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RESTRUCTURING INVESTMENT BANKING

INTERVIEW QUESTIONS

Since the world is falling apart we figured we would put something like this together. Thanks to
our many friends in RX.

Standard investment banking interview questions also apply – restructuring interviews are often
very technical.
NOTE: This is a work in progress and the questions are scattered. A lot of these questions are more
advanced than what you would see in a restructuring interview, but can be good for building up
your understanding. We will edit this later to have more easy, entry-level questions.

Contents

1 Restructuring Market Questions

2 Leveraged Finance Interview Questions
3 Restructuring Investment Banking Questions
4 In-Court versus Out-of-Court Restructuring Questions
5 Liability Management Interview Questions
6 Restructuring and Bankruptcy Dynamics Questions
7 Capitalization Table Questions

Restructuring Market Questions

What’s going on right now in capital markets (restructuring)?

Equity markets are mostly closed and companies are reluctant to issue today given the extreme
dilution to shareholders. There are exceptions such as Carnival Cruise Lines, where they need the
money that badly (I don’t know a lot of people hopping on cruises given recent history).

Debt capital markets are closed except to strong investment grade issuers who are rushing out to
raise today in order to have liquidity to ride out this storm.

Leveraged finance yields have blown up, spreads are extremely wide versus risk-free government
bonds. In fact, government bond yields have actually decreased owing to monetary policy and a
flight to safety.

Leveraged finance DCM issuance is closed except for the most quality (good liquidity, cash flow)
borrowers. Yum! Brands, Restaurant Brands International and Wynn Resources have all priced
deals lately.

Risk premiums on CCC bonds have blown out the widest since 2009 while banks are preparing
to take over the keys of some distressed oil and gas companies instead of selling in a down
market.

How are buy-side investors responding to the COVID-19 crisis?

Plenty of funds who have stayed on the sidelines before are looking to raise fresh capital and dry
powder for cheap valuations.

The 2-20 model that was dying (has been 1-15 lately) now has a reason to start up – picking the
right hedge fund during this time has given incredible returns in a time of distress while many
long, long-shorts (who are really long) and other strategy hedge funds have been wiped out,
especially if they were levered.
What industries are most vulnerable to restructuring during COVID-19?

Leisure & travel, consumer discretionary and retail, oil and gas, airlines, live entertainment (Live
Nation), commercial real estate (office, retail), anything with a lot of leverage.

What industries are in good shape during COVID-19?

Healthcare, technology (especially cloud), grocers, warehousing and storage, sales & trading!

What are more interest rate sensitive? Investment grade bonds or high yield bonds?

Investment grade bonds tend to trade more closely with the reference risk free security (same
duration or interpolated US Treasuries). High yield bonds are priced more off of their individual
credit profile and what constitutes an acceptable return on investment.

Duration and convexity are more associated with less risky bonds.

Why are oil prices down?

No one needs to drive a car or get on a plane or make plastic (petrochemicals).

Leveraged Finance Interview Questions

What is a discounted offering?

Bonds are usually issued at par with the coupon being the market clearing yield for the company
– however when bankers see the OID or original issue discount, this means that the bond was
issued at a discount to achieve a lower coupon.

It is structured to have lower debt service requirements for the duration of the bond.

What are some characteristics that will determine how debt will price?

Maturity and term structure – in theory, if a bond has a nearer maturity than another series, it has
a higher certainty of being paid provided that there is enough liquidity for the company. If the
company is going to default before that maturity, then it should in theory be trading the same as
the longer dated bond.

Collateral – If certain assets are ring fenced for a particular class of debt, they will generally
realize stronger recoveries than unsecured creditors
Seniority – If higher on the capital stack (senior unsecured versus expressly subordinated notes),
expect the senior notes to trade closer to par.

If the noteholder is allowed to put the bond if there is a credit rating event (downgraded to BB+ or
lower), should it trade with a tighter or wider coupon?

It should trade tighter – this is an option to the benefit of the bondholder. Many institutional
investors cannot hold sub-investment grade debt and this is an out for them if credit quality
deteriorates.

Restructuring Investment Banking Questions

Would you include other distressed companies in your market trading comparables?

No, you want to see what a healthy company looks like in terms of ascertaining your value.

What is value break/where is the fulcrum security?

This is the tranche of the capital stack where the security will not get full recovery as valued.

As a simplified example, if a corporate is valued at $300 million and there is $100 million of
secured bank debt, $300 million of unsecured bonds and $100 million of subordinated
convertibles, value breaks at the bonds and they will in theory only be worth 200/300 or 67 cents
on the dollar. The subordinated convertibles are worth nothing in this example (or option value).

What is Value Break?

Value breaks at the fulcrum security. The higher priority debt will get full recoveries.

A cyclical company has EBITDA of $100 million and has $500 million of debt. If healthy peers are
trading at 4x EBITDA, where should the debt be priced?

Ignoring bankruptcy dynamics and liability management options for the company to pull, you
would expect the debt to be trading no more than 80 cents on the dollar. This is obviously an
oversimplification

$100 million x 4x = $400 million enterprise value/$500 million face value of debt. In reality there
should be deeper discount owing to investing frictions and complications to equitizing the debt or
selling the company to realize the recovery.

