Fibertower Corp fka FBBT

[rfarmer]

Valuation - The Cornerstone of the Bankruptcy Process

http://www.srr.com/article/valuation-cornerstone-bankruptcy-process

Plan Confirmation

In order for a company to emerge from Chapter 11 bankruptcy, a plan of reorganization must be submitted to the court and approved. Under Section 1121 of the Code, the debtor in possession initially has the exclusive right to file a proposed plan of reorganization, typically for a period of at least 120 days. A plan of reorganization places creditors and other interest holders into classes and states what each class will receive upon emergence from bankruptcy.

Valuation is an integral part of the plan confirmation process, from the original proposal, to negotiations, through plan confirmation. In order for a debtor (or any other constituent for that matter) to propose a plan, a reorganization value of the company must be determined. The reorganization value is the starting point to determine what each of the stakeholders will receive when the debtor emerges from bankruptcy (i.e., it represents the business enterprise “pie” that needs to be split up fairly into “slices” for the various stakeholders). Various classes of secured and unsecured creditors, as well as equity holders, must review the proposed plan and vote for or against it. In order to make an informed decision, the creditors must know both the value of their collateral as well as the reorganization value of the company. In addition, it is also necessary to value any deferred payments or securities being offered to stakeholders in satisfaction of their claims. In many bankruptcy cases, valuation issues are a significant point of contention between the various stakeholders.

A closely related topic to the valuation issues that arise during plan confirmation is whether the plan is feasible. The court does not want to approve a plan only to have the debtor re-file for bankruptcy shortly after emergence. As such, in addition to valuation arguments, the various stakeholders will also present evidence – often by the same valuation expert – as to the feasibility of the proposed plan. Significant due diligence is completed with respect to a review of management’s forecasts inherent in the plan, market trends, and the debtor’s historical performance versus past projections. To the extent management’s projections are divergent from industry sources or consensus estimates, it is imperative for the valuation expert to be able to bridge the gap to prove that the projections, on which the plan of reorganization is based, are realistic. Further, if management has historically had a poor track record of hitting projections, increased scrutiny is likely warranted, especially in situations when the same management team performs the same budgeting/forecasting process each year and consistently misses the actual financial performance at the same rate.

Based on Section 1129 of the Code, if a dissenter votes against the plan, but the dissenter’s class accepts the plan, the plan may still be confirmed assuming the “best interests” test is met. The best interests test states that the value to be received by a dissenter within an impaired class under a plan of reorganization must be equal to or greater than what the dissenter would have received if the debtor were liquidated in a Chapter 7 bankruptcy. If that test is not met, then a plan of reorganization cannot be confirmed, even if only one dissenter exists.

Another portion of Section 1129 of the Code describes the process of confirming a plan if an entire impaired class does not accept the plan of reorganization (oftentimes described as a “cramdown”). If an impaired class does not accept the plan, then not only must the “best interests” test be met, but the plan must also: (i) be “fair and equitable” with respect to the dissenting class; and (ii) not “unfairly discriminate” against the dissenting class in favor of other classes. This rule requires that no class of creditors or equity holders can receive value through the reorganization until all classes that are senior have received full compensation of their claims. This concept is often referred to as the “absolute priority rule.” Given the ambiguity of the relevant conditions described in this section, as well as the determination of the total value of the assets that are to be distributed, it is very important for all stakeholders to have a very good understanding of the value of the assets and the company in question in order to make informed decisions and present reasonable, well substantiated positions at a plan confirmation hearing.

It is not unusual for proposed plans to satisfy the claims of certain classes of creditors based on deferred payments over time. In order to calculate the value of such deferred payments, it is necessary to estimate an interest rate (sometimes referred to as a “discount rate”) that properly reflects the economic characteristics (e.g., investment risk, duration, time value of money, etc.) of the deferred cash payments during the expected time horizon. In “cramdown” situations, this interest rate should be estimated using market evidence of relevant interest rates and investment rates of return on comparable assets or businesses. In order for a plan to be confirmable, when the cramdown rate has been properly estimated and applied, the value of the deferred cash payments will be equivalent to the value of the claim. The Code provides no specific guidance regarding how the cramdown rate should be determined. Over the years, bankruptcy courts have accepted a variety of methods for determining cramdown rates and this disparate treatment has resulted in more than a fair amount of controversy and litigation.5

A court case in which the valuation of the debtor played an important role in the plan confirmation process is In re Bush Industries.6 In this case, the debtor’s plan proposed to cancel pre-petition equity holders, as the debtor concluded that the reorganization value of the company was below the equity hurdle. The equity committee asserted that the value of the debtor was greater than the amount of outstanding claims, thus the equity of the company had value. Both the debtor and the creditor hired valuation experts to testify on their behalf. After reviewing each of the experts’ testimony, the court ruled that the value of the company did not exceed the equity hurdle, and thus the pre-petition equity could have no value upon emergence.

In addition to the valuations performed by the experts in Bush, other market evidence involving arm’s length transactions was cited by the court in support of its opinion. For example, several creditors liquidated their pre-petition positions at a discount, which implied that they accepted less than face value while holding a claim that was senior to the old equity holders. In addition, one of the secured creditors negotiated a deal with the other secured creditors whereby it was able to opt out of the plan. This creditor negotiated a deal whereby it elected not to participate in the plan and receive new stock in the reorganized debtor, but rather, to accept a dollar amount that was less than the face amount of its claim. These two market transactions whereby parties, which were senior to the old equity holders, accepted less than the face amount of their claims, buttressed the debtor’s valuation conclusions presented at trial supporting a value below the equity hurdle.
- See more at: http://www.srr.com/article/valuation-cornerstone-bankruptcy-process#sthash.Lw88cEzM.dpuf