On April 3, 2014, Brookstone Holdings Corporation and its affiliates (“Brookstone” or “Company”), developers and sellers of unique and high quality household products, filed a prenegotiated chapter 11 bankruptcy in Delaware. See In re Brookstone Holdings Corporation, Case No. 14-10752 (Bankr. D. Del.). But, don’t worry. The seller of $4,000 massage chairs does not appear to be going away. Rather, it has negotiated a deal with its secured noteholders to sell the company as a going concern through a court-supervised bankruptcy auction.
Headquartered in Merrimack, New Hampshire, Brookstone was founded in 1965 as a catalog company offering “hard-to-find tools.” In 1973, Brookstone opened its first retail store in Peterborough, New Hampshire. Today, the Company operates 242 stores across the United States, including 47 commonly seen at airports. While the retail segment constitutes approximately 70% of net sales, Brookstone’s product distribution also includes (a) consumer sales through traditional catalogs, e-Commerce and its website and (b) wholesale distribution to select resellers and corporate partners.
At its peak in 2007, Brookstone generated net sales of $563 million and adjusted EBITDA of $59 million. The tepid pace of economic recovery following the 1998 recession, however, hampered Brookstone’s efforts to restore its performance to pre-recession levels. Below is a snapshot (taken from bankruptcy filings) of Brookstone’s financial performance for the past decade through its three distribution channels (retail, catalog/e-Commerce and alternative distributions).
According to its current President, James M. Speltz, “Brookstone entered the economic downturn with a highly levered capital structure, and in an attempt to navigate the challenging environment, undertook a number of strategic initiatives to improve its cost structure, aimed primarily at boosting short-term performance and liquidity.” These effort included:
- eliminating unprofitable stores,
- reducing overhead,
- streamlining product development, and
- cutting investment into marketing/customer acquisition.
The cuts in investment included a 50% cut in catalog circulation, which negatively impacted revenues in a significant way. Mr. Speltz believes that as a result of these strategic initiatives, which included a 60% decrease in capital spending, “Brookstone’s stores became dated, a void was created in new merchandising, and its customer base was weakened.” In addition, Brookstone’s various leadership changes during the past 7 years resulted in a lack of long-term strategic planning.
In 2010, the Company sought to de-lever its balance sheet through an exchange of its second lien notes for cash (invested by Brookstone’s shareholders) and replacement notes. In 2011, Brookstone also repurchased outstanding 2012 second lien notes. As a result, Brookstone’s noteholder debt decreased from approximately $170,000,000 to $126,500,000. However, the remaining second lien notes would still mature in October 2014, and Brookstone was also required to make a substantial interest payment on these notes on January 15, 2014.
In Fiscal 2013, Brookstone implemented several additional cost cutting programs, including a reduction in staff and overhead expenses, in an effort to save approximately $25.8 million in annual expenses. The Company also began re-establishing long-term growth initiatives by investing in store productivity training and modestly increasing catalog circulation. Despite these and other efforts, however, Brookstone was unable to increase revenues and generate net income in amounts necessary to satisfy its near term debt maturities.
By the end of December 2013, it became clear to Brookstone that holiday sales would be substantially less than expected and that EBITDA would also be disappointing. Faced with a looming interest payment on, and near-term maturity of, the second lien notes, the Company engaged legal and financial advisors and began restructuring discussions with their creditors.
With the aid of investment bankers and other financial advisors, Brookstone embarked on a “dual track” strategy, pursuant to which (a) it pursued a comprehensive marketing process for the sale of Brookstone’s businesses, while (b) simultaneously negotiating with holders of second lien notes regarding a possible balance sheet restructuring (either in or outside of bankruptcy). A the same time, the Company and its senior secured lenders lead by Wells Fargo Bank, which were owed approximately $50 million, entered into a written agreement, whereby the senior lenders agreed to forebear taking collection action or exercising their rights in the Debtors’ assets during the sale and restructuring initiatives. This was a crucial aspect of the achieving success, because the senior lenders held first-priority liens on all of Brookstone’s assets and the Company’s financial position vis-a-vis the noteholders likely entitled the senior lenders to exercise their rights against these assets, which may have jeopardized the Company’s ability to restructure and realize a greater value for its other constituencies.
The contemplated restructuring seeks to achieve a deleveraging of Brookstone’s balance sheet through two main aspects. First, Wells Fargo’s senior credit facility will be refinanced through a postpetition loan made by the second lien noteholders and $30 million of the second lien notes will be rolled up into postpetition debt. Second, while the second lien noteholders initially proposed to convert their debt to 100% equity in the Company, Brookstone ultimately chose to enter into an agreement to sell the Company to Spencer Spirit Holdings, Inc., though one of its affiliates. The majority of the sale proceeds will be used to take out most of the remaining debt to the second lien noteholders.
Pursuant to the resulting stock purchase agreement, the buyer has agreed to pay a purchase price of approximately $146,265,000 million, including $120 million in cash. To ensure that maximum value for Brookstone, the buyer also agreed to allow his purchase price to be market tested through a competitive, bankruptcy auction process, which will be supervised by a bankruptcy court. Brookstone believes that the buyer’s stalking horse bid and resulting auction will ultimately bring the highest value for its assets.
The contemplated restructuring is supported by a restructuring support agreement between the Company and the majority of second lien noteholders, pursuant to which Brookstone agrees to (a) commence its chapter 11 bankruptcy; (b) obtain approval for the post-petition financing facility with the noteholders, and (c) obtain confirmation and implementation of a plan of reorganization that will be consistent with the terms and conditions of the restructuring support agreement and related term sheet with the noteholders.
The chapter 11 filing is also supported by a plan sponsorship agreement between Brookstone and Spencer, whereby Spencer agrees to acquire the Company at the agreed purchase price and pursuant to a stock purchase agreement, subject to a bankruptcy auction. The plan support agreement also incorporates the terms of the restructuring support agreement with the second lien noteholders.
As currently contemplated by this restructuring, the senior noteholders are allotted the majority of cash from the sale of Brookstone. However, such proceeds will likely not satisfy all of their prepetition claims, leaving them with deficiency claims that otherwise will be discharged and only partially satisfied through the plan. General unsecured creditors are currently allotted $1 million from the sale proceeds. Brookstone’s former shareholders will receive no recovery and their equity interests will be extinguished. It appears that most of the other creditors of Brookstone will not be impaired.
Because Brookstone’s sale will be subject to a bankruptcy auction, there always exists the possibility that more value could be realized to provide additional recoveries to creditors. Still, hope should be tempered by the fact that the sale was already market tested by investment bankers prior to the bankruptcy.
But, as this is a prenegotiated bankruptcy and not a prepackaged bankruptcy, details are always subject to refinement when a chapter 11 plan is proposed and creditors have an opportunity to vote and scrutinize such plan. (For more discussion regarding the facets of prepackaged plans, see Reddy Ice to Exit Bankruptcy and Premier Publisher School Books Files Bankruptcy.) As of yet, Brookstone has not yet filed a proposed plan, and most of the contemplated recoveries (except for equity, which is clearly out of the money) are only outlined briefly in the various plan support agreements entered into with Spencer and the second lien noteholders. In the end, however, the chapter 11 bankruptcy process inherently generates discussion amongst the various constituencies of a debtor regarding the slice of pie that they are entitled to receive.