💥New Chapter 11 Bankruptcy - HDC Holdings II LLC (Channel Control Merchants LLC)💥
Discount brick and mortar retailer begins liquidation
On October 10, 2024, Mississippi-based HDC Holdings II LLC (the “Company”) and 18 affiliates (collectively, the “debtors”) filed chapter 11 bankruptcy cases in the District of Delaware (Judge Horan). The debtors are vertically-integrated reverse logistics solutions providers; they “…procure and process secondary merchandise, including excess inventory and customer returns, from major retailers and sell the products through the Company’s retail stores directly to customers and through wholesale channels to other off-price retailers or e-tailers.”
Right, in English. Basically the debtors are a discount retailer that buys the scraps from other retailers and sells them through its brick and mortar locations — locations like Dirt Cheap, Dirt Cheap Building Supplies, and Treasure Hunt. Wait…
Yes, these places are actually real. Lol, has there been any other company more aptly named to swirl around the bankruptcy bin?? No, we’ve definitely peaked with this one. Like, just take a look at the logos:
The mascots are out of a cancelled season of Sesame Street where the characters discover crack cocaine.
The debtors were founded in 1954 as a logistics solution provider with a retail arm. By ‘15, KKR & Co Inc. bought the business, with the previous owners retaining a minority stake. Maybe by now you’re thinking, “is this another PE + brick and mortar horror story?” Yes, yes it is. Apparently KKR ran the thing so poorly that the minority equity holders sued KKR in September ‘23, alleging fraud and gross negligence on the part of the PE firm.
“The complaint outlines a deliberate attempt by the defendants to intentionally make false and material misleading statements through the company's 2019 financials by overstating inventory values in order to conceal the fraud and mismanagement of the company. These actions ultimately led to the company restructuring the plaintiff's equity value to pennies on the dollar. The plaintiffs have sued for a financial amount of damages to be determined at trial.”
By then KKR had already sold the business to a group of private investors that included Hilco Global (“Hilco”) and Behrens Investment Group (“Behrens”) in May ‘23. Hilco and Behrens didn’t do much better.
Here’s CRO, Jeffrey Martin, explaining a supplier issue the debtors faced:
“The Company has recently encountered multiple issues with its foundational supplier, Target Brands, Inc. (“Target”). Over the past eighteen (18) months, Target has de-mixed its pallets, divesting its best returns to B-Stock Solutions, Inc., a Company competitor. At the same time, Target has been channeling a deteriorating mix of inventory to the Debtors, while increasing the cost of its pallets. Given Target’s position as the Company’s foundational supplier, the Company lacked the necessary leverage to negotiate or otherwise dispute these increased costs.”
eBay Inc. ($EBAY) alum, Howard Rosenburg, founded competitor B-Stock Solutions, Inc. in ‘08. In stark contrast to the debtors, B-Stock seems to run an extensive online marketplace. Retailers like Target Corp. ($TGT) probably realized that what they were getting for its liquidation goods from B-Stock was markedly higher versus what the debtors offered. We’re sure part of that is due to lower operating expenses on the side of B-Stock.
And here’s Mr. Martin’s unoriginal spiel on the struggles of a brick and mortar business:
“Retail companies that have a significant or exclusive brick-and-mortar presence, like the Debtors, bear higher expenses than web-based retailers and are heavily dependent on store traffic, which has decreased significantly as consumers increasingly shop online. Other macro-economic factors have further compounded the problems plaguing retailers. For instance, changes in consumer spending habits have necessitated many retailers to increase promotional activities and discounting, leading to thinner profit margins. Onerous brick-and-mortar lease terms and increased operating costs, during a period of downturn in the retail sector and deep discounting, have intensified retail losses. Indeed, these macro-economic challenges have compelled numerous national retailers to file chapter 11 cases in recent years, including Big Lots, Conn’s, Rue21, Express, and The Body Shop, among others.”
Wow, that’s quite a list. Where might you be able to learn more about all the other brick and mortar retail bankruptcies? Oh, right. Here’s our Big Lots Inc. coverage, our Conn’s Inc. coverage, our New rue21 Holdco, Inc. coverage, and our Express Inc. coverage.
