Colt Manufacturing Bankruptcy
Colt Manufacturing and 9 affiliates filed for protection under Chapter 11 of the United States Bankruptcy Code on June 14, 2014 In the United States Bankruptcy Court for the District of Delaware under Case No. 15-11296-LSS-11.
The Debtors in these cases, along with the last four digits of each Debtor’s federal tax identification number, are Colt Holding Company LLC (0094); Colt Security LLC (4276); Colt Defense LLC (1950); Colt Finance Corp. (7687); New Colt Holding Corp. (6913); Colt’s Manufacturing Company LLC (9139); Colt Defense Technical Services LLC (8809); Colt Canada Corporation (5534) ; and Colt International Coöperatief U.A. (6822); CDH II Holdco Inc. (1782). The address of the Debtors’ corporate headquarters is: 547 New Park Avenue, West Hartford, Connecticut 06110.
Nikhil Menon is the Perella Weinberg Partners LP (“PWP”) in the financial restructuring group and one of the lead restructuring advisors involved in these cases. PWP is the proposed financial advisor to Colt Holding Company LLC and its affiliated debtors (collectively, the “Debtors” or “Colt”).
Keith A. Maib is the Chief Restructuring Officer of Colt Defense LLC (“Colt”) and discusses the filing:
“Colt is one of the world’s oldest and most iconic designers, developers, and manufacturers of firearms for military, law enforcement, personal defense, and recreational purposes and was founded over 175 years ago by Samuel Colt, who patented the first commercial successful revolving cylinder firearm in 1836 and began supplying U.S. and international military customers with firearms in 1847. Colt is incorporated in Delaware and headquartered in West Hartford, Connecticut.
“As will be explained in detail below, the Debtors have solicited acceptances for a prepackaged chapter 11 plan of reorganization (the “Initial Prepackaged Plan”) from holders of its 8.75% Senior Notes due 2017 (the “Senior Notes”) and an amended prepackaged chapter 11 plan of reorganization (the “Amended Prepackaged Plan”). The voting deadline on the Amended Prepackaged Plan expired on June 12, 2015. Based on the results of the solicitation, the Debtors have determined that confirmation of the Amended Prepackaged Plan is not possible and therefore have filed the Sale Motion (defined below) to facilitate an expeditious sale of substantially all of the Debtors’ assets as a going concern (the “Sale Transaction”) and to ensure the continuation of their business.
“The Company’s present situation concerning customer confidence and its ability to meet current customer demands for finished rifles and handguns is fragile. Paramount among the needs and sensitivities of the Company’s key customers has been continued assurance of timely delivery of finished products without compromising quality. One must understand that the Company is obligated to the U.S. Government to deliver product at “ramped up” rates by year end, which directly ties into the Company’s business plan forecast. Critical to meeting rifle and handgun delivery obligations to the U.S. Government is obtaining parts from suppliers uninterrupted. Over the last nine months the Company’s liquidity issues have done damage to its supply chain. The Company is subject to significant scrutiny from the U.S. Government related to its ability to meet delivery commitments, particularly with regards to the M240B and M240L medium machine guns and spare and replacement parts. Any further deterioration in the Company’s financial situation will put additional stress on the availability of critical raw materials and parts and could result in the loss of significant business from the U.S. Government. In addition, the Company’s sales to foreign governments would be negatively impacted by any loss of sales to the U.S. Government because foreign governments seek to purchase rifles from gun manufacturers that make such products for the U.S. military. As will be discussed below, approximately 40% of the Company’s consolidated revenues are attributable to the U.S. government and foreign governments.
“It is virtually certain to me that unless the Debtors’ chapter 11 filings convey a clear and convincing message to their customers and vendors that the Company’s financial issues will be solved in these proceedings swiftly, the Company may lose U.S. and foreign government business that could lead to a significant diminution in the Company’s value. Based on the foregoing the Company will not survive protracted chapter 11 litigation and delay; the best path forward for the Company and its stakeholders is approval on an expedited basis of the Sale Transaction. The only other alternative is a chapter 7 liquidation of the Debtors’ assets that would substantially diminish asset value, curtail the critical delivery of weapons to military and law enforcement agencies around the world, leave nearly 800 employees out of work, cause the termination of health benefits and jeopardize retiree benefits for current and former employees, yield unsecured creditors (including trade creditors and vendors) potentially little or no recovery, and eliminate a viable business that generates tax revenue and for the West Hartford, Connecticut community.
Overview of Colt Bankruptcy
“Since my retention on March 11, 2015, I have played a central role in the Debtors’ pursuit of a consensual restructuring transaction. What has been self-evident to me from the outset of my engagement is the fact that the Company is suffering from an over-levered capital structure that has resulted in ongoing liquidity constraints. Moreover, the burdens of existing public reporting requirements have diverted a vast amount of time, money, and energy away from solving for operational inefficiencies. While a great deal of progress has been made in improving the Company’s operations, the liquidity issues caused by the excessive amount of debt on its balance sheet remains an overriding problem.
