Debt Management Operations: A Bridge to Stability, or an Expensive Detour to Restructuring?

The following is a guest article byDavid Dragich(corporate restructuring lawyer and founder of The Dragich Law Firm) andGene Kohut(advisor and fiduciary in corporate restructuring proceedings and co-founder of Trust Street Advisors). The views expressed are solely those of the authors.

Data from the recent wave of liability management exercises reveals a stark reality. According toS&P Global Market Intelligencestatistics, between mid-2017 and August 2024, 35 companies executed 38 liability management exercises, and 37% of these companies ultimately still filed for bankruptcy.

Among the companies that did not go bankrupt, only 5 (14%) successfully avoided subsequent defaults and maintained ratings above CCC+. For CFOs currently facing debt challenges, these data raise critical questions: Are liability management exercises (LMEs) a genuine bridge to stability, or merely an expensive detour leading to an inevitable restructuring?

The answer, as is often the case in corporate finance, depends on execution. Although LMEs can provide valuable breathing room, data increasingly suggest that without parallel operational restructuring efforts, LMEs often merely delay—and may even complicate—an eventual comprehensive restructuring. For companies facing debt challenges, understanding when and how to effectively use LMEs, rather than seeking a more comprehensive solution, has become a key strategic decision.

The Appeal of LMEs

A liability management exercise refers to a transaction or series of transactions aimed at modifying a company's debt obligations outside of court-supervised restructuring proceedings. These exercises typically involve exchanging existing debt for new debt with different terms, transferring assets to secure new financing, or creating new structural priorities among creditors.

Common techniques include: priming upswap exchanges (where specific creditors exchange their debt for new debt with higher priority), asset drop-down financing (transferring assets to subsidiaries to support new borrowings), and subsidiary transfers that create new collateral packages.

The appeal of these transactions is clear: they provide companies with a path to address imminent debt maturities without the disruption, stigma, and cost associated with a full restructuring or bankruptcy filing. Through LMEs, companies can extend maturities, obtain covenant waivers, and preserve near-term liquidity—while maintaining existing operations and avoiding the uncertainty of more drastic reforms.

From a CFO's perspective, this trade-off often seems straightforward. LMEs can buy time for market conditions to improve, operational initiatives to take effect, or refinancing markets to become favorable. Negotiating with specific creditor groups, rather than engaging in a broader restructuring involving multiple stakeholders, appears to be a more manageable path forward. Moreover, the direct costs of LMEs, while significant, are usually far lower than the perceived costs and risks of a comprehensive restructuring.

However, this tactical appeal often masks deeper strategic concerns. While LMEs can address immediate liquidity needs or near-term maturities, they rarely address the underlying issues that led to the company's financial distress. The S&P data reveal a sobering reality: for many companies, LMEs are not a bridge to stability but rather the first step on a longer, more complex, and ultimately more costly restructuring journey.

The Hidden Costs

Although LMEs may appear less costly than a comprehensive restructuring, the true costs—both immediate and long-term—can be substantial. Direct financial costs are significant: companies typically pay high fees to legal and financial advisors, and new debt associated with LMEs often carries higher interest rates due to the company's distressed state and the complexity of the transactions.

But the more significant costs often lurk beneath the surface. The S&P data reveal a striking story about the impact on creditor recovery rates. Take Travelport, for example, where after its priming loan transaction, estimated recovery rates for junior lenders plummeted from 75% to 0%. Similar patterns appeared at J. Crew and Revlon, with estimated recovery rates dropping by 25 percentage points, while Party City saw a 30-percentage-point decline. These sharp declines in recovery expectations reflect how LMEs can fundamentally reshape capital structures, often to the detriment of existing stakeholders.

Operational restrictions imposed by new debt terms can further hinder a company's ability to execute business improvements. New covenants may limit capital expenditures, restrict operational flexibility, or constrain strategic choices. Meanwhile, management teams often become consumed by complex liability management negotiations rather than focusing on core business operations and necessary operational restructuring initiatives.

Most critically, LMEs can create intricate capital structures that exponentially complicate future restructuring efforts. Each transaction adds new layers of structural subordination, intercreditor rights, and competing claims that must be unraveled in any subsequent restructuring. This complexity not only increases the cost and time of future restructurings but can also limit a company's strategic options when a more comprehensive solution becomes necessary.

Making LMEs Work

Although the LME data may be discouraging, some companies have successfully used these transactions as part of a broader turnaround strategy. The key difference: using the breathing room provided by LMEs to implement meaningful operational changes, rather than merely postponing inevitable financial challenges.

A successful liability management strategy requires a dual track of parallel financial and operational restructuring. This means using the time bought by LMEs to rationalize operations, reduce costs, improve working capital management, divest non-core assets, and strengthen market position. The financial flexibility gained through LMEs should not be seen as an end in itself, but rather as creating a window to implement these critical operational improvements.

Stakeholder engagement and transparency are equally crucial. Companies that maintain open communication with creditors, report progress regularly, and remain responsive to stakeholder concerns are more likely to sustain support throughout the restructuring process. This transparency is especially valuable if additional creditor cooperation is needed in the future.

Successfully executing this dual-track approach requires careful coordination between the CFO's office and operational leadership. While financial and legal advisors focus on LME execution, operational teams must simultaneously drive cost reduction initiatives, improve inventory management, enhance pricing strategies, and address any underlying market challenges. Without this operational focus, even the most carefully designed liability management exercise can devolve into an expensive delaying tactic.

As the S&P data show, liability management exercises are not a panacea for companies facing financial distress. Without corresponding operational improvements, they can become expensive delays on the road to an inevitable restructuring—often leaving companies with more complex capital structures and fewer options when the day of reckoning arrives.

However, for companies that view LMEs as part of a comprehensive turnaround strategy, these transactions can provide valuable runway to implement necessary operational changes. The key is to view liability management as a tool in a broader restructuring toolkit, not as the solution itself. CFOs must clearly recognize both the opportunities and limitations of these transactions and ensure their organizations are prepared to use the breathing room provided by LMEs for meaningful operational improvements.

As companies navigate financial challenges, the most successful paths are likely those that balance financial engineering with fundamental business improvement. Ultimately, the success of any liability management exercise will be measured not by its immediate impact on the balance sheet, but by whether it provides a bridge to sustainable operational performance.