TIME: Almanac 1993/TIME Almanac 1993.iso/time/111990/1119200.000

Text File | 1992-08-28 | 9.0 KB | 193 lines

                                                                                BUSINESS, Page 79

Carry That Weight


Laden with debt from the merger-manic 1980s, American companies
struggle to lighten their loads as the rough weather of a
recession begins to rock them

By THOMAS MCCARROLL -- With reporting by Michele Donley/Chicago
and Matt Rothman/Los Angeles


    For corporate America, the past decade was a time of easy
money and hell-bent expansion. As capital poured in from eager
lenders in the U.S. and overseas, American firms went on an
unprecedented credit binge. Commercial IOUs soared from $829
billion in 1980 to $2 trillion last year, enabling corporations
to finance a record number of buyouts, restructurings and stock
buybacks. But with the economy on the verge of a recession and
many businesses leveraged to the hilt, companies are struggling
to shape up and reduce debt loads. "Corporations are discovering
that debt is a double-edged sword," says Edward Tyburczy, a
senior vice president of Standard & Poor's, the debt-rating
agency. "Those who lived and grew by the sword are now in danger
of dying by it."

    An alarming number of U.S. companies have been crushed by
debt this year. From January through September, some 44,000
firms have failed, an increase of nearly 15% from the same
period in 1989. The latest notable victim is Southland, the
Dallas-based operator of the 7-Eleven chain of convenience
stores, which filed for Chapter 11 protection last month after
failing to manage its $2 billion in obligations. Financial
analysts warn that many other debt-ridden businesses could be
headed for bankruptcy unless they find a way to lighten their
load. None of the methods are easy, but many firms are doing
just that. With the same zeal they showed for leveraging up,
companies are vigorously deleveraging. Their techniques range
from old-fashioned cost cutting to modern tactics like
debt-for-equity swaps.

    One of the most common methods to survive debt is to
refinance. Lenders will usually keep extending a company's debt,
but often at higher interest rates on the new loans. At the
moment, though, many lenders are pulling back because of rising
defaults, so the refinancing option is becoming more remote. In
fact, analysts warn that this has produced a credit crunch that
could push many over-leveraged companies closer to failure. The
situation is worst for firms that borrowed heavily by issuing
junk bonds. The investment house that controlled most of the
market for those securities, Drexel Burnham Lambert, has gone
out of business, making the refinancing of such debt all but
impossible.

    Yet companies have other ways to restructure their debt,
notably by using corporate stock. Firms in relatively good
financial health can raise money by offering new shares on the
market. Mr. Coffee, which was leveraged to the hilt as the
result of a 1987 buyout, was able to wipe out almost half its
LBO debt through a new issue last May. Another technique is the
debt-for-equity swap, in which corporations retire their bonds
by giving lenders corporate stock. That strategy was employed by
furniture maker Interco, which last week announced that it will
swap 95% of the stock in the company for $400 million worth of
its bonds. But selling equity has become difficult in the
bearish stock-market climate, and stockholders in troubled
corporations often protest new issues that would dilute the
value of their shares.

    Excess debt inspires many firms to put some of their assets
on the block. Unocal, the Los Angeles-based oil company, has
been able to slash one-third of its $6 billion debt by selling
coal mines, refineries and even its headquarters. But these
sell-offs become less attractive as too many companies rush to
unload assets. With so much merchandise on the block, prices
have been depressed. Harcourt Brace Jovanovich, which incurred
heavy debts fighting off a takeover bid, sold its Sea World
theme parks last year for $1.1 billion, about $400 million less
than many analysts expected. The market is expected to
deteriorate further, which may force some companies to sell even
more assets to raise the cash they need.