“For the reasons discussed below, I strongly believe that unless the Company solves its liquidity issues and de-levers its capital structure through an expedited section 363 sale of the business as a going concern, the Company will simply not survive, and the Debtors will be forced to convert these chapter 11 cases to chapter 7. In other words a protracted chapter 11 case is not sustainable.
Capital Structure and Obligations
“The capital structure of the Company is relatively straightforward. The Company’s secured debt consists of a $72.9 million term loan (secured by a first lien on intellectual property and a second lien on all other assets), a $35 million senior loan (secured by a second lien on intellectual property and a first lien on all other assets), and $250 million in 8.75% Senior Notes due 2017.
“The Company operates out of facilities located in the U.S. and Canada.
“U.S. operations occur primarily at a facility located in West Hartford, Connecticut that is leased to the Company by NPA Hartford LLC, (the “Landlord”), which is a party related to and managed by an affiliate of the Sponsor (defined below). This lease (the “West Hartford Facility Lease”) is set to expire on October 25, 2015.3 Canadian operations occur at a facility owned by one of the Debtors’ Canadian subsidiaries.
“The Company is also managed by its equity sponsor Sciens Capital Management (the “Sponsor”) pursuant to two consulting agreements. Under a July 2007 financial advisory agreement the Company pays Sciens Management LLC an annual aggregate retainer of $330,000. This fee is payable monthly in advance. Under a July 2013 consulting service agreement the Company pays Sciens Institutional Services LLC an annual aggregate fee of $650,000 payable quarterly in advance.
“During the second half of 2014 the Company continued to experience slow sales across all of its core business channels (commercial, U.S. Government, and international). Commercial sales were off from a commercial sales bubble in 2013 driven by fears of increased future regulation . International sales were soft in 2013, given the maturation of a large contract with a Malaysian customer and relatively soft sales to the Canadian government. U.S. Government sales were also slow due to production issues Colt was experiencing with the M240 medium machine gun and the lack of a new M4 carbine contract.
“Liquidity pressures continued to grow in the second half of the year as lower sales volumes did not cover the Company’s fixed overhead costs. In order to service the Company’s $11 million Senior Notes interest payment due in November, Colt was forced to draw down on a large portion of an existing ABL facility and stretch out payments to critical raw material and parts suppliers. A byproduct of extending out payments to trade creditors in the second half of 2014 was a dampening of the Company’s 2015 projected growth as suppliers slowed sales to Colt to manage their credit risk profile.
Secured Debt Refinancings
“As of October 2014, the Company’s secured obligations included an ABL facility and a term loan. The Company established a goal of refinancing its secured debt as liquidity constraints raised the strong likelihood of a default that would have precipitated an accelerated chapter 11 filing. Therefore, in November 2014, the Company first sought and obtained a refinancing and expansion of the existing term loan through a new term loan (the “Term Loan”) governed by that certain Term Loan Agreement, dated November 17, 2014 (the “Term Loan Agreement”), among Colt Defense, Colt Finance Corp., New Colt Holding Corp., Colt’s Manufacturing Company, LLC, and Colt Canada Corporation, as borrowers, certain subsidiary guarantors, Wilmington Savings Fund Society, Fsb., as agent, and the lenders party thereto (the “Term Loan Lenders”). The Term Loan, which closed on November 17, 2014, provided the Company with additional liquidity, allowed it to make the November 17 interest payment due to the holders of the Senior Notes, and provided the Company with flexibility in several respects under the Term Loan Agreement.
“Unfortunately, the Company’s liquidity issues did not substantially improve following the November 17, 2014 refinancing. Compounding the problem were excessive borrowing base restraints imposed by the agreement governing the ABL facility. Again faced with the specter of a default under its secured loan debt, the Company sought and obtained a refinancing of the ABL facility through a new senior loan (the “Senior Loan”) governed by that certain Credit Agreement dated February 9, 2015 (the “Senior Loan Credit Agreement”), among Colt Defense, Colt’s Manufacturing Company, LLC, and Colt Canada Corporation, as borrowers, certain subsidiary guarantors, Cortland Capital Market Services LLC, as agent, and the lenders party thereto (the “Senior Loan Lenders” and together with the Term Loan Lenders, the “Prepetition Secured Lenders”). The Senior Loan Credit Agreement removed the existing borrowing base restrictions and generally provided the Company with additional flexibility and liquidity.
