John Boken, a managing director at Kroll Zolfo Cooper, specializes in providing restructuring advisory and crisis management services to financially distressed companies and their creditors. For more than 15 years, he has led over 50 projects in a variety of industries including energy, health care, manufacturing, retail, and agriculture. His has also served in senior executive roles for client companies.
In November 2007, Boken was hired by TOUSA to serve as chief restructuring officer. Two months later, the company filed for Chapter 11 in U.S. Bankruptcy Court in Fort Lauderdale, Fla. In March, Boken spoke with senior editor Lisa Marquis Jackson and news editor Sarah Yaussi about TOUSA's roadmap to a plan during reorganization.
BB: Obviously, you have been through the bankruptcy process many times, and you have done so with many different kinds of companies. Can you give us some perspective on how TOUSA's experience might compare to some other companies--or other industries even--in commonality or in distinction?
JB: There are a lot of different reasons that companies end up in this type of restructuring, Chapter 11, and some of the more interesting, but more challenging ones have a lot of internal intrigue--the Enrons, the Bell South. They are in Chapter 11 because of financial shenanigans.
Those are generally easier to find a restructuring around because you can fix a specific problem. You can carve out where there were irregularities; you can find the core business. It's generally still with you, the market is still with you, it's just had certain individuals that got overly ambitious with certain aspects of the business.
[TOUSA] is obviously not that kind of circumstance. This is more of a company/industry where all of the factors have turned against it simultaneously; consumer confidence on a big ticket purchase, general conditions in the marketplace, and the mortgage markets collapsing at the same time have created a situation that I don't think anyone could have planned for or anticipated without anyone running afoul of their boards of directors and shareholders.
It's hard to draw parallels, although every industry goes through its cycles. From my experience, we did a bunch of energy work in the early 2000s coming out of energy deregulations and then there was a flurry around independent power companies. Then that died down, and they realized they had overbuilt and there were three or four years of restructuring there. And we have of course done the telecom cycle, and retail has had its cycle. So, on one hand, an industry cycle is what we do and deal with for years at a time.
What is unique here is that the perfect storm of circumstances, which is affecting everybody in the same way--maybe some sooner or some more dramatically than others based on where their greatest exposure was. That will make this more difficult to reorganize in a timely basis because it's not like a mechanic is going to come in and retune the engine and then the car will run fine.
We have to be in a position to ride out the storm and ideally maintain as much of the asset base as possible. So when the storm is over and the market returns, the ideal circumstances are that we figure out a way to maintain as much of the asset base--not just the physical land assets, but the infrastructure and assembled work force--which obviously has some value. As time goes on, you run the risk that that dissipates.
It's hard to draw a direct parallel to anything we have experienced in the past, in part because this has been a nearly recessionary environment that we've been in. Many in my business believe this may be something we haven't seen for 20 or more years, and nobody has a good idea as to how it's going to bounce back. As a result, there are only so many things a company can do to ride out the storm.
BB: There are benefits of being in Chapter 11, one of them obviously being protection from the creditors. And of course there are parameters in place so a company can't exist indefinitely in that state; however, when you look at the assets, land primarily, and you think about having to liquidate those and pay off creditors, the value of that liquidation would be minimal today compared to what it might be in two or three years as things turn around. When you say "ride out the storm," can I interpret that as meaning you are not in a rush to restructure and come out of this?
JB: In an ideal set of circumstances, we'd have two things: one, a general sense of when the market was going to turn, and two, a committed investor to sponsor the company coming out of Chapter 11 to ensure there was an adequate capital base. Under those circumstances, we would opt to get out of Chapter 11 as expeditiously as possible, and thereby eliminate the complication and cost of being in Chapter 11.
But in the absence of those two things, the better scenario is to hunker down, marshal our assets, make sure we can manage our operating costs to as minimal an amount as possible while at the same time maintaining our asset base.
It's not beneficial to the creditors to stay in Chapter 11 if the cost is just paid by liquidating assets along the way. However, if we can figure out a way to ride out the storm, staying in Chapter 11 and not having to burn the furniture, that's not necessarily a bad scenario for the creditors. Their recovery is not based on the sale of the assets today, which would be at very depressed prices. They can get their recovery at a time when at least the market has rebounded somewhat.
So the trick is, without an investor, how can we best position the company so we have minimized the cost to maintain the assets for as long as possible? That's what we are in the process of trying to figure out.
We are also still pursuing the investor who is willing to take the risk on the market right now. That's a tall order because there are a lot of people on the sidelines watching, but no one has stepped forward and said, "I'm going to be the consolidator in this industry, and I'm going to start buying things now." No one is quite ready to demonstrate that yet.
