What you don’t know can hurt you (and wipe out your retirement fund)!

Corporate bankruptcy has been used as a tool to solve non-financial problems for years. Two examples are in the news now and all business owners and financial managers should watch and learn so you aren’t the victim.

Using bankruptcy to avoid management problems, debt burdens or union issues

1. GM Korea. GM says its Korean operation is unprofitable. The South Korean government accuses GM of “opaque” management, meaning that management is playing games with the financials so it only looks like they’re unprofitale. GM is threatening the union with bankruptcy if concessions aren’t made or if a bailout from the Korean government doesn’t happen. Sound familiar?
2. Remington Outdoor Co. and their owner, Cerberus Capital Management, a private equity group, is using bankruptcy as an exit strategy. Sales and profits have been good but  to acquire Remington, Cerberus loaded them up with debt through a leveraged buyout (LBO) and now can’t sell. The debt has become a noose. Solution: file bankruptcy and dump the debt by voiding pension liabilities… then sell at a profit. “What causes a company to file for bankruptcy protection isn’t declining sales or thin profits but debt (and sometimes other obligations) it can no longer handle.” Rather than invest in the company to pay down the debt, it’s easier and more profitable to use bankruptcy. It’s a business strategy.

As a supplier to these companies, it’s logical to assume the risk is low. GM is a public company and Remington is an old, very well-known manufacturer backed by plenty of capital and professional management.

So what’s the problem? 

Large companies have sophisticated teams of people who know how to use the bankruptcy law to their advantage. If the company has too much debt or isn’t meeting its internal objectives, bankruptcy lets them solve problems while protecting shareholders. This isn’t new. In fact, it happens a lot. Hear one of my own clients describe how two of his largest, best paying customers both went bankrupt for non-financial reasons… just like GM is threatening in Korea and Remington has done recently. 

Conclusions:

1. Don’t be caught off guard. Protect your cash flow.
2. Don’t assume anyone is too big to fail. We learned this in 2009 but have largely forgotten it.
3. A good pay record doesn’t always mean much any more. Other strategic issues are in play. They have money, but that’s not the issue.
4. This can happen to you. Don’t have “normalcy bias”

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