It is the 21st of October 2019

'Chapter 22' Bankruptcy Filings Increasingly 'En Vogue' For Struggling Retail Sector

In 2009, U.S. Shipping Partners LP accomplished what we believe was a completely unprecedented feat when they managed to confirm a bankruptcy plan of reorganization in the Southern District of New York that encumbered the new company with more debt than their investment bankers said the company was even worth.

Unfortunately, such illogical pro forma capital structures are more frequent than you might think and they're driving a surge in so-called 'Chapter 22' filings among retail companies.  As Bloomberg notes this morning, of at least 10 merchants to file for Chapter 11 protection from creditors in the past year, four are taking the trip to bankruptcy court for the second time in as many years.

While the ins-and-outs of bankruptcy are inscrutable to the average customer, at its heart the process exists to give beleaguered companies a fresh start free from crippling debt. The recent spate of “Chapter 22s,” as the industry sardonically refers to second filings, demonstrates an unpleasant truth in corporate finance: It’s not always enough to keep the companies alive.


Recent “Chapter 22” retail cases include that of American Apparel, which in late 2016 entered a second bankruptcy 13 months after its first, and Wet Seal, which in February filed for the second time in two years. Eastern Outfitters was sold in June to Sports Direct after its second bankruptcy in less than a year. And RadioShack in March began a second bankruptcy process, two years after emerging from its first.

Chapter 22


Of course, Chapter 22 filings are hardly a new phenomenon but they seem to be growing in frequency courtesy of a more aggressive, hedge fund investor base that is unwilling to give up their capital structure seniority for a larger piece of equity.

“Unfortunately, there’s a natural pressure to over-lever a company coming out of bankruptcy,” said Keith Maib, a senior managing director at turnaround advisory firm Mackinac Partners. “The old holders want to continue to be debt holders,” he said, which makes it difficult for a company to reduce the amount of money it owes.


Indeed, a study by a group of finance professors in 2009 found that on average, companies put through Chapter 11 reorganizations emerged from the process with higher debt ratios than their industry peers. Creditors’ priorities in the courtroom skew toward expediting the process and preserving their investments, the professors explained, which means their interests aren’t always in line with that of the company.


“Post-reorganization capital structures are often overly burdened with debt due to strategic negotiations among claimholders who generally are reluctant to give up senior claims,” the researchers wrote.

So, who's next?  Well, a total of 25 retailers have filed bankruptcy so far in 2017 with debt aggregating to over $6.4 billion.

That said, the odds-on favorites for the next chapter 22 is more likely to rest with some older vintage bankruptcies like Eddie Bauer which first filed in 2009 or Sears (Kmart) which emerged back in 2002.

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