🌵Don't Mess with Texas🌵

A Slate of Bankruptcy Filings Hit the Lone Star State


If you’re wondering why we published our Members’-only newsletter on Saturday rather than Sunday the answer is this: we fat-fingered “send” by accident…pre-edit. Awesome. 😬

🥛Disruption, Illustrated: New Chapter 11 BK Filing - Southern Foods Group LLC (d/b/a Dean Foods Company)🥛

💥PETITION💥 @petition
In one corner: innovation. In the other corner: disruption. Dean Foods Co. $DF, the largest US supplier of milk, is struggling as a result. From back in March:
petition.substack.com/p/private-equi… (paywall)

Micah Rosenbloom @micahjay1

No category has seen more innovation in the last 5 years than non dairy milks. Oat, Almond, Soy, Coconut. What’s next?

We’ve published these charts before here but they’re worth revisiting:

Since we’re all about the charts right now, here’s another one — perhaps the ugliest of them all:

Yup, Southern Foods Group LLC (d/b/a Dean Foods Company) has been a slow-moving train wreck for some time now. In fact, we wrote about the disruption it confronts back in March. It’s worth revisiting (we removed the paywall).

Image result for that stinks gif

Alas, the company and a long list of subsidiaries finally filed for bankruptcy yesterday in the Texas (where things seem to be getting VERRRRRY VERRRRRY busy these days; see below ⬇️).

Once upon a time everyone had milk. Serena and Venus Williams. Dwight Howard. Mark McGuire. Tyra Banks. The Olsen twins. David Beckham. Giselle. The “Got Milk? campaign was pervasive, featuring A-listers encouraging folks to drink milk for strong bones. Things have certainly changed.

Dean Foods’ long history begins in 1925; it manufactures, markets and distributes branded and private label dairy products including milks, ice cream, creamers, etc. It distributes product to schools, QSRs like McDonald’s Inc. ($MCD), small format retailers (i.e., dollar stores and pharmacies), big box retailers like Walmart Inc. ($WMT)(which accounted for 15.3% of net sales in ‘18), and the government. Its products include, among many others, Friendly’s, Land O Lakes and Organic Valley. This company is a monster: it has 58 manufacturing facilities in 29 states, 5000 refrigerated trucks and 15,000 employees (40% of whom are covered by collective bargaining agreements). Milk, while on the decline, remains big business.

How big? Per the company:

In 2018, Dean Foods’ reported consolidated net sales of $7.755 billion, gross profit of $1.655 billion, and operating income of $(315.2) million. Through the first 6 months of 2019, Dean Foods’ reported consolidated net sales of $3.931 billion, gross profit of $753.2 million, and operating income of $(96.2) million.

Those are some serious sales. And losses. And the company also has a serious capital structure:

Milk production is a capital intensive business requiring a variety of inputs: raw milk, resin to make plastic bottles (which likely infuse all of us with dangerous chemicals, but whatevs), diesel fuel, and juice concentrates and sweeteners. Hence, high debt. So, to summarize: high costs, low(er) demand, lots of debt? No wonder this thing is in trouble.

What are the stated reasons for the company’s chapter 11 filing?

  • Milk Consumption Declines. “For the past 10 years, demand has fallen approximately 2% year-over-year in North America.” This is consistent with the chart above.

  • Loss of Pricing Power. Because volumes declined, economies of scale also decreased. “Delivered cost per gallon rose approximately 20.7% between 2018 and 2013 as a result of volume deleverage.” That’s vicious. Talk about a mean spiral: as volumes went down, the company couldn’t support the input volumes it had previously and therefore lost pricing power. “Dean Foods suffered a full year 2018 year-over-year decline in fluid milk volume of 5.8% following a 2017 year-over-year decline of 4.2%. Moreover, Dean Foods’ volume declines continue to outpace the overall category; while category volumes declined by approximately 4%8 year-over-year through the end of September, 2019, Dean Foods experience declines of over 11.4%.” Apparently, this impacted Dean Foods disproportionately. Any buyer looking at this has to wonder how these issues can be remedied.

  • Market Share Disruption. New forms of “milk” have taken market share. “Sales of nut and plant beverages grew by 9% in 2018 and had sales of $1.6 billion, according to the Plant Based Foods Association.

  • Retail Consolidation. It doesn’t help when, say, Dollar General merges with Family Dollar. That gives the dollar stores increased leverage on price. And that’s just one example.

  • “The BigBox Effect.” The biggest retailers have become increasingly private label focused and, in turn, vertically integrated. Take Walmart, for example. In 2018, the retailer opened its first U.S. food production facility in Indiana. Want to guess what kind of food? Why would we be mentioning it? This new facility amounted to a 100mm gallon loss of volume to Dean Foods.

  • “The Loss Leader Effect.” We often talk about the venture-backed subsidization of commonplace lifestyle items, e.g., Uber Inc. ($UBER). Retailers have, in recent years, aggressively priced private label milk to drive foot traffic. “As retailers continue to invest in private-label milk to drive foot traffic, private label margin over milk contracted to a historic low of $1.26 in June, before falling even further to $1.24 in September.

  • Freight Costs. They’ve been up over the last few years. This is a different version of
    ”The Amazon Effect” ($AMZN).