Efforts to Restructure the Senior Notes
“After completion of the February 9, 2015 refinancing, it became apparent to the Company that a restructuring of the Senior Notes was essential in light of the ongoing $22 million in annual cash interest payments and looming 2017 maturity of $250 million. Accordingly, the Company began pursuit of a process whose goal was a consensual agreement with holders of its Senior Notes (collectively, the “Senior Noteholders”). However, dealing with this noteholder group was complicated by a clear divide in the nature of its constituents. Approximately one-fourth of the outstanding principal amount of the Senior Notes (approximately $61 million) are held by retail “mom and pop” holders that total approximately 2,700 in number (the “Retail Holders”). The remaining balance of the Senior Notes (approximately $189 million) are held principally by institutional holders (the “Institutional Holders”), many of whom purchased the notes in the secondary market. I believe there are less than 50 Institutional Holders of the Senior Notes.
The composition of the Senior Noteholder group was a substantial factor in the Company’s decision to launch the Offer to Exchange, Consent Solicitation Statement, and Disclosure Statement Soliciting Acceptances of a Prepackaged Plan of Reorganization on April 14, 2015 (the “Offer to Exchange and Disclosure Statement”) simultaneously to all Senior Noteholders, including Retail and Institutional Holders. This Offer to Exchange and Disclosure Statement set forth a proposal that offered value to all Senior Noteholders in the form of new third lien notes at an exchange rate above then current trading prices. Bondholder Due Diligence
“After launch of the Offer to Exchange and Disclosure Statement, the Company’s professionals and management team immediately sought out and engaged in discussions with the professional advisors representing a steering committee of Institutional Holders (the “Steering Committee”), paid $300,000 for fees and expenses incurred by such advisors (the “Steering Committee Advisors”), and hosted several of the Institutional Holders and their advisors during multiple onsite visits at the West Hartford Facility (defined below). The Steering Committee Advisors were also given access to hundreds of important documents through a dataroom created by the Company and the opportunity to engage with the Company’s management team, who worked diligently to respond to additional questions. Additionally, certain Institutional Holders that signed a non-disclosure agreement were able to review a ninety page due diligence memo prepared by their legal advisors and a separate presentation and analysis concerning the Debtors’ financial operations and status (collectively, the “Due Diligence Materials”) prepared by their financial advisors. In an effort to assist and cooperate with the Steering Committee Advisors in connection with this process, the Company’s management team extended significant time and energy reviewing the Due Diligence Materials on multiple occasions and provided input to the Steering Committee Advisors regarding accuracy and completeness.
Additional Restructuring Efforts
“The Steering Committee Advisors submitted to the Company a restructuring counter-proposal (the “Noteholder Counterproposal”) at a meeting held on May 7, 2015 that is discussed below (see paragraphs 58 and 59). During that meeting the Steering Committee Advisors informed the Company on behalf of the Steering Committee that there was absolutely no interest in the Company’s Prepackaged Plan.4 In an effort to the bridge the differences between the Company’s Prepackaged Plan and the Noteholder Counterproposal, the Company invited certain of the Institutional Holders and their financial advisor to a meeting on Saturday, May 16, which lasted most of the day. I attended that meeting, along with Mr. Derron Slonecker on behalf of the Company, as well as Mr. Daniel Standen in his capacity on behalf of the Sponsor. In my view progress was made at this meeting towards achieving the framework for a consensual deal with the Institutional Holders. During the following two week period, the Company reviewed its financial projections and sought to determine how better to improve upon the Prepackaged Plan for the Senior Noteholders and engaged its Senior Lenders in intensive discussions seeking their support for an amended plan of reorganization.
“As a result of these discussions, a restructuring support agreement (the “RSA”) was executed by the Company, its Prepetition Secured Lenders, its Sponsor, and the Landlord on May 31, 2015. The restructuring term sheet attached to the RSA set forth the terms of debtor in possession loans and exit facilities that would both finance these chapter 11 cases and provide for a refinancing of the Company’s secured debt on the effective date of the plan. The RSA also contained an indication from the Sponsor to contribute $5 million in incremental capital in the form of preferred equity, an increase in the amount of new secured notes offered to the Senior Noteholders by approximately $34 million, and other features intended to address the requests of the Steering Committee.
“The terms of the RSA were incorporated into the amended Offer to Exchange and Disclosure Statement (the “Amended Offer to Exchange and Disclosure Statement”) pursuant to a supplement filed on June 1 (the “June 1 Amendment”). On the Sunday prior to launch of the June 1 Amendment, copies of the RSA, restructuring term sheet attached to the RSA, Amended Offer to Exchange and Disclosure Statement, and Amended Prepackaged Plan were provided to the Steering Committee Advisors in the hopes of continuing a productive dialogue. Unfortunately, no formal reaction or response was received by the Company or its Advisors from the Steering Committee Advisors or any of the restricted Institutional Holders. More disturbing was the leakage of confidential information contained in the RSA in the form of two Debtwire articles that inaccurately described the status of events and created disarray and confusion for the Company’s customers, most notably the U.S. Government, and vendors and other service providers.
