Giddy: Corporate financial restructuring

Corporate Financial Restructuring

by Prof. Ian H. Giddy, New York University

Corporate restructuring entails any fundamental change in a company's business or financial structure, designed to increase the company's value to shareholders or creditor. Corporate restructuring is often divided into two parts: financial restructuring and operational restructuring. Financial restructuring relates to improvements in the capital structure of the firm. An example of financial restructuring would be to add debt to lower the corporation's overall cost of capital. For otherwise viable firms under stress it may mean debt rescheduling or equity-for-debt swaps based on the strength of the firm. If the firm is in bankruptcy, this financial restructuring is laid out in the plan of reorganization. The second meaning, operational restructuring, is the process of increasing the economic viability of the underlying business model. Examples include mergers, the sale of divisions or abandonment of product lines, or cost-cutting measures such as closing down unprofitable facilities. In most turnarounds and bankruptcy situations, both financial and operational restructuring must occur simultaneously to save the business.

Corporate financial restructuring involves restructuring the assets and liabilities of corporations, including their debt-to-equity structures, in line with their cash-flow needs to promote efficiency, support growth, and maximize the value to shareholders, creditors and other stakeholders. These objectives make it sound like restructuring is done pro-actively, that it is initiated by management or the board of directors. While that is sometimes the case -- examples include share buybacks and leveraged recapitalizations -- more often the existing structure remains in place until a crisis emerges. Then the motives are defensive -- as in defenses against a hostile takeover -- or distress-induced, where creditors threaten to enforce their rights.

Financial restructuring may mean refinancing at every level of capital structure, including:

Securing asset-based loans (accounts receivable, inventory, and equipment)
Securing mezzanine and subordinated debt financing
Securing institutional private placements of equity
Achieving strategic partnering
Identifying potential merger candidates

Just because a company needs restructuring -- financial or operational -- does not mean it will undertake the necessary reforms. Management and controlling shareholders may prevail for an extended period, during which time minority shareholders and/or creditors suffer an erosion of value. A number of East Asian corporations, saddled with debt, nearly collapsed during the financial crisis of 1997. Many have managed to avoid both repayment and restructuring, however, and remain overly indebted and invested in unprofitable businesses. How could this happen? See Corporate Restructuring in East Asia: Promoting Best Practices by William P. Mako.

Assignment: Identify a company in the news that is undergoing corporate restructuring. Is the restructuring financial or operational? What methods are being used? Will they produce fundamental improvements? What risks does the company run in using these techniques?

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