Emerging from Chapter 11 Message Board

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Microcap & Penny Stocks : Emerging from Chapter 11

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To: tom who wrote (3)	5/18/1998 10:59:00 PM
From: Crossy	of 19

Tom & all, let me post my impression about important things to consider and to look for in bankuptcy situations.. Generally it's important to examine the "Plan of Reorganization". In fact just look for this phrase with Your browser - it's a legal item and You will always find it. Important aspects: 1) New common issued. How many shares & class of shares ? Capital Structure: debt & equity of the recapitalized company. Use asset base of the new entity minus liabilities and equity base of the new entity as an estimated book value - this should get You an idea about a fair share price after the reorg, assuming expected price to book value of 1 to 1.5 which is average valuation, unless expected bigger profits lead to another assumptions. 2) Check who gets what. Often holders of the "old common" shares: this time Your MRVGQ get NOTHING. Phrases are "shares canceled" or tenedered or anything like that. However if THEY are just subject to some dilution instead of cancelling they retain their value and rise big. The magic phrase here "holders of old common interest (i.e. old common stock) will retain such an intrerest". The latter magic formula You could have perceived at Today's man Reorg (TMAN)... 3) How to benefit from a reorg ? 2 ways: the equity side and the dfebt side. You can buy old common (if the plan of reorg indicates that they will retain their interest or get good warrants or just will have some reverse split but shares aren't cancelled). Or You can wait for new common issued and buy it after the company emerges from reorg. This is the best and safest strategy because the creditors are often given new common stock. If some are eager for cash they sell immediately when new common starts trading thus temporarily depressing the stock. You can get in VERY CHEAP here - I do recommend this as the safest way to profit from a done reorg 4) You can also get in thru the creditor's side if any debt of the Chapter 11 company is traded publicly - often this is traded as a huge discount. This is safer than buying the old common. There's a distinction btw. secured and unsecured debt. Secured debt is furnished first. So getting senior secured notes may be safer. But unsecured credit is also nice because often big chunks of new common stock is issued to holders of unsecured credit notes 5) Watch the performance of the company during the chapter 11 process. Look how the "restructuring" is handled, what is disposed off. Call the CFO and ask how the axe was grinded. How inefficient layers of management were streamlined. Was important new mangement talent acquired ? Was there top line growth ? Is there a plan for new improved management reporting tools ? Is the IS-infrastructure of the company to undergo a drastic change ? I personally see IN-sourcing of data - mostly transactional data that was historically handled on outsourced mainframes as the best "strategic" IS asset, simply because if the company is moving over to PC based clustered servers (Intel based SMP things) and embarks on Internet, a new level of data granularity will be available strengthening decision support for management thus providing for future top & bottom line growth 6) Is there any serious litigation still unresolved and pending ? What are the consequences in best and worst case ? 7) Last but not least check the financial ratios while in Chapter 11. HAve the COG and SGAA ratio as terms of net sales improved while in Chapter 11 ? Especially consumer-goods companies and retailers often do file monthly 8-K with the SEC which contain monthly operating statements, Read them and make a time series. If this depth of monthly granularity is not available use the 10Q of the company in Chapter 11: Check COG and SGAA of pre-Chapter 11 company and then compare the percentage of net sales post chapter 11. If there is a big improvement then this could be a potential HUGE winner. Reason: inefficiencies of markets. No broker will cover the company straight from the start and confidence needs time. Especially important is the EBTIDA ratio: Earnings before Interest Taxes Depreciation and Amortization, only calculateable if the company publishes Depreciation, Interest and Amortization as seperate items. That gives You an indication of earnings in a NO-leverage (no debt) scenario. It also tells You about the cash-flow the company can generate. For retailers also look to the turnover ratio: NET SALES divided by INVENTORY at end of period. Good retailers (best I know is Paul Harris: PAUH) have huge ratios thus saving on capital comitted to inventory: PAUH turnover ratio is greather than 5 which is outstanding. Beware that the structure of an operation usually has an effect on this ratio as has logisitics (JIT delivery and capabilities) Ok so far, so good. Let me conclude to engage in a position (a long term hold) of the NEW common stock only if COST AND CAPITAL structure of the new company looks in order. At least 5% net margin before interest should be attainable. best wishes CROSSY

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