“As described below, the Amended Offer to Exchange and Disclosure Statement and Amended Prepackaged Plan sought to deliver new debt to the Senior Noteholders on a fair and equal basis and rejected the notion that the Institutional Holders should reap a disproportionate benefit to the exclusion of the Retail Holders. Notably, the Amended Prepackaged Plan had support from the Landlord, as reflected in paragraph 5 of the RSA, with respect to the extension of the West Hartford Facility Lease. On June 12, 2015, the Amended Prepackaged Plan was accepted/rejected along approximately the same percentages relating to number and amount of holders of the Senior Notes that voted on the Initial Prepackaged Plan.
363 Sale Process
“In the face of the potential stalemate caused by rejection of the Amended Prepackaged Plan and the need for an expedited section 363 sale process, the Company directed its investment banker PWP Weinberg Partners (“PWP”) to prepare a list of potential buyers for the Company’s assets and to prepare an informational package for interested parties and nondisclosure agreement for interested parties requiring additional information. The goal of these marketing efforts is to allow for the immediate launch of a robust and transparent sales process.
“As noted below, the Company has filed a motion (the “Sale Motion”) requesting approval of bidding procedures that would govern an expedited sale of substantially all of its assets under section 363 of the Bankruptcy Code. The inability to move forward with a confirmable plan presents the Company with an intractable stalemate that jeopardizes the Company’s ability to survive as a going concern. The dilemma confronting the Company after its two good faith unsuccessful attempts to achieve a consensual prepackaged plan of reorganization is how to best preserve its business as a viable going concern while at the same time setting forth a process that will allow the for the most expeditious, effective, efficient, and fair way for the Company and its constituencies to bridge their fundamental disagreements. In my view, resorting to a battle of dueling plans sponsored by warring factions would be extremely costly and confusing to the Debtors’ vendors, suppliers, employees, and customers. Instead, good and sufficient business reasons exist to avoid the plan process in favor of an expeditious section 363 sale that is fair and transparent. The factors that support a “good business reason” for allowing an accelerated section 363 sale in these cases include (i) the fragility of the Company’s business and the need for a clear path forward for emergence from chapter 11, (ii) a section 363 sale would open the process to widespread parties bidding from any interested party, including strategic and financial buyers, (iii) a section 363 process would focus the parties’ efforts towards determining what is the highest and best offer for the Company’s business, and a section 363 process will offer more potential tenant alternatives and creative solutions to the Landlord as a party to the West Hartford Facility Lease.
“Notably the Company’s Prepetition Secured Lenders strongly endorse an expedited sale process, as reflected in the milestone dates contained in the credit agreements governing the DIP Facilities (defined below).
“With respect to moving forward with the 363 sale process, it is extremely important that the quick selection of a stalking horse bidder (i) capture the confidence of the Company’s employees, vendors, union, customers, and government contractors (all of whom are essential to the Company’s viability and long term success) and (ii) serve as a basis to foster competitive bidding. It comes as no surprise that the Sponsor indicated its willingness to make a stalking horse bid for the Company, given the Sponsor’s integral involvement with and commitment to the Company over the last 10 years and in the restructuring of the Company over the last year. However, because the Sponsor is plainly an insider of the Company, the Chairman of the Board Mr. Standen requested the Governing Board consider the formation of an independent committee with respect to the 363 sale process. As a result, the Governing Board of Colt Defense LLC (the “Governing Board”) appointed a committee of independent directors (the “Independent Committee”) and vested the Independent Committee with decision making authority for the Governing Board with respect to all aspects of the 363 sale process.
“The Independent Committee selected and approved the Sponsor as the stalking horse bidder believing that its bid will give Colt an attractive opportunity in terms of uninterrupted continuity of the Company’s business, which is clearly important to all of Colt’s constituents including employees, customers, and contractors and provides a baseline bid that offers the Company the best chance for a successful and quick emergence from chapter 11.
“I wish to emphasize and make clear that my urgent call for the Company to emerge from chapter 11 on an expedited basis does not emanate in any way from strategic design or advantage. Without assigning blame, the liquidity problems facing the Company are real and represent a major stumbling block to achieving long term growth and viability. At this point in time, the 363 sale process, as supported by its Prepetition Secured Lenders, represents the Company’s best hope to de-lever its balance sheet and solve for its liquidity issues in rapid fashion. Therefore, in my view it is imperative that the sale process result in conclusion of the Sale Transaction within 60 to 90 days.
DESCRIPTION OF THE DEBTORS
History of the Company
“The Debtors are one of the world’s oldest and most renowned designers, developers, and manufacturers of firearms for military, law enforcement, personal defense, and recreational purposes. The Company’s founder, Samuel Colt, patented the first commercially successful revolving cylinder firearm in 1836 and, in 1847, began supplying U.S. and international military customers with firearms that have set the standards of their era.
