Notes on Distressed Debt and Restructuring Investing

Overview

• Distressed debt and restructuring investing is a niche, growing sector within private equity, influenced heavily by local laws and bankruptcy regulations.
• Hedge funds are significant players, especially in distressed debt trading.
• The sector is counter-cyclical, performing better during economic downturns.

Investment Strategies

Distressed Debt Trading

• Purchase distressed debt at low prices (e.g., 40% of par value) and sell for profit.
• Focuses on market mispricing; short holding periods.

Distressed Debt: Active/Non-Control

• Accumulate significant positions in companies in bankruptcy to gain influence.
• Longer holding periods, more concentrated positions.

Distressed Debt: Control

• Gain controlling interest in bankruptcy proceedings to take over companies.
• Resembles buyout strategy post-bankruptcy.

Restructuring or Turnaround

• Target distressed companies using equity, aiming for control and restructuring.
• Involves deep knowledge of local bankruptcy laws.

The Role of Bankruptcy Law

• Essential for restructuring strategies; Chapter 11 of U.S. bankruptcy code is foundational.
• Different countries have different laws; requires tailored strategies.

Market Evolution

• U.S. bankruptcy law changes in 1978 set foundation for distressed debt market.
• 1980s saw the rise of high-yield bonds, leading to more distressed opportunities.
• S&L crisis in the late '80s also increased distressed opportunities.

Market Cycles and Globalization

• The sector's opportunities fluctuate with economic cycles.
• 1990s strong economy reduced opportunities, but Asian financial crisis in 1997 opened new markets.
• Distressed debt and restructuring have become global, with significant focus on Asia and Europe.

Summary

• Sector has evolved significantly over 15 years, becoming a global market.
• Counter-cyclical nature makes it attractive for risk diversification.
• Anticipation of new distressed cycles in U.S. and Europe is leading to new fund formations.

Key Individuals

• Kelly K. Deponte, Partner at Probitas Partners, head of research and due diligence for alternative fund placement activities.

Timeline Highlights

• 1978: Chapter 11 of U.S. Bankruptcy Code.
• 1980s: Surge in high-yield bond market.
• 1989-91: First major distressed deals post-junk bond boom.
• 1997: Asian financial crisis expands market globally.
• 2002: EU Regulation on Insolvency Proceedings.

Conclusion

• Bankruptcy law changes affect investment strategies and stakeholder outcomes.
• Future financial stress cycles will see evolving laws and strategies.