Editor’s Note: Jack O’Connor is an attorney at Sugar Felsenthal Grais & Helsinger LLP in Chicago. He focuses his practice on assisting clients across numerous industries in distressed and insolvency matters, including companies in the food and beverage industry. Jack’s practice also includes helping clients navigate business and regulatory issues in the beer, wine, and spirits industries.
At this year’s Craft Beer Conference, Bart Watson’s message to attendees was clear: The craft beer industry is entering a maturation period. Growth in the craft sector, while still present, has slowed, and the industry’s“new normal,” is setting in.
But what do closures mean for a mature industry? Many may assume that the only option available to a brewery that needs to wind up its business is to file for Chapter 7 or 11 bankruptcy protection to liquidate the brewery’s assets, often through a sale or orderly liquidation in Chapter 11, or a Chapter 7 liquidation.
But that’s not the case, and a look at recent history in the beer industry provides ample examples of alternatives to bankruptcy, many of which are less expensive, more efficient, and suitable means of selling or winding down a brewery’s affairs. Competition is increasing as the market continues to mature, and the fight to survive is becoming increasingly challenging. Operators in the craft beer industry would be wise to understand their options — especially owners who have personally guaranteed the obligations of their breweries. This article outlines alternatives to filing for bankruptcy protection, including their benefits and drawbacks.
- Out-of-Court Workouts
Before moving straight to wind-down options, out-of-court workouts should be considered. Workouts have become a common route for solving a company’s financial problems when the company is struggling but viable and has relatively few creditors to deal with. If a brewery recognizes it has financial troubles early enough, a workout can be the best route to regaining its footing and turning the business around.
As the name suggests, out-of-court workouts are handled outside the supervision of a court. In a workout, a brewery and its creditors will informally and privately negotiate to reach an agreement, under which the parties agree to repayment terms and conditions that repay creditors on a modified basis that the brewery can meet, and which satisfies creditors. Workouts are typically memorialized by written contracts. In the case of a brewery dealing with a secured creditor/lender, the contract may take the form of a “forbearance agreement,” in which the lender agrees to postpone enforcing its loan default rights for a period of time while the brewery-debtor works to right its ship financially.
The key benefits of workouts are that they are informal and are typically far less expensive than a bankruptcy filing. Workouts allow for a greater level of flexibility and creativity between a brewery and its creditors because the parties are dealing with one another without a judge supervising the process. Workouts are generally not public proceedings, which can save a brewery from addressing the persisting stigma of a bankruptcy filing with its consumers and other creditors. Ultimately, workouts can help facilitate a true turnaround of the brewery’s business without the need for a forced liquidation process.
Workouts are not a perfect solution for distressed breweries. They require that creditors consent to terms being proposed that the brewery is capable of meeting. For this to be the case, a brewery must be prepared to show its creditors that it has a viable business that is either currently cash flowing or will be in the near future. Additionally, the fact that there is no court oversight like there is in bankruptcy can mean that creditors have more leverage over the brewery-debtor than they would in court. For example, irate creditors are not prohibited from pursuing collection actions against a brewery in the context of a workout as they would in a bankruptcy.
- Distressed Asset or Equity Sales
Another means of realizing value before things get too bad is to run a sale process. When a brewery is overleveraged, it may engage in an investment banking process by selling its assets or a significant (likely controlling) equity stake in the brewery to a buyer with deep pockets, capable of paying down the brewery’s debts and giving it enough financial runway to continue operating.
A recent notable example of an attempted sale process is Green Flash. Before Comerica bank foreclosed its liens (a concept we’ll discuss later) and sold off a large chunk of Green Flash’s assets to WC IPA LLC, Green Flash engaged in an investment banking process under which it sought to sell equity in the brewery to new investors. The process unfortunately stalled, but the unusually public nature of the process provides good insight as to how a distressed sales strategy is often executed.
The key benefit to a sale process is to relieve a brewery from onerous debt obligations that could otherwise bury a good business. But often, this benefit comes at the cost of a loss of control for current ownership, either because the existing brewery/seller will no longer own its assets (both “hard” assets, like brewhouses, tanks, real estate, etc.; and “soft” assets, like intellectual property and contracts) or the existing owner’s equity in the selling brewery will be significantly diluted, resulting in a loss of control over the direction of the brewery’s future.
- Assignments for the Benefit of Creditors
When a brewery facing financial distress has no choice but to wind down its operations, one state-law alternative to a bankruptcy proceeding is known as an “Assignment for the Benefit of Creditors,” or an “ABC.” ABCs can facilitate the liquidation of a brewery’s business fast, without the delays imposed by a Chapter 11 bankruptcy. ABCs vary from state-to-state. In states like California, ABCs are governed by statute. In other states like Illinois, ABCs are creatures of common law, meaning that there aren’t specific statutes governing an ABC, but there have been enough state court decisions over time relating to ABCs that the “rules of the road” are generally understood by the parties and professionals involved in the ABC process.