“Today, the Company’s end customers encompass every segment of the worldwide firearms market, including U.S., Canadian and foreign military forces, global law enforcement and security agencies, consumers seeking personal protection, the hunting and sporting community and collectors. From the Model P ‘‘Peacemaker’’ revolver to the 1911 automatic pistol, the M16 rifle and the M4 carbine, “Colt’’ defines iconic firearms that first established worldwide military standards and then become the guns every law enforcement officer and serious recreational shooter wants to own. The Colt-designed M16 rifle and M4 carbine have also served as the principal battle rifles of the U.S. Armed Forces for the last 50 years and are currently in military and law enforcement service in more than 80 countries around the world.
The Debtors’ Businesses and Customer Base
“As noted above, the Debtors are uniquely dependent on relationships with foreign and domestic military customers. During 2014, 8% of the Debtors’ consolidated revenues were attributable to the U.S. Government, with 32% attributable to sales to international customers and 59% attributable to domestic commercial and law enforcement customers. Additionally, nearly all of the Company’s sales to foreign and domestic militaries are made under indefinite delivery, indefinite quantity contracts. These contracts generally contain low minimum order provisions and result from a highly competitive bidding process.
“In providing operational advisory services to the Debtors, I have been actively involved in discussions with the Debtors’ military customer base. The Debtors are extremely appreciative that these customers have continued to work with the Debtors despite the Company’s recent restructuring efforts and understand their customer’s concerns that protracted bankruptcy cases will jeopardize the Debtors’ ability to fulfill existing and new orders on a timely basis.
1992 Chapter 11 Proceeding
“In 1992, Colt Manufacturing Company (“CMC”), at the time the Company’s principal operating subsidiary, filed chapter 11 petitions in the U.S. Bankruptcy Court for the District of Connecticut. After the filing, which was precipitated by excessive debt and a loss of key military and police orders, CMC languished in chapter 11 for over two years while key government customers continued to send purchase order to competitors. In 1994, an investment by Zilkha & Co. allowed CMC to confirm a chapter 11 plan and emerge from bankruptcy. It is my understanding that sometime after 1994, majority ownership of the Company transitioned from Zilkha & Co. to Sciens Capital Management, a New York City investment firm founded by John P. Rigas, who was a partner at Zilkha & Co. at the time of the 1994 investment.
The Debtors’ Current Corporate Structure
“The Company’s current corporate structure is the result of two significant recent transactions. First, on July 12, 2013, the Company acquired 100% ownership (the “Merger”) of New Colt Holding Corp. (“New Colt”), at the time a privately-held affiliate manufacturing Colt’s commercial handguns and providing a sales channel to Colt Defense LLC (“Colt Defense”) for commercial rifles. New Colt and its subsidiary CMC had been separated in 2003 from Colt Defense, which manufactured rifles and other products for military and law enforcement customers. As a result of the Merger, the two manufacturers of Colt firearms were consolidated into a single enterprise providing the Company direct access to the commercial market for our rifles and carbines, ownership of the Colt brand name and other related trademarks, certain technology, and production capabilities for the full line of Colt handguns.
“Additionally, in March 2015, the Governing Board authorized the Company to undertake certain steps to create a more cost effective and efficient organizational structure for tax purposes (the “Tax Reorganization”). Prior to the Tax Reorganization, Colt Defense, the Company’s principal operating subsidiary, had historically elected to be treated as a partnership for tax purposes. This treatment required Colt Defense to make tax distributions to its members at the highest individual marginal tax rate. As a result of the Tax Reorganization, Colt Defense reduced its obligation to make tax distributions to its members and will now make tax distributions to its corporate parent based on a corporate effective tax rate of approximately 40% (as compared to approximately 51% effective tax rate paid historically). Colt Defense will also now be able to reduce its tax distribution requirement by factoring all allowable interest deductions (and not disregard interest on debt that funded distributions to investors), which will eliminate Colt Defense’s requirement to accrue tax distributions related to interest on debt funded distributions.
An illustration of the Company’s organizational structure following the Tax Restructuring is attached to this Declaration as [follows:]
Prepetition Indebtedness and Capital Structure
“The primary components of the Debtors’ capital structure are described in greater detail below.