If the debt is separated into a secured 1L $200 million bank revolver and $300 million in senior
unsecured notes (SUNs), where does each tranche of debt trade?
The $400 million covers the full $200 million bank debt (assuming it is fully drawn) and the
waterfall of payments means they will see full recovery. This leaves $200 million for the $300
million of SUNs and results in the notes trading around 66 cents.

What are some ways to spot distressed companies? What are some signs that a company may be
distressed?

Stock is trading under a dollar

Market capitalization is less than 15% of enterprise value
Very high yield-to-worst (YTW) or market value of debt well below par when risk free interest
rates have not moved that much

Where are some areas that you would look at in terms of normalizing EBITDA for a distressed
company?

Above market leases (rents in better times)

Non-recurring costs
Restructuring related costs/professional fees (auditors, lawyers, restructuring consultants like
AlixPartners, investment bankers)
Bloated cost of goods sold from vendor issues (compare to a healthy company’s EBITDA
margins)
Above market salaries

To whom does a corporation have a fiduciary duty to?

In most cases when the company is a healthy going concern, the fiduciary duty is to the
shareholders. This is why bondholders need to have covenants in place as protections – a court of
law has repeatedly ruled in favor of the company when taking shareholder friendly actions in
detriment to the bondholders. This is why covenants are so heavily negotiated – creditors do not
see any upside when the company does well (unless it is an equity linked instrument) while
management does not want to be constrained in terms of what they can do. The weaker the credit,
the more elaborate the covenants (in theory).

However, when the equity has no value / value breaks in the debt stack of the capital structure, the
company then has a fiduciary duty to the noteholders as well (who are arguably the new equity
or shareholders, while the common equity holds option value at best).

What are some ways to assess if a company may or may not require a restructuring?

Liquidity – this is key in leveraged finance and restructuring. How much cash it has, how much
bank revolver space it has, when the bank revolver maturity is, what the upcoming term debt
maturities are, and how much cash it is burning.

Some companies with better businesses but near term large bond maturities coming up when
capital markets are closed may be in much more trouble than terrible cash burning companies
with maturities kicked out and a lot of room on their revolver as they can pray that capital
markets open again or their business improves before then.

If the balance sheet needs to be right sized – if the debt capacity of a company is 500 million based
on its cash flows, but it has $1 billion of debt, this level is not sustainable. This may be because of a
shift in business environment or a fundamental change in the industry – if the business cannot
adjust, it will need to restructure. For some industries that are dying (newspapers), a restructuring
may not be the right solution versus a liquidation of assets for salvage value as the business may
be worthless.

Some red flags are stretched accounts payables (days payables outstanding) which means they
are being selective with which trade creditors they are paying and full drawdown of their revolver
as they want to have ample cash and flexibility going into bankruptcy. Some loan documents will
have anti-hoarding language specifically to prevent this – so there needs to be a legitimate
business purpose for every draw (e.g. general corporate purposes)

Who can a financial adviser/advisor (investment bank) represent?

You can represent the debtor or a creditor class. Usually, investment banks will prefer the debtor
mandate because the fee is usually negotiated to be based on the total debt value (which may
exceed the enterprise value) versus a creditor class, where the fee is based on the quantum of debt
outstanding for that creditor constituency.

So for example, if the company has $100 million of bank debt, $300 million of unsecured notes and
$100 million of subordinated junior debt and the unsecured notes hire their own financial advisor,
the debtor advisor will get paid based on $500 million and the creditor advisor will get paid on
$300 million.

Also, should there be any asset sales or other corporate finance activity, usually the debtor side
investment bank will get that mandate.

Usually, the company has to pay the financial advisor and legal advisor fees for the relevant
creditor class.

Sometimes, more than one creditor class can hire a financial advisor/investment bank if it is less
clear where value breaks/where the fulcrum security is.

You are putting together an overview presentation to analyse a special situations scenario for your
team to look at – what goes into the pitch book / internal deck so that the senior bankers can get
up to speed quickly?

Overview of current special situation and liquidity event

Corporate organizational chart (org chart) and where assets, liabilities and operations are
located
Historical key events and traded security prices – stock price, various series of notes perhaps
annotated with aforementioned key events
 Historical financial analysis – last 5 years of financials highlighting cash flow, leverage, key
operating drivers and industry trends
Cash flow projections and liquidity event (bond maturity, interest payment, covenant breach) –
can be scenarios analysis and sensitivities done
Industry outlook (can be in the front as well as per normal investment banking but can also be
in back or appendix for RX as it may be firm specific risk)

In-Court versus Out-of-Court Restructuring

Questions
Why is an out-of-court restructuring or liability management preferred over Chapter 11?

It is generally preferred to in-court restructuring or Chapter 11. It is much cheaper (multiple lawyers and
financial advisers/investment bankers fighting in court with corresponding professional fees can erode
the value of the estate) and less time consuming as well as less negative press for a company’s operations.
No dirty laundry is aired in courts.

Key customers and vendors are less likely to change payment terms and become restricted if the
company’s details show up in a bankruptcy filing and regular news reports.

