Managing Director
Phoenix Management Services
During 2019, Phoenix Management Services was engaged as financial advisor by a middle market importer and distributor of construction related products to develop a turnaround plan and financial projections to help it address several important issues. Because the company was in default, the relationship with an incumbent lender had become strained and a hard deadline to close a refinancing had been issued. Phoenix Capital Resources was engaged in 2020 to locate suitable financing, and the process began in earnest in late February. At the time, no one had any sense what COVID-19 would mean to businesses and capital markets around the world.
The COVID-19 pandemic crashed onto U.S. shores in mid-March 2020, just as offering materials were being finalized to raise almost $10 million of debt capital to refinance the company’s debt facilities. The pandemic added significant complexity and uncertainty to the situation. Suddenly there was no clear way to determine which institutions were lending money at all, and if they were lending, how the pandemic had impacted appetites for providing a loan to a company still experiencing corporate renewal. Probability of closure was critical and extremely difficult to ascertain as COVID-19 threatened that most sought after aspect of a capital raise — understanding uncertainty.
In addition, the pandemic had both positive and negative impacts on the borrower. Revenue had historically been concentrated in the home center channel, and the company’s strategic plan called for expanding revenue across other channels as well. But instead of diversification, COVID-19 reduced demand in other channels and forced a further concentration of revenue. This was a welcome but mixed blessing that had to be clearly explained to interested lenders.
Key Observations
Similarly, bank-based ABL groups, while expressing initial interest, were unsuccessful in achieving any real traction on the deal given the borrower’s historical performance and current volatility. Ultimately, with a few notable exceptions, the size of the deal, the timing of the recent turnaround process and the uncertainty caused by the pandemic took them out of the game.
Borrowers often want to keep the cost of the process very low and end up doing themselves a disservice by making decisions driven solely by perceived upfront cost instead of ultimate value. Even though the requested package was below $10 million, the borrower wisely chose to invest in preparing a high-quality range of offering documents, including an attractive and informative teaser, a detailed CIM and comprehensive financial projections, showing that management was serious and professional in its approach. The CIM articulated the challenges the company had faced as well as how it had responded or intended to respond. The feedback we received reinforced that more information and attention to detail is required, and this is even more true in the lower middle market.
Appraisals and legal documentation should be started as early as possible. We heard stories of appraisers being stopped at state borders with zero ability to conduct onsite inventory counts and facility inspections. No one really knew how this aspect of the process would play out simply because this deal was one of the first attempted during COVID-19’s onset. However, the appraisers we worked with adapted ably and efficiently. In addition, several proposals did not include a requirement for an updated real estate appraisal. Had this been a requirement, it is unlikely such a tight timeline could have been met. The fact that the company was well-prepared supported a truncated legal documentation process.
This transaction demonstrated the resilience and adaptability of the market for secured debt and what it takes to be successful when approaching it. The market’s ability to deliver attractive capital solutions at a reasonable cost was evident, even for a borrower with meaningful and recent challenges. But to be successful in this COVID-19-driven market, a company seeking to refinance its credit facilities must be willing to venture outside the norms of “the way things used to be.” Companies should expect to invest time, effort and money to efficiently tell the entire story in a transparent and detailed fashion. Finance teams must be prepared to work through a challenging and invasive credit approval and due diligence process. But the results of doing so speak for themselves. Ultimately, from a pool of more than 30 potential lenders that received the CIM, five proposals were issued, two of which were set aside early based on uncompetitive pricing or structural challenges. Approximately 10 weeks had passed from the time the first teasers were distributed to the day the deal was funded — the last day of the forbearance period. •
– By Bayard Hollingsworth, Managing Director, Phoenix Management Services