“As of the Petition Date, the Debtors had funded debt outstanding of approximately $357,900,000, consisting of the principal balance under the Senior Loan Credit Agreement, the Term Loan Agreement, and the Senior Notes Indenture (each as defined below). The following table summarizes the Debtors’ prepetition long-term indebtedness:
|Indebtedness||Principal Amount (as of Petition Date)||Maturity Date|
Term Loan Facility
“On November 17, 2014, Colt Defense, CMC, and Colt Canada Corporation entered into the Term Loan Agreement. The total principal amount outstanding under the Term Loan Agreement is $72,900,000. Obligations under the Term Loan Agreement are guaranteed by all subsidiaries of Colt Defense that are not also borrowers and are secured by a first lien on intellectual property and a second lien on all other assets of the borrowers and guarantors.6
“Proceeds from the Term Loan Agreement were used to repay all amounts outstanding under the Company’s prior term loan agreement discussed above and provided additional liquidity that allowed the Company to make the $10.9 million interest payment due on November 17, 2014 to the Senior Noteholders. The Term Loan Agreement also contained less restrictive financial covenants and amortization provisions than the credit agreement governing the term loan it refinanced.
Senior Loan Facility
“On February 9, 2015, Colt Defense, CMC, and Colt Canada Corporation entered into the Senior Loan Credit Agreement. The total amount principal outstanding under the Senior Loan Credit Agreement is $35,000,000. Obligations under the Senior Loan Agreement are guaranteed by all subsidiaries of Colt Defense that are not also borrowers and secured by a second lien on intellectual property and a first lien on all other assets of the borrowers and guarantors.7
“Proceeds from the Senior Loan Credit Facility were used to repay all amounts outstanding under the Company’s prior ABL credit agreement and fees related to the refinancing of such agreement, for cash collateral for certain letters of credit, and for additional liquidity and for general working capital purposes.
“The Senior Notes, which were issued by Colt Defense and Colt Finance Corp. and guaranteed by all other subsidiaries of Colt Defense, represent the overwhelming majority of the Debtors’ unsecured debt. On May 18, 2015, the Company announced that it had entered into a 30-day permitted grace period with respect to the $10.9 million interest payment due on May 15, 2015 on account of the Senior Notes.
“Affiliates of Sciens Management LLC own approximately 87% of the equity interests in Colt Holding Company LLC (“Parent”). The Colt Defense Profit Sharing Plan owns 1% of the equity interests of Parent. Finally, certain individual investors and other entities own the remaining 11% of the equity interests of Parent.
“Corporate governance of the Debtors is conducted primarily through Colt Defense’s eight member Governing Board. Presently, only two of the eight members of the Governing Board are affiliated with Sciens. Daniel J. Standen, the chairman of the Governing Board, has been a partner of Sciens Capital Management since 2000. Similarly, John P. Rigas, Chairman and Chief Executive Officer of Sciens Capital Management, has been a manager of the Governing Board since 2003. The Governing Board’s six unaffiliated managers include (i) Dennis Veilleux, the Company’s Chief Executive Officer, (ii) General George W. Casey Jr, whose 41 year career in the U.S. army included service as the Chief of Staff of the United States Army from April 2007 to April 2011 and service as the Commander, Multinational Force — Iraq from July 2004 to February 2007, (iii) Field Marshall the Lord Guthrie of Craigiebank, whose 40 year military career included service as Chief of the Defense Staff, Chief of the General Staff, and the Principal Military Advisor to two U.K. prime ministers and three U.K. Secretaries of State for Defense, (iv) Michel Holmes and Phillip Wexler8, who are current managers appointed by the United Automobile, Aerospace, and Agricultural Implement Workers of America, and (v) Alan B. Miller, a co-founder of the Business and Restructuring Practice of Weil, Gotshal & Manges LLP who joined the Governing Board in November 2014.
“Additionally, a restructuring committee of the Governing Board (the “Restructuring Committee”) was created in November 2014 to evaluate all restructuring alternatives for the Company’s secured and unsecured debt and present recommendations to the Governing Board on an ongoing basis. The Restructuring Committee consists of Daniel Standen, General George W. Casey, and Alan Miller. The launch of the Offer to Exchange and Disclosure Statement on April 14, 2015, launch of the June 1 Amendment, and execution of the RSA were all unanimously approved by the Governing Board, including the Governing Board’s unaffiliated members. As noted above, in view of the Sponsor’s participation as a bidder in the 363 sale process, the Governing Board appointed the Independent Committee so as to ensure the fairness and integrity of the sale process. The members of the Independent Committee are General George W. Casey, Field Marshall the Lord Guthrie of Craigiebank, and Alan Miller.
The Debtors’ Production Facilities
“The Debtors operate from facilities located in West Hartford, Connecticut (the “West Hartford Facility”) and Kitchener, Ontario, Canada. The West Hartford Facility, where the vast majority of the Debtors’ production takes place, is owned by the Landlord, a related party. Prior to 2005, the West Hartford Facility was owned by an unrelated third party who threatened to terminate the facility lease and sell the facility to a real estate developer. In response, the Landlord was formed and purchased the West Hartford Facility. This transaction ensured the facility would be owned by a Colt affiliate that could offer the Company a long term lease on favorable terms and keep operations in West Hartford. Sciens Capital Management, which formed the Landlord, extended the opportunity to participate in its capitalization to all existing members of Colt Defense and Colt Defense Holding LLC.
