Pacific Sunwear of California Inc., is “living every distressed retailer’s dream,” according to retail analyst, Poonam Goyal.
Pacific Sunwear to Exit Bankruptcy
The California-basedretailer has been granted court approval to exit bankruptcy after cutting debt, closing some of its stores, and finding ways to reduce rent at the malls where the clothing chain typically does business.
While the teen-centric clothing store might be “living the dream,” Goyal still believes the future success for Pacific Sunwear is still unclear. Most retailers in the U.S. have too many stores and need to cut back, she said.
That’s exactly what Pacific Sunwear attempted to do before it filed its bankruptcy back in April. At the time it closed hundreds of stores – dropping its numbers from 593 stores to 583 stores, and reversing a failed expansion strategy.
Approved Bankruptcy Plan
Under the reorganization plan approved, PacSun will transfer all its stock to affiliates of private equity firm Golden Gate Capital, its senior lender.
In exchange for the transfer, Golden Gate Capital will reduce the amount it’s owed by PacSun – from $88 million to about $30, according to Gary Schoenfeld, the retailer’s chief executive officer. He went on to say that Golden Gate has also agreed to invest $20 million in the company, most likely in form of new debt.
Retail Bankruptcies Across the Nation
PacSun is just one of the nation’s retailers, among a handful of others, that has been able to emerge from bankruptcy without having to liquidate or close all of their stores.
Earlier this year, sporting goods retailer, Sports Authority Inc., filed for bankruptcy with plans to reorganize by closing 140 of its 463 stores, but wound up being forced to liquidate entirely. In recent years, retailers Wet Seal and Quiksilver were also forced to file for bankruptcy and went private. Wet Seal was It was acquired in April 2015 by an affiliate of Philadelphia-based Versa Capital Management. In October 2015, Quiksilver filed for Chapter 11 bankruptcy protection and received court approval for a $175 million financing package with Oaktree Capital Management. Oaktree Capital now holds a controlling interest in the company.
It appears these brick-and-mortar based companies have faced large competition from big box retailers such as Forever 21 and online merchants such as Amazon.
Chapter 11 Bankruptcy Protection
Under a Chapter 11 bankruptcy protection plan, a debtor is able to reorganize and restructure its financial affairs. The plan is a contract between the debtor and the debtor’s creditors that outlines how a debtor will operate and pay for future obligations.
Often this plan means a debtor will need to downsize operations in order to reduce expenses and free up assets. Often times, as is currently being seen with Chevron and similar oil companies, a move to cut spending and lower costs is a way to recoup some money in order to avoid bankruptcy.
Liquidation and Chapter 11
In some cases, where restructuring will not yield enough income to pay debts, a “liquidation plan” is necessary. Under liquidation, a debtor’s operations are shut down and its remaining property is sold to recoup money to pay off creditors.
Typically, a debtor receives four months to propose a reorganization plan following its initial filing of Chapter 11. This “exclusivity period” can be extended to up to 18 months following the petition date if the debtor is able to show good cause. While it can be extended, it can also be shortened, depending on the circumstances of the filing.
After the “exclusivity period” ends, the creditors’ committee and/ or other parties are able to propose alternative reorganization plans. This is a fairly rare practice. In these cases, it’s typical that a creditor committee or other party will move to either dismiss the bankruptcy filing or convert the case to Chapter 7. During Chapter 7 a bankruptcy trustee cancels many (or all) of the company’s debts. This can also mean the trustee will sell, or “liquidate” some of the property to pay back creditors.
Though rare, occasionally, a Chapter 11 reorganization plan will allow for every creditor to be paid back immediately, and in full. If this is not the case, as per usual, creditors are allowed to vote on whether or not they will accept the proposed Chapter 11 plan.
During this vote, at least one class of “impaired” claims must approve the Chapter plan in order for the plan to be approved by the bankruptcy court. Upon the plan being confirmed, an “impaired” claim is an obligation that will not be paid in full or when originally due.
Bankruptcy Court Approvals
The bankruptcy court must also approve:
- any sale of assets (property or real property). This excludes items such as inventory that is sold by a retail debtor during the ordinary course of business. For example; if a t-shirt company files for bankruptcy, they would still be allowed to sell their t-shirts.
- entering into or breaking a lease on real or personal property.
- mortgages or other secured financing arrangements that will allow the debtor to borrow money after the bankruptcy case is filed.
- the shut down or expansion of business operations.
- entering into or modifying union, vendor, licensing, and other agreements and contracts, and
- the retention of, and payment of fees and expenses to, attorneys and other professionals.
Role of Creditors
Creditors, shareholders, and other parties that have a vested interest in the company are able to support or oppose actions that will require bankruptcy court approval. These interests and opinions will be considered in bankruptcy court and determinations on how to proceed will be made. It’s only under Chapter 11 plans that formal votes are given by creditors and equity holders.
Unsecured creditors typically participate in Chapter 11 cases via a bankruptcy committee that is appointed to represent their interests. This committee is allowed to retain attorneys at the debtor’s expense. In some bankruptcy cases, shareholder committees are also able to take an active role in the bankruptcy decisions.
Confirmation of the Chapter 11 Plan
“Confirmation” is when a proposed bankruptcy plan is approved by a bankruptcy court. In order to confirm a Chapter 11 bankruptcy plan, the court needs to rule that the plan meets numerous requirements, including:
Feasibility. Feasibility means the proposed plan is likely to succeed. A debtor will need to prove that it will be able to raise sufficient revenues during the course of the plan’s term in order to cover its expenses and payments to creditors.
Good Faith. The plan needs to be proposed in good faith and not by means forbidden under applicable law.
Best Interests of Creditors. The plan must be in best interests of its creditors, meaning that a creditor will receive at least as much under a proposed Chapter 11 plan as they would had the case been converted to a Chapter 7 liquidation. This “best interest” often means that the debtor will need to pay a creditor in pull. Typically, Chapter 11 debtors are not able to meet this “best interest” and thus only pay a fraction of what they owe.
Fair and Equitable. The plan also must be “fair and equitable,” meaning the following:
- Secured creditors (meaning it has a mortgage against a real property or lien against personal property like inventory and equipment) must be paid, over time, at least the value of their collateral.
- The debtor is not able to retain anything on account of their equity interests until all obligations are paid in full. This is either immediately upon plan confirmation or over time (which includes interest). A bankruptcy court is able to allow equity holders to retain ownership interests in the debtor in exchange for “new money” that is put towards paying reorganization expenses. Otherwise, equity holders lose all ownership rights once the plan is confirmed.
Some of the confirmation requirements (like the fair and equitable test) are only applicable if the affected creditors vote against the proposed bankruptcy plan.
Does Chapter 11 Work?
Studies show that about 10 to 15% of Chapter 11 cases are successful, meaning the company is able to reorganize. Often cases are dismissed or converted to Chapter 7 liquidations. For a case to be dismissed the bankruptcy court must approve its dismissal. Conversion or dismissal can be done if a debtor fails to show it will be successful in reorganizing.
Working with a Bankruptcy Attorney
Bankruptcy law can be intricate and confusing. Because of this, if you believe you are a candidate for bankruptcy, you should immediately contact a bankruptcy attorney. They will be able to look at your case and your financial situation to determine if you are a good candidate, and what type of bankruptcy you should file. Contact us today if you need help. Our attorneys understand the frustrations that can come with trying to understand bankruptcy laws. We welcome the opportunity to speak with you about your specific situation.