Doing the B Thing

The worst scenario is when the people making the decision have poured their own fortunes and savings into the company.

“Annual income twenty pounds, annual expenditure nineteen nineteen and six, result: happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result: misery.”
— Mr. Micawber to David Copperfield

You're running a competitive telecom company, and you're leveraged to your eyeballs; there are small countries that need less capital than you do. Your stock price has fallen off a cliff. You have money coming in, but it's all you can do to service your debt, and soon you may not be able to do that. Your customers are nervous; your vendors are nervous. Your lenders won't return your calls — but their lawyers do. Your employees are on the Yahoo message board telling everybody what a yahoo you are. You have put your heart and soul into the company. You have waited like Mr. Micawber for something to turn up. Nothing has. Is there no place to hide?

There is 824 Market Street in Wilmington, Del., where companies like yours go, not to die precisely, but to enter a state of suspended corporate animation from which they may or may not emerge. There resides the U.S. Bankruptcy Court for the District of Delaware, ground zero for Chapter 11 bankruptcy. There are similar addresses around the country, but because so many corporations are chartered in Delaware, those who go bankrupt often do it in Wilmington.

Should you take that step? What are the pros and cons? What are the alternatives?

“The first thing to bear in mind is that bankruptcy is not a pleasant process,” Larry Goddard counsels. “It is a very time-consuming, frustrating and expensive process. Therefore, a company needs to think long and hard about why [it is] doing it. The other important issue to bear in mind about filing bankruptcy is that there is a very, very low percentage of companies that when they come out of bankruptcy are owned by the same people who owned them when they went into bankruptcy.”

Goddard's firm, The Parkland Group of Cleveland, consults with distressed companies. There are alternatives to bankruptcy, and 90% of the time, Goddard advises his clients to take them. A company with a few large creditors should do everything it can to work out an arrangement with them. Bankruptcy is the best option only when a company's creditors are so numerous, fractious and unpleasant as to threaten to tear it apart, he said. “The court kind of gets it into a process. It prevents people from attacking unilaterally and herds them through a process.”

But the process is time-consuming, expensive (lawyers, consultants, accountants, etc.) and uncertain.

Entering bankruptcy late can be as bad as entering it lightly. Bankruptcy laws aim to preserve assets whenever possible, and they're not much use to a company with nothing left to preserve. To get the timing right, senior managers and board members need to know just how bad things are. A former executive of a bankrupt CLEC, who spoke on condition of anonymity, recalls the exact moment she realized her company was doomed. She had to brief her chairman before an earnings conference call with analysts.

“I said to him, ‘The single most important thing you have to address is the cash situation,’” the executive recalls. “‘If you read the last SEC filing, we have six months of cash.’ He said, ‘No, that's not true, we have plenty of money!’ And I said, ‘No we don't. Read the 10-Q’. And the guy absolutely lost his mind.”

Denial, Goddard said, is the single biggest problem struggling companies face as they look for options.

“I have confronted that numerous times and have been shouted down by someone saying we've got it under control, and [have been] called back three or four months later,” Goddard says. “Sometimes the passage of time or an active board of directors may be able to confront the issue.”

Bankruptcies are no walk in the park for creditors, either. Unsecured creditors — which are most creditors, most of the time — can count themselves lucky if they recover a dime on the dollar for their pre-bankruptcy receivables. The court-supervised process can take anywhere from three to 18 months. Knowing this, creditors often try to work out a deal with the struggling company.

But not always. Some creditors are singlemindedly focused on getting paid now. In such cases, bankruptcy — not the thing itself, but the idea — may come in handy. A carrier facing such a creditor might raise the dreaded image of an army of lawyers parading down Market Street to file shelves of motions or a horde of creditors pleading for a dime on the dollar before an overworked federal bankruptcy judge.

Failing that, a carrier might present its creditor with the flesh-and-blood embodiment of its worst fears in the person of Melanie Rovner Cohen, or someone like her. Cohen is a bankruptcy lawyer with Altheimer & Gray in Chicago. Her career choice has had social implications; many a cocktail party conversation has come to an abrupt end when Cohen admitted her specialty. “I do have that scarlet B on my forehead,” she said.

However, Cohen says a bankruptcy lawyer's mere presence can have a fear-of-God effect on a hard-nosed vendor or landlord.

“I cannot remember the number of times that I've gone to meetings with a client, and my being known as a bankruptcy lawyer accomplishes the effect without any filing at all,” she said. “I've given a signal that we mean business, and better you should make a concession, because otherwise, we may do that B Thing.”

But there comes a time when the B Thing is all there is. In a public company the board of directors makes this decision, but the senior management, hopefully, will have been planning for it for weeks. They have seen the cash running out. They have looked for acquirers and found none. They have hunted for equity and come home empty. The solemn moment has arrived.

The worst scenario is when the people making the decision have poured their own fortunes and savings into the company, Goddard said. “If you're talking to someone at risk of losing their life savings or fortune, it's very emotional and scary, and most people tend to underestimate the scariness of it.”

What happens then?

