Bon-Ton Stores Edges Toward Restructuring

| About: The Bon-Ton (BONT)

Summary

There have been reports that Bon-Ton has hired the restructuring firm PJT Partners.

While Bon-Ton does not have near-term debt maturities or immediate liquidity issues, it does have an unsustainable amount of debt and has been minimizing spending.

A restructuring would likely wipe out the current common equity and convert the second-lien debt into equity.

Additional funding would also be needed as its net debt should be reduced to below $360 million.

Reports indicate that The Bon-Ton Stores (BONT) has hired a restructuring firm "to look at ways to refinance debt and prepare for a possible bankruptcy filing." I had recently mentioned that there was no immediate impetus for Bon-Ton to restructure, but also that it had an extremely low chance of avoiding restructuring in the longer-term. The hiring of PJT Partners may be an indication that Bon-Ton sees the eventual writing on the wall and wants to voluntarily look at restructuring rather than have a restructuring forced on it in a few years by then looming debt maturities.

A near-term restructuring is not a certainty, but if it does occur Bon-Ton's current common equity is very likely to be wiped out (although with a market capitalization of $11 million, it is nearly wiped out already). Bon-Ton's second-lien debt would need to be converted into equity during a restructuring and it probably would take a significant hit as well, as Bon-Ton has $850 million in net debt and a valuation of 5x adjusted EBITDA would put its total value at around $600 million.

This article will explore the goals and impact of a restructuring, assuming that Bon-Ton goes down that route.

Bon-Ton's Debt Situation

At the end of Q2 2017, Bon-Ton had $856 million in long-term debt including $350 million in second-lien notes and $506 million in credit facility borrowings. It also had $6 million in cash, putting its net debt at around $850 million.

Bon-Ton currently expects 2017 adjusted EBITDA in the $115 million to $125 million range, while 2016 adjusted EBITDA ended up at $116 million. Bon-Ton has been facing significant sales declines, but is maintaining its adjusted EBITDA at around the same level via cost cutting.

Based on the midpoint of 2017 guidance, Bon-Ton's net long-term debt is around 7.1x its adjusted EBITDA. It probably needs to get its net debt down to no more than 3.0x its adjusted EBITDA post-restructuring. This means that Bon-Ton should have no more than $360 million in net debt post-restructuring, and preferably even less.

Business Outlook

Bon-Ton has had trouble remaining competitive due to its inability to make investments in its business. For example, Bon-Ton's gross capital expenditures are expected to be around $42 million in 2017, but this is probably around half of what it should be based on historical levels.

While department stores have generally struggled, Bon-Ton's comparable store sales have seen an accelerated decline, which is likely significantly attributable to its inability to spend.

Bon-Ton may be contemplating a near-term restructuring to help with its competitiveness. With say $300 million in long-term debt, Bon-Ton's annual interest costs could be reduced by close to $40 million. This would allow it to bring its capital expenditures back to normal levels and aim for flat to low-single digit comps declines rather than the mid-to-high single digit declines it recently had.

A restructuring may also result in additional store closures, although there probably aren't many stores that are four-wall EBITDA negative. Additional store closures would mainly serve to reduce capital expenditure requirements and allow Bon-Ton to convert some inventory into cash. Bon-Ton's post-restructuring debt level would need to be reduced appropriately for the number of remaining stores.

Valuing Bon-Ton

Department store valuation multiples have been generally falling due to the concerns around the long-term viability of the sector. As a distressed company that is suffering significant comparable store sales declines, Bon-Ton would probably not be valued at much more than 5x adjusted EBITDA in a restructuring. This would put its total value at around $600 million versus $850 million in net debt. Thus, Bon-Ton's common equity would be well out of the money and wouldn't see a recovery. Bon-Ton's common equity has only had value recently as a long-shot bet on a turnaround over the next few years anyway.

The $600 million valuation would imply a roughly 29% recovery for Bon-Ton's second-lien notes assuming that the credit facility lenders receive a full recovery. However, this is complicated by the probable need to reduce its credit facility debt in order to get leverage to an acceptable level. Other restructuring cases have seen institutional investors receive better returns than retail investors as part of an agreement to re-capitalize the company.

Conclusion

Bon-Ton is reportedly contemplating restructuring. A restructuring would very likely result in Bon-Ton's common equity being wiped out and its second-lien notes being converted into equity. Bon-Ton also needs to pay down part of its credit facility to get its leverage to acceptable levels, so it will need additional funding as well.

With a lower debt level and lower interest costs, Bon-Ton may be able to invest in its business and return its comparable store sales to in-line with other department stores, rather than the sharp deterioration that it has seen recently.

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