All of these are secular issues that a balance sheet solution won’t remedy. Buyer beware. 😬🤔

So, what CAN the bankruptcy achieve? Yes, the obvious: the balance sheet. Also, there is a contingent liability of over $722.4mm that results from the company’s participation in an underfunded multi-employer pension plan. And liquidity: the bankruptcy will avail the company of a $850mm DIP credit facility. It may also allow the company to pursue a sale transaction to its long-time commercial partner and largest single raw milk vendor, Dairy Farmers of America (which is wed $172.9mm). Surely they must be aware of the secular trends and will price any offer accordingly, right? RIGHT? Either way, those ‘23 notes look like they might be about to take a bath.*

*Likewise certain trade creditors. The debtors state that that they have $555.7mm of total outstanding accounts payable and claim $257mm needs to go to critical vendors and another $189.2mm to 503(b)(9) admin claimants. That leaves a small subset of creditors due a bit more than $100mm holding the bag. This also explains the sizable DIP.
Meanwhile, one of the largest unsecured creditors is Acosta Inc., with a contingent, disputed and unliquidated claim arising out of litigation. Acosta is unlikely to recover much on this claim which is a bit ironic considering that an Acosta bankruptcy filing is imminent. Womp womp.

😷New Chapter 11 BK Filing - Nuvectra Corporation $NVTR😷

Texas-based medical device company, Nuvectra Corp. ($NVTR), filed for bankruptcy in the Southern District of Texas yesterday. It seeks to use chapter 11to continue its review of a range of options to maximize value and address its financial obligations.” Read: pursue a sale.

Nuvecta’s “Algovita Spinal cord Stimulation System” is FDA-approved for the treatment of chronic pain of the trunk and/or limbs; it also has capabilities under development to support other neurological indications such as sacral neuromodulation (“SNM”) for the treatment of overactive bladder and deep brain stimulation (“DBS”) for the treatment of Parkinson’s disease.

Back in July it noted the following in its 10-Q filed with the SEC:

We have incurred significant net losses and negative cash flows from operations since our inception and we expect to continue to incur additional net losses for the foreseeable future. Immediately prior to the completion of the spin-off, Integer made a cash capital contribution of $75.0 million to us, which we have used for the continued development and commercialization of Algovita, development of Virtis, and general corporate purposes. Based on our current plans and expectations, we estimate that our cash on hand, which includes proceeds from our follow-on common stock offerings completed in February 2018 and September 2018, Credit Facility draw-downs, proceeds from the divestiture of NeuroNexus, and cash generated from sales, should meet our cash needs for at least the next twelve months.

Those 12 months appear to have arrived awfully quickly: November - July = 4 months. But who’s counting?

For some mind-blowing reason the stock was up 5.7% during regular market hours today which means somebody made A FRIKKEN HORRIFIC TRADE. The stock has course corrected — as you might expect given the filing — after market, down 76%. 😬

At the time of this writing the filing was incomplete: we’ll update things once we see how the company is framing their strategy.

😷New Chapter 11 BK Filing - Walker County Hospital Corporation (d/b/a Huntsville Memorial Hospital)😷

Walker County Hospital Corporation (“WCHC,” d/b/a Huntsville Memorial Hospital) is the latest in a recent string of healthcare bankruptcies. It filed earlier this week in the Southern District of Texas. Why?

Per the debtor:

“While the Hospital has outpaced market trends in the region for admissions and revenue, and has little outstanding long-term debt, as a standalone hospital operator, the Debtor faces significant challenges in acquiring competitive pricing for necessary goods and services and favorable managed care contracts as compared to multi-hospital systems.”

If you’re wondering about why private equity firms are rolling-up hospital systems, this ⬆️ ought to give you some perspective.

“As a result, the Hospital has significantly above average operating costs that exceed its revenue generation.”

That, ladies and gentlemen, is what you call a lack of economies of scale.

“In addition, the Debtor’s over-extension into rural healthcare clinics and a failed lab venture and ambulatory surgery center, among other issues, have resulted in an unsustainable balance sheet and liquidity.”

So, uh, that all sucks.

Interestingly, the State of Texas helped bury the debtor:

In 2018, the State of Texas shifted its health insurance coverage for state employees from United Healthcare to Blue Cross Blue Shield. This shift materially impacted the Debtor’s revenue, as the Debtor’s contract with Blue Cross Blue Shield has less favorable reimbursement rates and a large portion of the Hospital’s patient population is employed by the State. The Debtor has been in negotiations with Blue Cross Blue Shield since 2016, in an attempt to obtain a managed care contract with the insurer at a fair market rate, but efforts thus far have remained unsuccessful.

Because of this and other issues, the debtor’s revenue dipped and it tripped covenants in its pre-petition credit facility AND defaulted under its operating agreements with the Walker County Hospital District. The debtor has been operating under forbearance agreements with both for some time now while it sought to find a buyer. It failed. This bankruptcy is intended to provide one final chance for such a sale: the debtor already has a sale process motion on the docket. It does not have a stalking horse purchaser, it does have some hope that the District will be a participant in an auction. To allow that process to play out, the debtor obtained a $5mm DIP credit facility commitment from its pre-petition (direct) lender, MidCap Financial Trust.


We have compiled a list of a$$-kicking resources on the topics of restructuring, tech, finance, investing, and disruption. 💥You can find it here💥. Lately we’ve been all about audiobooks: you can try Audible here. And you can listen to those books with these dope new noise-cancelling AirPods (at 6% off through Amazon)Here’s one review.

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