The last thing a company may have to do before filing is to pay its bankruptcy lawyer for his pre-petition work. That's because he cannot represent the company after filing if he is a creditor. After that, a bankrupt company's management and lawyers will be very busy.

“You're going to have to deal with protecting and maintaining your work force,” said Jack Pigman, a bankruptcy lawyer based in Columbus, Ohio, who has taken part in telecom bankruptcies. “You're going to have to deal with suppliers who are going to be very angry and obviously understand that they're not going to be paid what is owed them when the case is filed. But many will be essential after it's been filed so you have to deal with those. Then there is the customer base. Every effort must be made that the customers continue to have uninterrupted service.”

Employees — and many suppliers — can be covered by court orders after the bankruptcy petition is filed. Ironically, a company forced into bankruptcy because it can't pay its bills will be able to pay expenses incurred after going bankrupt, because the court will order them paid out of incoming revenues. Thus assured of getting paid, people who wouldn't touch a company as it writhed in pre-petition agony will provide goods and services after the B Thing has been done. Consider lenders who would not lend to pay old debts, but would lend to cover new ones, given the protection of a court.

“A troubled company is less attractive than a bankrupt company,” said Patrick Quinton, vice president of credit with RFC Capital, which provides financing for telecom companies, including debtor-in-possession financing. “If I see a company headed for bankruptcy, I'd probably rather lend to them after they go bankrupt. I could get a higher rate [before bankruptcy] but better protection under bankruptcy.”

Customers may be in for a rough go, however. While customer service actually improved by all accounts after ICG Communications and e.spire Communications went bankrupt, NorthPoint Communications and Advanced Radio Telecom cut their customers off with relatively short notice. NorthPoint listed on its Web site the Web addresses of alternative providers — while disclaiming any endorsement of any of those carriers. ART, which announced its intention to declare bankruptcy March 30 (ART has not filed at press time), posted a letter on its site saying it would give customers 30 days of best-effort Internet access, after which they were on their own.

‘People forget the philosophy. Bankruptcy isn't fair to each person.’
— Melanie Rovner Cohen, Altheimer & Gray

Goddard says many companies go into bankruptcy without a clear plan for emerging from it — increasing the chances that they will never emerge. Companies like his help their clients put together a plan of reorganization, and then help to sell it to the creditors, the lenders, and finally the court. Here we have the gut-wrenching, paper-consuming, ego-flattening, interest-reconciling heart of the B Thing — and the reason why it takes so long. There is much wailing and gnashing of corporate teeth — mainly, as Cohen sees it, because the people involved forget what it's all about.

“People forget the philosophy,” Cohen says. “Bankruptcy isn't fair as to each person. You start with a short pot. The government… believes that reorganization is good for the economy. It promotes business and saves jobs. If you accept that premise, you have a statute that provides where there isn't enough to go around, this is the equitable way of dealing with it. It's not fair, because I wasn't paid, but it is better that creditors are paid a little bit and the business is allowed to reorganize.”

Experts advise that communication is key after the petition is filed — with employees, lenders, vendors and customers. This may be the hardest part. By the time the B Thing is done, news will have been unremittingly bad for months. Senior managers and board members will be tempted to say nothing their lawyers don't insist they say. Employees may begin to think their supervisors know something they don't and aren't telling — or worse, that they don't know what everybody else knows.

Pigman suggests his clients tell the truth. “Do not make any statement to any creditor or any constituency that you can't perform on,” he said. “It's better to tell them the absolute bad news than to create a false expectation.”

A false expectation can lead to class-action lawsuits, in which investors charge that senior managers and board members knew the firm was bound for perdition but led the world to think it wasn't.

Public relations people say it isn't necessary to tell the whole truth, but it is necessary not to lie. And it is necessary to say something, they advise, even if it means calling people to say that nothing can be said. If this seems like a no-brainer, consider ART, which took its Web site offline on March 30, except for the terse press release announcing its intention to file for bankruptcy and a hotlink to a customer letter.

However, candor is a habit, not a tactic. A public relations person for a bankrupt CLEC, who asked to remain anonymous, remembers the last few months before filing as the hardest. The pathologies that had troubled the company continued as it spun down Market Street toward the B Thing. “I had just an overwhelming sense of stupidity at the highest level,” the PR person recalled. “It was just stunning to me.”

Earnings watch

Company	Quarterly revenue	Year-over-year change	EPS (Loss)	Consensus EPS*
TeleCorp PCS	$149.7 million	+170%	($0.89)	($1.42)
Brocade Communications	$115.2 million	+86%	$0.05	$0.05
Sycamore Networks	$54.2 million	-8%	($0.19)	($0.19)
Aether Systems	$30.7 million	+469%	($1.16)	($1.25)
NEON Communications	$5.4 million	+156%	($0.77)	($0.79)
NetZero	$12.8 million	-20%	($0.29)	($0.32)
OmniSky	$5.5 million	+319%	($0.66)	($0.66)
*Consensus EPS taken from First Call/Thompson Financial
Compiled by Toby Weber