Unit-3: Restructuring and Corporate Control•Financial Distress•Mergers and Takeovers•Liquidity and Credit Management•Corporate Governance
Chapter OutlineWhat Is Financial Distress?What Happens in Financial Distress?Bankruptcy Liquidation and ReorganizationPrivate Workout or Bankruptcy: Which is Best?Prepackaged BankruptcyAltman z score
What Is Financial Distress?•Financial distress is a situation where a firm’s operating cash flows are not sufficient to satisfy current obligations, and the firm is forced to take corrective action.•Financial distress may lead a firm to default on a contract, and it may involve financial restructuring between the firm, its creditors, and its equity investors.
Insolvency•Stock-base insolvency: the value of the firm’s assets is less than the value of the debt.AssetsDebtEquitySolvent firmDebtAssetsEquityInsolvent firmDebtNote the negative equity
Insolvency•Flow-base insolvency occurs when the firms cash flows are insufficient to cover contractually required payments.Contractual obligationsInsolvency$Firm cash flowCash flow shortfalltime
Largest U.S. BankruptciesFirmValueDateCausesPacific Gas & Electric Co$36.15 billion2001PG&E, California's largest utility company, fell victim to the state's electricity crisis of 2000-2001. Blackouts swept the state and costs soared, blamed in large part on California's deregulation of the energy industry in 1996—the first state to do so.Thornburg Mortgage$36.5 billionMay 2009The housing crash and credit crunch doomed the mortgage lender. Thornburg's fall demonstrated that the crisis went far beyond subprime lenders; Thornburg "specialized in making mortgages larger than $417,000 to borrowers with good credit."Chrysler$39.3 billion2009As the financial crisis spread to the wider economy and threatened automakers, President Obama intervened and ordered Chrysler into bankruptcy. The United Automobile Workers were given control of the company, with the federal government and Italian carmaker Fiat as minority stakeholders.MF Global$41.0 billionOct 2011The Jon Corzine-led brokerage became the largest American victim of the European debt crisis to date.
Largest U.S. BankruptciesFirmValueDateCausesConseco$61.4 billion2002The insurer and financial firm overaggressively acquired companies in the 90s. Its purchase of Green Tree Financial, a financier of mobile-home sales, was particularly damaging in the long run.Enron$65.5 bilion2001Energy giant Enron was destroyed by a giant scandal that turned it into the ultimate posterchild for outrageously fraudulent accounting practices. CIT Group$80.4 billionNov 2009The commercial lender was caught in the credit crunch after an "ill-fated expansion"—only to be bailed out by TARP 38 days later.