“It is my understanding, based upon representations made by counsel to the Landlord, that the Landlord is managed by affiliate of the Sponsor, which indirectly owns or controls approximately 30% of the Landlord’s membership interests; eleven of the other thirteen entities that hold membership interests in the Landlord, and who collectively hold more than 50% of all of the membership units in the Landlord, hold no or negligible (each less than 1% and an aggregate of less than 2.5%) interests in Colt. Additionally, it is also my understanding that the managing members of the Landlord have agreed to delegate final, binding authority to make decisions respecting dispositions of the West Hartford Facility, including any extension of the West Hartford Facility Lease, to the single largest member of the Landlord that has no interests in Colt or Sciens.
“The West Hartford Facility Lease expires on October 25, 2015. As a result, the Debtors have attempted to negotiate an extension of the West Hartford Facility Lease while pursuing a consensual restructuring of the Senior Notes. These efforts resulted in the Landlord signing the RSA executed on May 31, 2015. Pursuant to the RSA, the Landlord had consented to an extension of the West Hartford Facility Lease for up to five years from the existing expiration date, subject to several customary conditions and provided the Debtors are able to restructure their existing debt on the terms acceptable to the Landlord. However, the Landlord has presently not consented to an extension of the West Hartford Facility Lease under any other circumstances. Pursuant to the Sale Motion, interested bidders will be provided access with all documents related to the West Hartford Facility Lease and the contact information for counsel to the Landlord. It is my understanding that while the Landlord reserves all rights with respect to an extension of the West Hartford Facility Lease, it is prepared to consider any potential tenant and potentially negotiate a lease with any qualified bidder in the 363 sale process.
“Continuity of the West Hartford Facility for a minimum period of three years is critical to the ongoing viability of the Debtors. Any plan to move manufacturing operations out of the West Hartford Facility would necessarily have to address the complexities concerning environmental and collective bargaining issues, in addition to the normal business risks associated with any relocation of complex manufacturing operations. I believe a relocation of the Debtors’ manufacturing operations out of the West Harford Facility would take a minimum of two to three years and could require tens of millions of dollars of incremental capital investment.
EVENTS LEADING TO COMMENCEMENT OF THE CASES AND THE DEBTORS’ GOALS IN THESE CASES
“The Debtors’ current liquidity issues are the result of business trends impacting our recent historical, current and forecasted revenues and cash flows. These trends include a decline in modern sporting rifle sales from 2013 peak levels as well as declines in aggregate handgun demand, and delays in anticipated timing of U.S. Government sales, which includes foreign military sales through the U.S. Government and certain international sales. These trends are expected to continue to put pressure on our liquidity for the foreseeable future.
“Management’s plan to mitigate the business risk associated with our increased liquidity challenges include: (i) seeking revenue growth financials across all sales channels, (ii) executing initiatives designed to optimize our performance and reduce costs, (iii) managing inventory levels for positive cash flow by focusing the production schedule on our backlog of firm commitments, and (iv) working closely with U.S. Government regulators to obtain timely approval of international sales. Additionally, while liquidity was improved by the discussed management initiatives and entry into the Term Loan and Senior Loan discussed above, it is clear the Company cannot continue to pay approximately $22 million in annual interest payments on the Senior Notes on a go forward basis and continue to operate as a going concern. As a result, a restructuring of the Senior Notes became one of my top priorities upon being retained as CRO.
“The Debtors’ pursuit of a consensual restructuring of the Senior Notes was motivated by a number of goals, which included reducing total debt to levels that the Company could reasonably expect to service based on its financial projections, maximizing the return to the Senior Noteholders, and ensuring continuity of operations and existing business relationships. It was also critical to me that the Company emerge from a restructuring of its Senior Notes as a fully private company with no public reporting requirements. Presently, the Company is a voluntary filer of public information pursuant to a condition in the indenture governing the Senior Notes. This public reporting requirement is extremely challenging for a Company of its size and forces the Company to divert significant financial and staffing resources away from other operational initiatives.
Launch of the Offer to Exchange and Disclosure Statement
“As noted above, the initial launch of the Offer to Exchange and Disclosure Statement occurred on April 14, 2014. Under this document, the Debtors offered to exchange new secured notes for the existing Senior Notes on substantially similar terms either through an out-of-court exchange offer or through a prepackaged chapter 11 plan of reorganization. The exchange rate was set above then current market trading prices for the Senior Notes and was dictated heavily by the financial projections attached to the Offer to Exchange and Disclosure Statement. The initial deadline for tendering Senior Notes into the exchange offer and voting on the Initial Prepackaged Plan was set at May 11, 2015. On this day, the Company learned that although only approximately $12.7 million or 5.1%, of the outstanding principal amount of Senior Notes had validly tendered into the exchange offer and voted in favor of the Initial Prepackaged Plan, the Initial Prepackaged Plan was approved by 77% in number of the Senior Noteholders that voted and overwhelmingly supported by voting retail holders.
