April 22, 2024

Record Number of PE-Owned Companies File for Bankruptcy in 2023 Amid Rising Debt and Interest Rates

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A record-breaking number of private equity (PE)-owned companies filed for bankruptcy in 2023, reflecting the challenges posed by heavy debt loads and increasing interest rates. The medical apparel provider, Careismatic Brands, based in Santa Monica, California, and backed by Swiss PE firm Partners Group, filed for Chapter 11 in New Jersey on January 22, aiming to eliminate $833 million of debt and significantly reduce its interest rate burden.

Court filings revealed that Careismatic Brands’ interest expenses surged to $64 million in 2023, marking a 42% increase compared to 2022 and a substantial 179% increase compared to 2019. The escalating interest costs impacted profit margins, prompting the bankruptcy filing. In 2023, a total of 642 bankruptcy filings occurred, significantly surpassing the previous two years (372 in 2022 and 406 in 2021). Among these, 104 were from PE-backed and venture capital-backed companies, representing a 174% increase compared to the 38 PE-backed companies that filed for bankruptcy in 2022.

One notable example is JER Investors Trust, a mortgage REIT backed by private equity firm C-III Capital Partners, which filed for Chapter 11 in December 2023. The surge in bankruptcies can be attributed to high debt levels, the impact of rising interest rates, and the inability of some businesses to sustain revenue and earnings.

Fixed charge coverage ratio covenants have gained importance in loan covenant packages, posing challenges for businesses pushing the leverage envelope. Legacy businesses acquired by PE firms before 2023 are facing difficulties sustaining high leverage levels in the current interest rate environment. PE firms are exploring various strategies to navigate these challenges, including debt prepayment, equity injections, and restructuring through amendment processes.

The increase in interest costs, with a two-fold rise in the cost of debt over the past 24 months, has triggered fixed charge coverage ratio breaches. While PE firms typically aim to avoid ceding control and resorting to bankruptcy, some are considering restructuring approaches to address broken capital structures.

The impact of higher interest rates varies across PE firms, with growth-oriented firms facing different challenges than operational-heavy, turnaround-focused PE shops. The macroeconomic headwinds and higher interest rates are affecting leveraged buyout-focused PE shops more significantly due to a larger percentage of debt in their capital structure.

Concerns arise as approximately $83 billion of debt matures in the next two years, with an additional $169 billion in three years, especially impacting PE-sponsored companies. Sectors such as consumer goods, real estate, and real estate services are identified as potential trouble spots, highlighting the broader implications of the challenging financial landscape on various industries. Observers anticipate continued restructuring efforts out of court to navigate the high-interest rate environment, even as bankruptcy filings may decrease.

This record number of bankruptcies underscores the complex financial dynamics companies face in an environment marked by rising debt and interest rates, prompting a closer examination of debt structures and strategic financial decisions by businesses and PE firms alike.

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