In an ABC, a debtor-brewery will enter into an agreement with a third party, referred to as the “assignee.” Under the terms of the trust agreement, the debtor-brewery irrevocably assigns and transfers its assets to the assignee. The assignee notifies the brewery’s creditors of the assignment, then liquidates its assets as efficiently as possible. Liquidation may involve selling the brewery’s assets as a going concern/turnkey operation, or on a piecemeal basis. Sometimes an assignee will operate the brewery’s business for a time while this process is conducted. After the liquidation is complete, the assignee will distribute the net proceeds to the brewery’s creditors.
Recently, Speakeasy Ales & Lagers went into an ABC. Speakeasy presented a somewhat unique situation, however. Shortly after announcing that it was shutting down, the company was put into receivership (another concept discussed later in this article), resuming its operations as it looked for a going concern buyer.
ABCs provide a structured means of winding down a brewery’s business, and generally move much swifter than a Chapter 11 bankruptcy proceeding. Additionally the brewery assigning its assets to an assignee has more control of the process than it would in bankruptcy, because it can select the assignee who will administer its assets, as opposed to a Chapter 7 bankruptcy in which a trustee is randomly selected by the office of the U.S. Trustee (the bankruptcy arm of the U.S. Department of Justice) to liquidate the business’ assets.
A major drawback to ABCs, like most non-bankruptcy proceedings, is that there is no automatic stay imposed to prevent creditors from continuing collection actions against a brewery. But in the case of ABCs, most creditors will stop any collection activity against the brewery when given notice of the assignment, because the brewery no longer has any assets (they’ve all been transferred to the assignee) and ABC law generally prohibits creditors from pursuing the assignee for the brewery’s debts.
- Foreclosure & Article 9 Sales
In some cases, a brewery’s lender may force the issue of dealing with a distressed situation by foreclosing its secured loan against the brewery and holding a private or public sale of the brewery’s assets under Article 9 of the Uniform Commercial Code to satisfy its outstanding loan. This process may be conducted consensually, with the cooperation of the borrower/brewery, or non-consensually under a judicial or non-judicial process.
The case of Smuttynose Brewing is a good example of a “friendly,” foreclosure and Article 9 sale process (at least from an outside observer’s perspective). Smuttynose ran into trouble after taking on significant debt to fund a large expansion of its operations. Unfortunately, Smuttynose couldn’t grow sales fast enough to service its debt obligations. As a result, its lender elected to foreclose, hiring an auctioneer to sell the company’s assets at a public auction.
The Smuttynose case also illustrates another important aspect of foreclosure sales: the right of a lender to “credit bid” its debt at an auction. When credit bidding, a lender can participate at the auction as a bidder without paying cash (presuming the amount the lender is owed exceeds the amount it is bidding), because the amount of the lender’s loan is treated like cash at an auction. Smuttynose’s lender did exactly this at the auction. It was forced to make a “protective” credit bid of $8.25 million for Smuttynose’s business (presumably because it was owed much more than $8.25 million), and took possession of Smuttynose’s business and assets. It later identified a buyer after the conclusion of the auction.
The party most likely to benefit from an Article 9 sale is a brewery’s lender. But when the brewery is willing to cooperate in a foreclosure and sale process, costs can be reduced, and the business may continue if a buyer acquires the brewery’s business as a going concern, meaning jobs can be saved, the brand survives, and unsecured creditors/vendors can continue doing business with the brewery following the sale.
Receivership is a final option. For brewery owners, this is likely the least desirable alternative to a bankruptcy filing. Receiverships are (generally) creatures of state law, and are most often sought by secured lenders seeking equitable remedies against a defaulting borrower. While receiverships vary by state, they are generally appointed by court order, and the receiver acts as a trustee given control over the borrower’s assets and business operations. A receiver will frequently operate the borrower’s business and seek to sell the assets of the business under the authority granted by the court.
While the appointment of a receiver is typically sought by a secured lender, the receiver is not the lender’s agent. The receiver is an officer of the court (although the lender who seeks appointment will typically write the order appointing the receiver for the court). In the case of Fish Brewing Co. in Olympia, Washington, for example, a receiver was appointed by a state court to take control of a 26-year-old brewery’s assets and operations and was charged with preserving, protecting, and liquidating the brewery’s assets for distributing the proceeds to creditors.
While a receivership is not optimal from the perspective of a brewery owner, it does still hold some benefits over a bankruptcy filing if ownership doesn’t have a desire to continue operating the business. The process is generally less public than bankruptcy, and likely less costly for all parties involved. The major drawback to receivership is, of course, loss of control over a brewery’s business and operations where ownership and management have a desire to retain control over the brewery.
While none of these alternatives to bankruptcy are ideal, knowing the options available to a brewery dealing with financial distress is an unfortunate reality for brewery owners, investors, and their creditors in today’s marketplace. And while bankruptcy is certainly an option to be considered, it should not be thought of as the first—or only—option available when times are tough in an ever-maturing industry.