    One of the most obvious ways for companies to make ends
meet is to cut costs, which includes heavy trimming of the
payroll. Over the past two years, Goodyear has pared its work
force by some 6,000 workers, to 109,000. Businesses are also
reducing overhead by cutting expenses and perks. Marriott, the
highly leveraged hotel chain, recently instituted a salary
freeze of up to one year for senior managers and three months
for administrative and clerical help. Harcourt sold off its
fleet of corporate jets and got rid of its chauffeur-driven
limousines.

    In order to hold on to precious capital, companies are
increasingly delaying the payment of bills. Says C. Richard
Lehmann, head of the Bond Investors Association: "Companies are
writing checks but waiting for creditors to call and ask for
payments before mailing them." But that doesn't mean that
corporations are any more understanding of their own customers.
They are stepping up their pressure on businesses that owe them
money.

    Many corporations have dreamed up creative means to pare
down their debt. Vail Associates, the Colorado ski-resort
operators, paid down part of its interest expenses in free ski
passes rather than cash. And FPA, a Pennsylvania real estate
developer, retired $19 million in junk-bond debt by giving its
creditors raw land that it owned.

    For companies that fail to get a handle on their onerous
debt, bankruptcy looms. Once a shameful solution, even Chapter
11 is growing in appeal as other options disappear. For one
thing, it allows indebted companies to keep operating while they
reorganize. The newly revised tax law could add significantly
to the number of firms seeking bankruptcy shelter. Under the new
law, transactions in which debt is converted into equity will
be taxed, thus increasing the costs of restructuring. But the
tax will be waived if the company is under Chapter 11
protection.

    Overleverage doesn't necessarily lead to the poorhouse.
Some companies have been able to dig themselves out. Santa Fe
Southern Pacific, which borrowed $4 billion to elude a hostile
takeover bid in 1987, managed to repay the debt last March, four
years ahead of schedule. The Chicago-based company sold its
timber business as well as its pipeline, construction and
leasing divisions. Media and entertainment giant Time Warner,
which has nearly $11 billion in borrowings, hopes to grow its
way out of debt without selling off assets. Says N.J. Nicholas,
co-chief executive: "We can live with debt. It only becomes a
problem when you have poorly managed businesses and no one
wants to buy your products." As a hedge, however, Time Warner
has said it may seek foreign investors that would take a
minority interest in some of the firm's businesses.

    Some business leaders believe that debt, in moderation, can
have a positive influence. According to the so-called creative
theory of debt, the discipline of working under leverage
inspires managers to work harder and be more innovative. Says
Robert Amman, chief executive of Western Union: "Some people
thrive in a crisis environment. It's like ballplayers who
perform under pressure during the World Series or the Super
Bowl."

    Not everyone buys this theory. Some complain that debt is
more of a distraction than a disciplinarian. Managers can become
so absorbed with cutting costs and staying one step ahead of
creditors that they often neglect day-to-day operations. Some
companies, including Harcourt, appoint executives whose sole
duty is to manage debt. Says Peter Jovanovich: "The Superman
approach doesn't work. If the CEO tries to do it all, deal with
the bankers and run the business, he'll probably do it all
badly."

    Under those circumstances, debt can make firms less
competitive. Since RJR Nabisco's leveraged buyout in late 1988,
in which the corporation assumed some $25 billion in debt, the
company has lost market share to rival Philip Morris because
RJR's management is so absorbed with managing the huge LBO, many
analysts contend. In addition, loan payments, which average 30%
of corporate cash flow, often divert money away from more
productive pursuits, including research, advertising and capital
spending. While Phillips Petroleum was digging out from under
its $9 billion debt, the corporation had to pass up several
opportunities to acquire crude-oil reserves at bargain prices.

    Levels of corporate debt tend to ebb and flow in a cyclical
pattern. For the moment, leverage is out of style. "Companies
may have learned a valuable lesson," says William Rifkin, a
managing director at Salomon Brothers, "but they're doomed to
repeat the same mistakes in another 20 years." Maybe so, but
that means the business managers who have survived the debt
swamp will be unwilling to return to it until well into the next
century.