BB: So in the meantime, you continue to search for an investor, consider the sale of some assets, and work on debt forgiveness simultaneously?
JB: Let me paint a scenario that might be palatable to the creditors. We have had discussions with various parties, but by no means are we anywhere near a commitment. First, you find an investor who likes the company's platform. They say, "I have a belief that the market will turn, and I am willing to put some money in to make sure the company is properly capitalized." That's in some amount, whatever that number turns out to be.
From that, you negotiate with creditors as to what the balance sheet ought to look like and what the debt structure ought to look like. So even after the investor puts some money in to sponsor a plan, there is still debt forgiveness to some degree in certain tiers of the capital structure.
You might maintain some of the debt, but certainly some converts to equity, and then there is the negotiation between the investor who is putting the new money in and the creditors who are forgiving their debt as to how their equity would then be split up. Typically in that scenario, there is a higher premium for someone coming out of pocket with new money than there is with someone converting debt to equity.
A new investor being able to meet their rate of return comes back to what people's belief is in the market and when it's going to turn. As you well know, this industry has produced great returns on capital for years. The question for a potential new investor sitting on the sidelines right now is: When is it that that environment will return, so my cash isn't being burned just to maintain something?
BB: So they need a much longer threshold than they are typically used to getting? You have to convince them it's maybe a seven- or 10-year window on their return instead of that three- or five-year window they have seen in the past?
JB: Exactly. The investor community has been conditioned over the last 10 to 15 years. That explains why it's harder to find someone right now who is willing to jump in. There is plenty of money out there, but its not coming out of anyone's pockets yet.
But back to the other part of your question. ? In order for this company to really be successful, it does need capital. We could theoretically negotiate a more significant debt forgiveness plan with creditors, but without capital, that doesn't do anything. We can't prove that we have a viable business necessarily because we can't do anything but maintain the business. That doesn't benefit the creditors. By converting their debt early without capital to propel the company, they are giving up an option early. It's better for them to maintain their optionality and figure out a way to maintain the asset base, ride out the storm until we can reach that island where we find an investor and can propel the company out with a plan.
People don't want to do that for an infinite period of time, they'd like to see where that will be within a reasonable period of time. But right now, it's very hard to see that there is a logical group of folks that are going to step up and put in the capital.
BB: How long can TOUSA ride out the storm?
JB: That's the subject of a conversation we are having with the creditors. We really aren't in a position to say anything about that right now, but the objective is to lower the carrying costs, if you will, of the assets so we can survive for a lengthy Chapter 11 if necessary.
BB: So that underscores the importance of securing the D.I.P. financing (Debtor In Possession financing used for operations) and the majority of that revolver being available, if needed.
JB: The D.I.P. financing is one tool that can help the company ride out the storm with a more powerful engine than we could have otherwise.
BB: What are the other tools necessary to ride this out?
JB: None are really have-to-be's, but they are all helpful. Different tools are more valuable than others. The D.I.P. financing would certainly be helpful if we can work out the differences between the various parties. We have a complicated debt structure, so that financing is something of interest to a lot of players and where it puts them on the food chain.
The second tool is to reduce carrying costs. They have done some of this already. They have reduced headcount and consolidated divisions, mothballed certain markets or communities. They need to continue to do that where it makes sense, but that in itself is a loaded question. You have to make value judgements at different points in time as to where you start hunkering down and figuring out where to maintain things.
The final tool is how we interact with out creditor constituency. These folks have a lot at stake here in terms of their investment in various tiers of the capital structure. They are incented to help us find a way to maintain the optionality for them. What that means to me is, rather than run a process that is confrontational, instead, run one that is collaborative. We are all in the same rowboat together.
We happen to be the ones that are responsible for driving, executing, and proposing certain actions. But the more that we do through transparent process with the creditors, the easier it is for us to accomplish things, and the more likely it is they will support us in those decisions we need to make.
The process with creditors, how the company maintains itself in day-to-day operations, and what kinds of financial support we can gain through a D.I.P. or other mechanism, ? those are really the tools.
BB: Obviously, you have talked with potentially interested investors. What is the environment like?
JB: There is no shortage of people calling and looking for opportunities. The problem is that everyone is looking for assets on the cheap and hoping they can find a bargain, taking advantage of the chaos in the industry. [They are] thinking maybe even in some cases, we give [assets] to them to eliminate some carrying costs. Literally, nobody has stepped up and suggested values that are near where creditors and others think they are worth in a reasonable market, reasonable value for either all the assets or for big chunks of them.
There may still be one-off sales because they make sense for a variety of reasons, so you'll see that coming through over the next 30 to 60 days.
BB: But those aren't what you would consider to be substantial?
