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Lawyers turn to ‘reverse M&As’ to help distressed companies

|Written By Daryl-Lynn Carlson

Due to the past year’s tough economy, a handful of lawyers have been building their expertise in assisting over-leveraged companies with financial restructuring to relieve debt.

‘It’s a relatively small group of people who’ve been doing this type of work,’ says Edward Sellers.

Colloquially, some lawyers refer to the projects as “reverse M&As” due to the nature of the work involved.

Edward Sellers, chairman of the insolvency and restructuring practice group at Osler Hoskin & Harcourt LLP, is one of several lawyers who have been in the thick of such work over the past two years. He describes it as involving distressed transactions.

“That can refer to the divestiture of underperforming divisions or assets or can be simply the shedding of contractual liabilities inside of an insolvency proceeding,” he says.

“It’s a relatively small group of people who’ve been doing this type of work,” Sellers points out. “Since [the] recession, more M&A lawyers have become involved in helping put these deals together.”

Sellers says that unlike past recessions, more companies have had to find recourse to manage debt under the Companies’ Creditors Arrangement Act that allows large corporations to restructure their financial affairs through a plan of arrangement to avoid bankruptcy while enabling creditors to still receive some payments.

“The difference is that in the context of the CCAA, there’s the concept of a planned sponsor coming forward to recapitalize the business and acquire the equity, and that’s a relatively recent phenomenon,” says Sellers.

“Also, there’s the credit bid where someone will come in and acquire the debt - the so-called loan-to-own strategy - which is also relatively recent over the last five years.”

He says it’s “not just a Canadian phenomenon,” although during this recession, “savvy and accomplished players such as Brookfield have been able to adapt these techniques and apply them successfully in Canada.”

An example is the recent acquisition of MAAX Corp., a bathroom products manufacturer, by Brookfield Bridge Lending Fund Inc.’s Tricap Partners Ltd., a private equity fund established by Brookfield Asset Management Inc.

“Brookfield did a credit bid to buy the assets in exchange for surrendering all or a portion of its debt,” explains Sellers, who acted for Brookfield in the credit bid transaction.

Sellers also acted for Circuit City, whose U.S.-based parent company went bankrupt, threatening the closure of the company’s 750 retail locations called The Source.

“The credit markets were virtually closed, so they filed for court protection under the CCAA,” says Sellers.

Then, Bell Canada Enterprises stepped in and purchased the retail stores in a strategic move that enabled it to enhance its market share by eliminating competitor Rogers’ products from the The Source. The deal closed a few months ago.

Stelco Inc. leveraged similar means to divest itself of a few lines of business in 2006, which is when the trend began to take hold in Canada, says Sellers.

In the Stelco deal, lawyers at Osler acted for one of the purchasers and also for Tricap, which bought Stelco’s operating assets through a plan of arrangement.

“So Stelco both sold a portion of its business but also restructured itself by getting a plan sponsor like Brookfield to come forward with a large amount of money and underwrite the acquisition transaction through a plan of arrangement,” says Sellers.

He says only a handful of lawyers do such work routinely because of the complexity involved and familiarity with the work required.

In Ottawa, where besides government and retail the business base is predominantly comprised of the technology and biotechnology sectors, more companies have been seeking to sell either part or all of their assets, says Jeremy Farr, a partner at Borden Ladner

Gervais LLP who does a significant amount of mergers and acquisitions work.

“Certainly, with the recession and equally important in Ottawa where all the companies are technology-driven and dependant on access to capital that no longer exists, companies had to significantly reduce their burn rate to maintain cash resources to see them through,” says Farr. “So when the recession hit, the impact on Ottawa was significantly problematic with the complete absence of venture capital.”

He says many businesses in Ottawa had already been in sale mode since venture capital dried up in late 2006 before the recession hit full steam.

“Many started disposing of businesses that they saw as no longer key to their core,” he says.

“Then, the second stream was to unwind themselves out of long-term contracts where the contract might have been profitable but they couldn’t get the financing to support the working-capital needs of the contract.”

He says shareholders are particularly supportive of selling all or part of a distressed business.

He adds that while it’s not uncommon for a company to sell off a portion of its business that isn’t considered core even in a healthy economy,  “certainly a recession can force the issue.”

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