By mid ‘24, the debtors were burning up to $1mm in cash per week; they also lost their line of credit. Hilco ended up pumping in $15mm as equity and the debtors also obtained a $5mm FILO loan. Nevertheless, the debtors’ liquidity was drying up quickly, inevitably leading to a pivot towards chapter 11 bankruptcy filings.
The debtors brought on Hilco Merchant Resources LLC as liquidation agent and started winding down the business. We’re hoping someone “acqui-hires” the debtors’ social media person:
But wait a minute, isn’t Hilco the majority equity holder of the debtors? And doesn’t Hilco have representatives at three of the six board seats? Yes and yes. So basically the debtors want an affiliate of an insider to conduct the going out of business sales, 🤔.
As you can imagine, the newly empowered U.S. Trustee (“UST”) had objections; it wanted to punt the debtors’ proposed going out of business motion to a later date to have more time to dig into the possible legal issues and to allow time for the formation of a committee of unsecured creditors (“UCC”). In response, the debtors warned of “immediate and irreparable harm” (of course) and “catastrophic consequences” if the store closing sales motion was not granted on an interim basis. Oh and here’s the kicker: Hilco will be performing the services FOR FREE without any fees.*
Was free work — free work in bankruptcy, 🤯 — enough to satisfy the UST’s concerns? Here’s Judge Horan on the issue:
“I also think it’s significant that Hilco Merchant Resources is not being paid for its work.”
“If we were in here with a proposed fee, I think we might be having a - there’ll be a different analysis.”
So yes, the store closing sales motion got approved on an interim basis.
The debtors are coming in with a prepetition ABL facility of $29.5mm, a second lien loan of $4mm, and a $10.5mm mortgage loan from Hancock Whitney Bank. That’s a total of ~$44mm worth of prepetition secured debt. There’s also ~$32mm of unsecured obligations.
Parties will convene for a second day hearing on November 7, 2024 at 11am ET so we’ll see if there’s any additional issues with the Hilco agent agreement.
The debtors are represented by Young Conaway Stargatt & Taylor LLP (Michael Nestor, Andrew Magaziner, S. Alexander Faris) as legal counsel, Mosaic Growth Partners (Jeffrey Martin) as financial advisor, and Hilco Merchant Resources LLC (Ian S. Fredericks) as liquidation agent. BMO Bank NA is represented by Vedder Price PC (Michael Schein, Jacqueline Carlson) and Womble Bond Dickinson US LLP (Matthew Ward) as legal counsel. Hancock Whitney Bank is represented by Faegre Drinker Biddle & Reath LLP (Brett D. Fallon, Patrick A. Jackson) and Carver Darden Koretzky Tessier Finn Blossman & Areaux LLC (David F. Waguespack, Elizabeth Griffin) as legal counsel.
*There will still be expense reimbursements for Hilco.
Company Professionals:
Legal: Young Conaway Stargatt & Taylor LLP (Michael Nestor, Andrew Magaziner, S. Alexander Faris)
Financial Advisor/CRO: Mosaic Growth Partners (Jeffrey Martin)
Liquidation Agent: Hilco Merchant Resources LLC (Ian S. Fredericks)
Claims Agent: Epiq (Click here for free docket access)
Other Parties in Interest:
Sponsors: Hilco Global and Behrens Investment Group
Agent: BMO Bank NA
Legal: Vedder Price PC (Michael Schein, Jacqueline Carlson) and Womble Bond Dickinson US LLP (Matthew Ward)
Mortgage Lender: Hancock Whitney Bank
Legal: Faegre Drinker Biddle & Reath LLP (Brett D. Fallon, Patrick A. Jackson) and Carver Darden Koretzky Tessier Finn Blossman & Areaux LLC (David F. Waguespack, Elizabeth Griffin)
Official Committee of Unsecured Creditors:
Source: Docket 69 Legal: Orrick Herrington & Sutcliffe LLP (Raniero D’Aversa, Mark Franke, Nicholas Poli, Jenna MacDonald Busche, Michael Trentin, Brandon Batzel) and Cole Schotz PC (Justin Alberto, Stacy Newman, Michael Fitzpatrick, Melissa Hartlipp)
Financial Advisor: Genesis Credit Partners LLC (Edward Kim)