JB: No. They are non-core assets, things that, probably even if the company were operating outside of this environment, we'd still say, "We have land here or interest in a JV there that doesn't fit with where we need to be downstream, so we'll sell it off now."
JB: That's right. The term we use in the restructuring world in terms of responsibility is "maximizing value, maximizing recovery for creditors." So maximizing recovery is entirely consistent with what you just said, which is try to maintain the core assets, the best assets you had in what you believe are going to be the best markets when this industry recovers so that you can take advantage of the best opportunities when things turn around.
Those are judgment calls. Which markets are going to be the best two, three, seven years from now? But that is really what our mandate is, and it's what we keep in mind. ? What should we be doing to maximize value for creditors? Which assets are we going to preserve? How much of the infrastructure are we going to maintain? And at the same time, how do we reduce our carrying costs to ride it out long enough to find some investor or investors that are willing to take some risk in this industry?
BB: Back to the point of how you interact with your creditors. Earlier, you talked about how this industry is different than others because of the culmination of the perfect storm of things that have happened. Certainly the industry has had it's knees kicked out from behind in many ways, but I'd be remiss if I didn't note that not every builder is not in Chapter 11 right now. Do you have some creditors that are saying, "Hey, there was a plan two years ago, and I trusted you to execute on that. Look where I am today. Why should I trust you going forward?" How do you gain their trust and get past that?
JB: I don't have enough history to comment on all the factors that drove TOUSA to Chapter 11, but what I can tell you--and this is typical in a situation like this--there is no question that there are some parties that have emotions about why their position may be impaired. But to an institution, ? they have been able to set all that aside. They take the attitude of: How do we take this situation we are in right now and focus our energies forward? It's not looking over the shoulder to see how we got here and who we can blame for it.
At some point, it will be the time to deal with the issues and circumstances that arose that may have contributed to us being in Chapter 11 earlier than some of the other folks, or maybe in a more significant distress situation. Now, it's about how we get out of it, how long will it take, and how much money will it take? How can we best work together to maximize the value?
That's where my responsibility comes in because now I am the new party--independent of anything that happened historically. And [I have] the responsibility of driving these discussions and focusing our energies to avoid any decision making that isn't in their best interest. My experience is to do that in a manner that is as collaborative as possible.
BB: Is it common to have a situation like the one you have now, where creditors on the creditor committee have filed objections to the D.I.P. financing?
JB: No, it's not unusual. Remember that the way you file, the hearing on things like this typically occurs before the formation of the creditor committee. To that effect, they don't have the power yet to file complaints.
Typically, over time, the creditor committee becomes more mature and develops more knowledge about the case. Then, they are typically in the leading role representing that broader creditor group, so the situation right now is not all that unusual.
What you'll find is that certain individual creditors don't necessarily want to sit on the committee because they have a fiduciary responsibility to the committee as a whole. As an individual creditor, you are only pursuing your own specific interest. You see that from time to time, but I think the dynamic we are seeing now is more a factor of the timing related to when the committee was formed [being after the D.I.P. motion was filed] more than anything else. That will all work itself out.
BB: So what happens next with the fraudulent conveyance issue?
JB: The action ultimately has to be filed, and we typically work that out with the creditors' constituency as to who has standing to pursue that. Whether the company pursues that, the company representative of the Chapter 11 estate, or whether the creditor committee is given standing, ? that's all going to be worked out over the course of the next few months, and ultimately the creditors will decided when it's appropriate to pursue it.
The allegation does have an impact on how certain issues are being negotiated right now. Eventually, people want to be sure it doesn't prejudice creditors' claims.
BB: So, the approval (or not) of the D.I.P. financing has enormous ramifications to potential investors in terms of timing?
JB: The outside investor parties are [also] looking at the core asset base, timing of recovery, whether the company can generate margins to give us the kind of returns, what's the business worth, and what's the best time to make the investment. There are a fair number of parties who are very interested in keeping their eye on the industry. There just isn't anyone who is confident enough to move immediately.
My personal view is that it is unlikely that you'll see any builder-to-builder consolidation. The problem with any other builders is that it's a question of who really has the capital and who can put it together. No one has a balance sheet strong enough.
BB: Looking historically at other home builders that have gone through bankruptcy, which ones might be key to look at related to what TOUSA is doing?
JB: We have studied them all and determined that you really can't model a resolution based on those that have gone before ? for a couple of reasons.
TOUSA is pretty complicated from a capital perspective [compared to others], but considering what has happened to capital structures over the past five to ten years, it's more typical. Their capital structure is reflective of the changes in financing. As a result, my view is that bankruptcy is a business reorganization first, and then there is certainly the legal process that's an overlay of that.
The other factor that is different in this case is the economy. How TOUSA will [eventually] look is really based on how people look at the market today.