A method of debt restructuring that operates outside insolvency law is a workout, relying on negotiations between the debtor and, generally, the lead creditors or a committee of creditors.  Since workouts that readjust the balance sheet of the firm require the unanimous consent of all creditors, they normally only readjust financial debt and exclude other, usually relatively minor, creditors such as trade creditors, employees and tax authorities.  A completely private workout before a bankruptcy filing would be successful only if 100% of the creditors agreed.  Out-of-court consensual workouts are generally less expensive and a preferable alternative to bankruptcy.

Out-of-Court Restructuring
Requirements for Out-of-Court Restructuring
   1.   Stakeholders are in relative agreement on the value of their individual positions
   2.   No major issues involving employees, vendors and other interested parties.
   3.   Non-DIP financing has been secured or is available to complete the turnaround.
Advantages to Out-of-Court Restructuring over Bankruptcy
   1.   Less costly and quicker than bankruptcy proceedings.
   2.   Fewer disclosure requirements than in bankruptcy.
   3.   Less disruptive to the ongoing operation of the business.
   4.   Less uncertainty for employees, vendors and other interested parties.

A composition is an out-of-court restructuring arrangement between a financially distressed debtor and the debtor’s creditors acting collectively to resolve the debtor’s imminent insolvency as a going concern.  Although a composition may be offered by the debtor during bankruptcy, they almost always take place during a suspension of payments.  Composition proceedings may be commenced by the debtor through the filing of a petition with the competent commercial court.  The debtor stays in charge of assets, subject to judicial control.  Each of the creditors entering into the agreement will be paid an amount less than the whole of their claims, and each creditor agrees to accept the payment in full satisfaction of its claim.  A certain majority of the creditors must agree to a restructuring plan, which ensures repayment of a specific quota of outstanding debt.  Through a cramdown, all creditors of a given class are bound by the composition agreement.

A cramdown is a consensual distressed-debt restructuring mechanism that enables the support of one class of creditors for a plan of reorganization to be used to make the plan binding on other classes without their consent.  It generally requires super-majority approval by an affected class of shareholders and binds dissenting stakeholders.  A cramdown is subject to judicial review for fairness because members of one class might vote strategically to advance their interests over the interest of other classes of creditors.  Cramdowns help to deal with hold-out lenders and out-of-the-money subordinated lenders.

By negotiating new terms with the debtor, the creditors expect to collect more from recoveries than from bankruptcy and possible liquidation.  Bankruptcy and forced liquidation of the debtor rarely result in maximum value, especially if the underlying business is promising but over-leveraged and the markets in which the company operates are perceived to be only temporarily weak.  The main costs associated with a business workout are the time and effort to negotiate with the lending bank, trade creditors and tax authorities.

The Effect of Time on Recovery Rates
   1.   The more time invested, the higher the costs incurred.
   2.   The time to emergence may indicate difficulty in determining fair value of assets.
   3.   Uncertainty about the settlement date makes distressed debt less attractive.

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