One year, three different capital structures and two restructurings — one in-court and one out-of-court. This has been a hell of a twelve-month stretch for David’s Bridal Inc. Clearly performance continues to sh*t the bed.

A year ago at this time the company was pre-bankruptcy. It had 311 stores, 9,260 employees and a $775mm capital structure split among (i) approximately $25.7 million in drawn commitments under its Prepetition ABL Agreement; (ii) an estimated $481.2 million in outstanding principal obligations under its Prepetition Term Loan Agreement; and (iii) an estimated $270.0 million in outstanding principal obligations under its unsecured notes. It filed a prepackaged bankruptcy on November 19, 2018. It confirmed its plan of reorganization in early January and the plan went effective almost 60 days after the filing.*

Under the plan of reorganization, the company shed hundreds of millions of debt, wiping out its private equity overlord, Clayton, Dubilier & Rice, LLC (except to the extent they owned unsecured notes). The company emerged from bankruptcy with (i) a $125mm asset-backed loan from Bank of America NA (the “ABL”), (ii) a $60mm “Priority” term loan agented by Cantor Fitzgerald and (iii) $240mm L+800bps “Takeback” term loan paper (also Cantor Fitzgerald). The term lenders — including, Oaktree CLO Ltd., a collateralized loan obligation structure managed by Oaktree Capital Group** — walked away as owners with, among other things, the takeback paper and the common stock in the reorganized entity. The unsecured noteholders received a pinch of common equity and warrants. The initial post-reorg board was reconstituted to include a representative from Oaktree, a former executive from Ralph Lauren, a former banker, a senior partner from Boston Consulting Group, and a venture capitalist with experience in the early stage consumer products space.

It didn’t take long for cracks to form. In May, S&P Global Ratings downgraded David’s Bridal’s credit rating into junk territory; it noted that the company’s performance "remained significantly weaker than anticipated after emergence from bankruptcy" and it “expect[s] poor customer traffic will pressure operating performance and lead to added volatility.” The ratings agency gave both term loans the “Scarlet D” for downgrade, noting that the capital structure was “potentially unsustainable based on its rapidly weakening operating performance, which makes it vulnerable to unfavorable business and financial conditions to meet its commitments in the long term.” The term loan quoted downward. The rating proved to be prescient.

Six months later and eleven months post-confirmation, it is clear that the balance sheet was NOT right-sized to the performance of the business. On Monday, the company announced that it obtained a new $55mm equity infusion from its existing lenders. Lenders unanimously exchanged “$276mm of its existing term loans into new preferred and common equity securities” leaving the company with $75mm of funded debt exclusive of the untapped $125mm ABL. The equity that CD&R and the other unsecured noteholders received are clearly worth bupkis today. Those warrants? HAHAHA. Wildly out-of-the-money. Peace out CD&R!

The question is why did this situation flame out so quickly? On a macro level, there are secular changes taking precedence in the marriage space: things just aren’t as formal as they used to be. On a micro level, clearly the company continues to suffer from operational challenges that were not addressed during the filing. Nor post-emergence. Per Bloomberg:

David’s lost its way with customers under prior management, Marcum said in the interview. When the company launched its online marketplace, it was a separate e-commerce profit that had different pricing and marketing promotions than the stores. “Consumers today are very smart and they see that,” [CEO James] Marcum said. “It caused a lot of friction” and an “extremely poor experience” for customers.

Ummm, okay, but wasn’t that supposed to have been fixed by now??

The company underestimated the negative impact that Chapter 11 would have going into its strongest selling period, and the competition “took advantage of it,” Marcum said.

Clearly the lenders underestimated the impact, too. How else do you explain the thinking around 10+% paper?

Given that the paper steadily quoted down for months leading up to this transaction, it’s obvious that (i) brides-to-be were steering clear from David’s Bridal after seeing media clips about other brides getting burned by bankrupted dress sellers, (ii) consequently, the lenders saw a constant stream of declining numbers, and (iii) as they learned more about the state of the business, lenders scrambled to try and dump this turd before a wipeout transpired. Spoiler alert: it has transpired.

As for the capital structure, clearly this thing came out of bankruptcy over-levered: it looks like the take-back paper was driven, in part, by CLOs in the capital structure. Callback to just a few weeks ago when, in “💥CLO NO!?!?💥,” we wrote (paywall):

…most CLO fund documents also don’t permit CLOs to take on new equity in restructurings. This limitation, by default, pushes CLOs towards “take-back paper” (read: new debt) in lieu of equity. If you’re a regular-way lender on an ad hoc group full of CLOs, then, this makes for an interesting dynamic: you may prefer — and have the latitude — to (i) swap debt for equity, thereby taking turns of leverage off to right-size the reorganized debtor’s balance sheet and (ii) give the reorganized entity a fighting chance to survive and drive equity returns. Your CLO counterparts, however, have different motives: they’ll push for more leverage. This misaligned incentive can sometimes get so bad that ad hoc groups will have to negotiate amongst themselves the go-forward capital structure without even getting management input. In this scenario, management projections are besides the point. If you’re looking for some explanation as to why there appears to be a rise in Chapter 22 filings, well, this might be one.

Not everything will have to file for bankruptcy a second time. But, as a practical matter, the result is the same here in terms of a capital structure refresh. Call this a Chapter 11.5.***

*Shockingly, the company didn’t boast of a “successful restructuring” like every other retailer-destined-for-a-chapter-22 tends to do. Perhaps retailers are now taking PETITION’s “Two-Year Rule” into account? 🤔😜

**The term lenders that made up the Ad Hoc Term Lender Group included a hodgepodge of private equity funds, hedge funds and CLOs.

***We really struggled with a witty thing to label a fact pattern where, within a year of bankruptcy, a company has to do a an out-of-court balance sheet refresh without going into a formal Chapter 22. Any ideas? Email us.