Because Bed Bath & Beyond Is Having Trouble Restructuring It May End Up In Bankruptcy Court

Summary

• BBBY is having serious trouble trying to restructure their balance sheet.
• The debt exchange offer was just extended to December 19 because only a small amount of notes were tendered.
• Less than half of the $150 million ATM deal to sell additional shares to raise cash has been completed as of December 5.
• The restructuring is causing massive shareholder dilution.
• I have serious doubts that BBBY can stay out of bankruptcy court.

Joe Raedle/Getty Images News

It is incredible that the total equity capitalization of Bed Bath & Beyond (NASDAQ:BBBY) has plunged over the last eight years from about $17 billion to just $389 million. Currently the retailer is borrowing even more under a credit agreement. Their announced plan to raise $150 million by selling additional shares to raise needed cash has not been as successful as they hoped and at the same time the exchange deal to reduce outstanding debt has been extended because only a modest amount of notes has been tendered. I am not convinced that these actions will be enough to keep Bed Bath & Beyond out of Ch.11 bankruptcy, especially if there is a recession.

Current Out of Court Restructuring

Bed Bath & Beyond is currently attempting to significantly restructure their balance sheet out of court.

Need for Additional Cash

BBBY has made a number of SEC filings over the last few weeks. There is a footnote (4) on page 72 of a November 21 S-4/A filing that states they have drawn an additional $375 million under their credit agreement since the end of their last quarter to a total of $925 million. It looks like cash is flying out the door of this retailer and/or that they have to finance inventory using cash instead of being able to use more traditional accounts payables. As I covered in detail in my prior BBBY article, accounts payable to vendors are classified as general unsecured claims, which are a relatively low priority for any recovery under a Ch.11 reorganization plan, unless the goods were "constructively received" within 20 days of any bankruptcy filing. Vendors are, therefore, reluctant to ship goods because they are worrying that they may not get paid. Vendors often want stricter terms and may even not ship unless the goods are pre-paid.

In October they announced an additional $150 million ATM stock sale with Jefferies when the stock price was close to $5.00 per share, which at that time implied an additional 30 million shares might be issued. This would raise needed cash and improve the quality of their balance sheet. (See below.)

At least management did not include a 12 month ASU 14-15 "going concern" warning in their latest 10-Q. I would not, however, be surprised if some future filing includes a warning.

Exchange Offer

The retailer is trying to greatly reduce their current debt via an exchange offer that was just extended to December 19 from December 5. The exchange offer would also extend the maturities of their current debt structure. Basically, the exchange offer involves getting higher priority notes than the current lower priority unsecured notes, which could be important if they eventually file for bankruptcy.

The current specific terms are:

2024 Notes: either $1,000 principal amount of 3.693% New Second Lien Non-Convertible Notes or $410 principal amount of 8.821% New Second Lien Convertible Notes.

2034 Notes: $217.50 principal amount of 12.000% New Third Lien Secured Notes.

2044 Notes: $217.50 principal amount of 12.000% New Third Lien Secured Notes.

My gut instinct is that if you feel bullish on a BBBY turnaround you hold the notes and not tender them. Tendering the notes to get a "better seat on the Titanic" under a Ch.11 reorganization plan may result in only getting a token amount of recovery, if any, for either the new 2lien or 3lien notes instead of no recovery for unsecured notes. If you are seriously worried about a bankruptcy filing in the near future, sell the notes instead of tendering, in my opinion.

December 5 Exchange Offer Results

Exchange Offer Results (sec.gov)

Equity for Debt Exchange Deals

In November they announced two different privately negotiated exchange offers of unsecured notes for BBBY stock. A total of about $144.5 million principal amount of notes was exchanged for approximately 14.5 million BBBY shares. This implies an average of one share for about $10 principal amount of notes. Two SEC Form D were filed on December 6 regarding the specific number of shares received and an estimated value of those shares on the dates of the respective exchanges.

