Supply Chain

Closing the Book on Bankruptcy

The CFO of Houghton Mifflin Harcourt explains how the publishing giant purged its balance sheet of a debt load that was devouring its operating cas...
Vincent RyanJanuary 10, 2013

Houghton Mifflin Harcourt’s finance group overhauled its forecasting process in 2010, incorporating a deeper understanding of customer needs and “an entirely new level of scenario analysis,” a finance staffer told CFO at the time.

Better forecasting, however, didn’t clear the publishing company’s balance sheet of a pile of legacy debt created by two leveraged buyouts. That took bankruptcy. Last year Houghton Mifflin Harcourt (HMH) filed Chapter 11 in the seventh-largest such transaction (by assets) last year. (See chart below.)

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But how does a business, whose industry is undergoing huge change and whose customers are also cash-strapped, recover from a series of leveraged buyouts that loaded it with huge interest payments?

Eric Shuman, the CFO of HMH since November 2011, says it wasn’t easy. “This is a process that you hopefully go through only once in your career,” he says. (Shuman also served as the company’s chief operating officer for two years.)

Houghton Mifflin filed a prepackaged Chapter 11 and emerged 32 days later. The transaction wasn’t particularly remarkable to outsiders, but Shuman listed a number of favorable circumstances, as well as key decisions, that pulled the rabbit out of the hat:

HMH didn’t wait until it was on the brink. The 180-year-old publishing company had about $400 million in cash at the end of 2011 when CEO Linda Zecher and Shuman sat down to assess the situation and figure out the rate of burn. Although previous management believed the company had enough liquidity to make it through 2014, Shuman and Zecher’s projection showed it would hit the wall a year earlier. Thus, while HMH had some wiggle room, the executives immediately went to work on a restructuring plan. “We didn’t want to have negotiations with [creditors] when we were on our last nickel, so part of the strategy was to do it when we didn’t absolutely need to, as opposed to when we had no choice,” says Shuman. As a result, HMH retained some leverage in negotiations and had the ability “to delay the process if things weren’t going the right way.”

HMH sought full capitalization of its debt. Shuman credits Zecher with setting the goal of converting the entire $3.1 billion of debt into stock. “I think everyone was skeptical we could do it, because you almost never get that,” says Shuman. But “investors understood the situation and were willing to take an equity ride with us.” The makeup of the debt and equity holders was key. Many firms owned both equity and some of the company’s senior secured debt. “It made the process go a little more quickly than it might have had we not had the crossover,” says Shuman. It also helped that equity holders who voted in favor of the deal would get warrants exercisable for up to 5% of equity in the restructured firm.

Somewhat unusually, these investors were mostly hedge funds that specialized in distressed debt. (Among the prebankruptcy lenders to HMH, according to The Financial Times, were Paulson & Co., Apollo Global Management, BlackRock, and Guggenheim Partners.) They had gained a piece of the company in March 2010 when it went through its first debt restructuring. Many company executives don’t take kindly to such investors, but Shuman says they are very knowledgeable about restructurings and “they want to work with the company to put it in the best position to succeed.”

HMH communicated early and aggressively. It’s cliché in a restructuring, but CFO Shuman believes the company’s early outreach to customers, suppliers, and employees was crucial, as was being transparent with investors. When rumors started circulating about HMH’s financial condition, company executives started meeting with customers and suppliers to get ahead of the story. Shuman and Zecher used social media, e-chats, and “notes from the CEO” to keep all informed about the restructuring’s progress. “We never went dark,” Shuman says.

The main message: business would continue as usual and HMH would not ask trade creditors to take any haircut on HMH debt. That was critical, Shuman explains, because the company is a net user of cash in the first half of any year, when it’s producing textbooks for the pre-kindergarten-to-12-year-old segment. “We didn’t want our manufacturing and paper vendors to start to withhold credit from us,” he says. Even a 30-day or 60-day lag in HMH’s supply chain would have prevented it from meeting customer orders for the following September.

Upon emergence from its prepackaged bankruptcy transaction, HMH had a $250 million term loan and a $250 million revolving line of credit from Citigroup Global Markets. The revolver has not been tapped. HMH had $375 million of cash and short-term investments at the end of September 2012.

HMH, Shuman says, is now adequately capitalized. The company is also investing in growth again. Last November it used an undisclosed amount of cash to buy assets from John Wiley & Sons, including Webster’s New World Dictionary and CliffsNotes. To position itself for the migration to digital, it also continues to develop self-paced electronic products for the grammar-school set.

There are positive signs in the pre-K-to-12 market, but with municipalities yet to fully recover from the housing crisis’s devastation of their revenue base, the market remains volatile, Shuman says. A full turnaround of the housing market will be critical. “Real estate has started to stabilize, and that really underpins the funding of our business,” he says.

In the meantime, HMH won’t be hesitant to tap its debt capacity, Shuman says. “But if we did add debt, it would have to be serviceable.”

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