Negotiations with the Senior Noteholders
“Following launch of the Offer to Exchange and Disclosure Statement, the Debtors commenced negotiations with the Steering Committee representing approximately 37% of the Senior Notes. The Company entered into non-disclosure agreements with Institutional Holders serving on the Steering Committee, provided hundreds of documents in response to due diligence request lists, hosted members of the Steering Committee and their advisors on multiple visits to the West Hartford Facility, and extended considerable time and effort reviewing due diligence memoranda prepared by the Steering Committee Advisors. Additionally, the Company agreed to pay one month of professional fees for the Steering Committee Advsiros, attempted to answer all questions posed by such advisors on the Debtors’ operations and the Offer to Exchange and Disclosure Statement, and solicited thoughts from the Steering Committee Advisors on how to best achieve a consensual restructuring transaction.
“During these negotiations, the Steering Committee submitted a proposal (the “Institutional Holder Proposal”) to the Company on May 7, 2015 that provided that the Senior Noteholders would receive $125,000,000 in new secured notes and 40% of the equity in the reorganized Company in exchange, among other obligations, for their agreement to vote in favor of a plan of reorganization that contained such terms. The remaining 60% of the equity would be given to the Senior Noteholders participating in the proposed debtor-in-possession and exit financings. If a Senior Noteholder was unable to or chose not to participate in debtor-in- possession and/or exit financing, the benefits of the 60% equity grant would pass to the small group of Institutional Holders backstopping the financings. The total amount of the proposed financings was $55 million, with $10 million subject to future conditions. Of the total amount, $33 million would be used to refinance the existing Senior Loan Facility, and the remaining balance would be used to fund the costs of a chapter 11 proceeding and provide additional liquidity. Additionally, each of the Senior Noteholders would receive its pro rata share of 40% of the equity of the reorganized Company only if it elected not to receive a cash distribution of equal value upon voting on the chapter 11 plan.
“After receipt of the Institutional Holder Proposal, I discussed its terms with the Company’s advisors, the Restructuring Committee, and the Governing Board. My primary concerns with the Institutional Holder Proposal related to the amount of leverage remaining on the Company, the potential disruption to the Debtor’s principal customer and supplier relationships around the world, and the fact that no certainty could be provided by the Steering Committee regarding an extension of the West Hartford Facility Lease (or ability to relocate to a different location). Additionally, the Institutional Holder Proposal required individual Senior Noteholders to fund incremental loans to the Company to achieve equal treatment for each holder of the Senior Notes and could result in the Company emerging from chapter 11 as a public company (if a sufficient number of the Senior Noteholders elected to receive their pro rata share of 40% of the equity in the reorganized Company), thus obligating the Company to comply with public reporting requirements, which would be burdensome and costly given the size of the Debtors’ operations. Accordingly, the Company began work on a counterproposal to the Institutional Holder Proposal that addressed these issues and increased the consideration offered to the Senior Noteholders from what was originally proposed in the Offer to Exchange and Disclosure Statement. These efforts resulted in launch of the June 1 Amendment referenced above.
June 1 Amendment
“The June 1 Amendment to the Offer to Exchange and Disclosure Statement increased the principal amount of new secured notes offered to the Senior Noteholders to $112,500,000 from approximately $78,281,250.00. While launch of the June 1 Amendment was unanimously approved by the Governing Board, several members of the Governing Board unaffiliated with the Sponsor indicated that $112,500,000 in new secured notes represented the maximum amount of bond debt they felt the Company could service under a feasible chapter 11 plan given the Company’s then-current and projected financial condition. Additionally, the June 1 Amendment reflected the terms of the restructuring term sheet attached to the RSA and gave clarity to the terms on which the Secured Lenders would provide the debtor-in-possession financing necessary to finance a chapter 11 proceeding and the exit loans necessary to repay amounts outstanding under the proposed DIP facilities and the existing Term Loan and Senior Loan. Critically, and as stated above, the Company obtained the commitment of the Landlord to extend the West Hartford Facility Lease upon consummation of a restructuring consistent with the June 1 Amendment and would emerge from such a restructuring without the burden of public filings.
”Also as stated above, the Amended Prepackaged Plan voting deadline expired on June 12, 2015. Based on the votes received to date by Kurtzman Carson Consultants LLC, in their capacity as solicitation agent, it appears the Amended Prepackaged Plan is not confirmable, thereby necessitating the Company’s desire to resort to an accelerated 363 sale process in order to preserve the value of its business as a going concern.