economies and markets. Companies that are in distressed financial conditions may choose to embark on a restructuring process in order to ensure their viability and profitability.

Restructuring is often done as part of bankruptcy procedures. Restructuring is the term for the act of fully or partially dismantling and reorganising a company. It involves the selling of parts of the company and severe job losses. Restructuring of the liability and stockholders equity components of a financial balance sheet is normally undertaken because the issuer does not generate enough cash flow to service its debt and other liabilities. Restructuring may include deferral of principal or interest payments on debt, equalisation of debt or other liabilities, and, in bankruptcy, modification or termination of burdensome contractual commitments. Restructuring is normally done with reference to the outcome that would ensue in a bankruptcy proceeding even where no such proceeding occurs.

Debt restructuring aims at enabling the company to continue business operation without danger from debt. It is usually cheaper and safer than bankruptcy. The only cost associated with a business debt restructuring is the time required to negotiate with bankers, creditors, tax authorities and suppliers. According to Norton, if a company decides to restructure its debt, it will be faced, inter alia, with three alternatives that are negotiated and implemented out of court, out-of-court reorganisation, pre-packaged reorganisation plans and pre-negotiated reorganisation plans. An ‘out-ofcourt reorganisation’ is the financial restructuring of the debt of the company by means of a contractual voluntary agreement without the intervention of any court or regulatory authority. According to the ‘prepackaged reorganisation plan’ the company designs and negotiates a settlement with its creditors without the need to file a full court-supervised reorganization procedure. A ‘pre-negotiated’ plan is negotiated between the debtor and its creditors on an out-of-court basis and then is filed with a court to obtain the benefits of its approval, with no requirement for formal solicitation of votes.

A strategic response for struggling firms and one of the means of implementing a successful debt restructuring process is to combine in order to achieve competitively necessary efficiencies. Either a failing firm within a booming industry or firms in a distressed industry will choose to merge/acquire/be acquired, or choose to sell loss-making divisions in order to enhance the firm’s viability and profitability. Given these wrenching transformations, the applicability and importance of the failing firm defence and failing division defence6 might be crucial.