Financing complexities come to fore
Aug. 20, 2013
While the bakery workers’ strike was the trigger prompting the break-up of Hostess Brands earlier this year and the subsequent realignment of both wholesale bread and cake baking, highly complex financing and credit arrangements also had a critical role. The two bankruptcies that preceded the demise of what once ranked as the nation’s largest wholesale baking company led to a series of steps by banks and other creditors that ultimately created an entity whose survival became increasingly doubtful as it depended on an ultimately impossible series of favorable events. The final outcome reflected the way exotic financing arrangements came into play. Watching these credit-related surprises unfold reinforced the need for attention by all companies vulnerable to such developments, and that certainly includes the grain-based foods industry.
Second- and third-lien debt and creditors ending up with almost all the equity were among the financing steps undertaken in order to save the Hostess business. The precarious financial situation prompted the decision to shut the company in the wake of the strike. Liquidation followed, including the sale of assets to other companies. Thanks mainly to positive perceptions about baking, proceeds exceeded expectations. At the same time, it is likely that even the most nimble of Hostess Brands creditors does not regard its position in providing funds to that company a successful venture.
At least what happened with Hostess and what is occurring in the American food industry do not merit the same sort of critique as leveled at the United Kingdom food industry in an article that appeared earlier this year in the Financial Times newspaper. Reviewing the poor experience of U.K. banks in making loans to the food industry, the newspaper accused lenders of supporting “zombie companies.” These are defined as barely able to service their debt, in many instances only paying interest or converting debt into equity. As a result of the vulnerability of many companies, British grocers have pummeled their suppliers’ margins in a further threat to survival. Companies in baking and other food industries are cited as examples of deals gone bad. One cake baker was sold by a bank at a price described as ”a few crumbs of what it was once worth.”
The newspaper lists leading food companies that have ended up either controlled or fully owned by banks. It quotes one industry expert as saying, “In previous recessions banks allowed companies to go to the wall when they got into trouble. Now, banks step in when the best thing that could have happened is to close them down.” The article challenges what it describes as the model for food companies, saying “the model is not bust but a lot of these companies are only paying interest and not paying down core debt.” Amplifying on this, it quotes a food executive saying, “So the banks are asking, What do we do? Let’s think of it as an option on the future and just roll over debt.”
As distant as England may be from America in judging exposure to similar developments, the U.S. finance and credit markets face an array of issues that will affect grain-based foods as much as any other industry. Not far out of sight as a source of worry is the indication that the largest brand companies are about to extend terms of payment from a customary 60 to 120 days in one instance and from 45 to 75 days in another. Most of the complaining about this change has come from advertising agencies, but it appears that the decision, described as “iniquitous,” also applies to payments owed commodity and other ingredient suppliers. Considering that the higher cost of dealing with volatility in commodity markets is cited as the main reason for the new payment terms, such a move is horribly ill-advised. It has all the marks of steps that will only worsen a difficult situation that obviously requires caution rather than precipitous missteps.