Restructuring Causing Massive Dilution

After years of repurchasing shares BBBY did an 180° turnaround and they are now selling shares to help raise cash. Their restructuring is causing massive dilution. As of May 28, 2022, they had 79,957,649 shares outstanding and as of October 24 that number increased to 86,146,074. The 14.5 million shares from the equity for debt exchange deals increased the total to about 102.6 million. According to their recent SEC filing BBBY had 117.3 million shares outstanding as of December 5. This implies they only sold about 14.7 million shares under their latest ATM deal. Using BBBY stock prices of $5 to $4 per share, which is the approximate range BBBY was trading at a few days after the ATM announcement, it would indicate that they only raised $73.5 million to $58.8 million so far under the $150 million ATM deal. The 117.3 million BBBY shares outstanding is a massive increase since May. To stay out of bankruptcy court management may continue to sell even more shares to raise additional cash, if needed. This will cause even more dilution.

Data by YCharts

(Note: the capitalization figures in the above chart does not reflect recent stock issuances and sales.)

Bankruptcy Issues

At least current management is trying to stay out of bankruptcy court by attempting to use multiple transactions to restructure their balance sheet. There could, however, be future covenant problems that might force them to file unless they get waivers from their lenders. There is a very long list of covenants contained in their credit agreement. One that I think could be problematic is fixed charge coverage ratio of 1.0 to 1.0 (page 121 section VI.14). If EBITDA decreases significantly because of a recession, they may need a waiver on this, or it could result in a default.

Some investors assert that BBBY could raise a significant amount of cash that could be used to keep them out of bankruptcy by selling buybuy Baby. While these 130 stores might be fairly profitable, I question how well they would do as a standalone operation. We are not given specifics on their operations, but I assume that there is a lot of synergy under the current combined operations. Based on my reading of the credit agreement, they would need lenders' approval and without the EBITDA from buybuy Baby stores they could face covenant problems, especially the fixed charge coverage ratio even with reduced fixed charges associated with buybuy Baby. I also wonder if some of the lenders are actually "loan to own" investors and would make a credit bid for buybuy Baby under a Ch.11 reorganization plan.

A major incentive for retailers such as BBBY to file for Ch.11 bankruptcy is so they can close underperforming stores and reject the leases. Rejecting leases, however, is a rather complex matter. A retailer in Ch.11 has 120 days to accept/reject a specific unexpired lease, which can be extended for an additional 90 days with court approval under section 365 of the Bankruptcy Code. (There was a provision under the CARES Act that extended the period to 210 days, but that provision expires on December 31,2022.) They still have to pay rent until the lease is rejected and the retailer moves out of the store. If the retailer is behind on lease payments, the amount owed has to be paid before they can accept an unexpired lease.

A landlord can assert a claim for damages caused by a lease being rejected, which would be classified as a general unsecured claim, but the claim amount is capped under section 502(b)(6). The cap is the greater of one year’s rent or the rent for 15 percent of up to three years of the remaining lease. Besides accepting/rejecting a lease a store may want to assign the lease to a different party, which is allowed, but there are some technical legal provisions for assigning shopping center leases [section 365(b)(3)], but that coverage is beyond the scope of this article.

Just to get some very basic idea for the size of potential lease general unsecured claims one can look at the $416 million 2023 operating lease liabilities and $365 million in 2024. Just for the sake of discussion, if we assume a 25% lease rejection, it would seem that there could be close to $100 million in claims.

Remember BBBY shareholders would be at the bottom of the priority list for any recovery under a Ch.11 reorganization plan. The potential general unsecured claims from rejected leases would have priority over shareholders and so would all other creditors.

Conclusion

My various BBBY short sales trades have been profitable. As I posted in the comment area of my prior BBBY article I closed my latest BBBY short sales on November 21 because the borrowing costs were beginning to increase again, and I had already made a nice profit. In the same posted comment, I stated that "I have doubts they can survive into late Feb before Ch.11 filing." I am still expecting a Ch.11 filing unless they are able to continue to sell additional shares - a lot of additional shares, which will, however, cause further dilution.

Because I think the vendor issues will continue, there will most likely be recession that could cause covenant problems, and they are having difficulty restructuring their balance sheet, I have serious doubts about Bed Bath & Beyond's future. I continue to rate BBBY a sell.

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, but may initiate a beneficial Short position through short-selling of the stock, or purchase of put options or similar derivatives in BBBY over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.