What is more likely to be settled out of court, a distressed company with a simple capital structure
or a complex capital structure?

Simple capital structure as it is an easier negotiation. With a complex capital structure with
various classes of debt, junior debt and equity, it is far more difficult to get everyone together and
find a solution that appeases everyone – increasing the risk of holdouts.

There are also restrictions on what can be done because of the covenants of each tranche of debt.

What are some reasons to go with an in-court process?

Avoiding hold outs, options such as a cram down and the repudiation of onerous contracts.

How do you get to a settlement in an out-of-court restructuring?

In out-of-court RX, firm and major creditors (fulcrum security) discuss liability management solutions.

Ultimately there has to be a solution that works for everyone and shareholders and out of the
money bondholders/junior creditors must be given a tip so to speak. Otherwise they can make the
situation difficult, torpedo the discussions (as holdouts) and force an in-court restructuring.

What are some out of court restructuring solutions?

New money refinancings – can be someone injects new capital and some of the debt is redeemed
for equity (see debt-equity swap).
Complete equitization may be required for firms that do not have current cash flow.

Can also involve cash (pay off a portion of the bonds – not necessarily at par, while the rest of the
bonds stay in the capital stack).

Why would you perform a liquidation analysis?

It may be for the best interests test to demonstrate that no junior creditor would be worse off than
in a liquidation scenario in order to enforce a cram down.

Generally speaking, a liquidation value will be lower than a continuing business, owing to factors
including fire sale prices (both from investors wanting a deeper discount and the urgency of the
seller) and costs of brokerage

What is a cram down?

Bankruptcy court involuntarily imposes the plan of reorganization over the objections of certain
creditor classes.

In a plan of reorganization, who would prefer a lower valuation?

Senior creditors would prefer a lower valuation as it increases their share of the reorganized
entity. The plan value may be very different from the actual true value of the company.

If a company has $300 million of senior debt and $200 million of junior debt, a plan value of $400
million with $200 million of debt could mean that the senior noteholders get all the debt and half
the equity. A plan value of $600 million means that the senior debtholders may only get 1/3 of the
equity. Conversely, junior creditors will push for a higher plan value.

The creditor mix also will determine their willingness to take equity versus new debt. Hedge
funds, private equity and distressed specialists will generally be more willing to take equity.
Traditional asset managers will want new debt.

Chapter 11 bankruptcy is reorganization – what is Chapter 7 bankruptcy?

Chapter 7 involves orderly liquidation.

Who would prefer Chapter 7?

An overcollateralized secured creditor who does not want value erosion via a bankruptcy process.
Or if the business is at risk of obsolescence and stakeholders would be better off under a prompt
liquidation rather than letting it drag out and being eaten up by lawyer and court fees.

What is a preplanned bankruptcy?

Key stakeholders (the potential fulcrum securities) have agreed upon a plan of reorganization
before entering bankruptcy. This streamlines the process as opposed to a free fall bankruptcy
where there is no plan and can drag out, eroding lots of value in the court process.
What is DIP financing?

Super-senior postpetition financing. Senior lenders prepetition often position themselves to

become debtor-in-possession lenders.

Liability Management Interview Questions

Liability management is a key part of understanding corporate restructuring. This may be a
standalone division in an investment bank.

What is a par-for-par exchange?

Par-for-par exchange – a bond can be exchanged for new consideration of notes.

As a sweetener, the bonds can offer a higher coupon, longer dated maturity (if it does not fix underlying
problems, this may amount to kicking the can down the road), equity warrants – so bondholders can get
derivatives of the company which may be immediately sold – effectively juicing the yield, or a switch to
payment-in-kind or PIK interest.

Ultimately, if value is not assessed properly when the restructuring finishes again, the balance sheet has
not been properly rightsized and there may be another restructuring down the horizon.

Depending on the terms of the transaction, credit rating agencies may deem it to be a distressed
transaction and declare it to be a default (of which there are varying levels)

What is an uptier exchange?

An up-tier exchange is when a bond issuer offers a lower principal amount (and possibly interest)
for more seniority in the capital structure.

A typical transaction could be AubreyCo offering its unsecured noteholders with $1,000 million of
principal outstanding maturing 2025 a 40-100 exchange for second lien (2L) notes up to $600
million of total principal due 2027 (usually will be 2L or 1.5L as the banks will not let them get in
front or be pari passu).

This is not necessarily viewed as an event of default (EoD) by the rating agencies if they consider
it to be opportunistic and not inherently to stave off a bankruptcy (distressed transaction).
Remember, the fiduciary duty of a company’s management is to its shareholders, not bondholders
or employees.

This can be a way to reduce debt, reduce interest payments, reduce the amount of debt affected by
covenants and kick out maturities.

Bondholders have to be careful to see how much of a basket of debt is allowed ahead of their debt
in making an investing decision.

What could incentivise creditors to take up an up-tier exchange instead of being a holdout?
 Reduced liquidity of remaining original issue
Early tender incentives offering more principal
Tenders may require a 90% or other threshold so they cannot free ride

Debt for equity exchange or debt-equity swap?

A company can offer to exchange bonds for a certain % of the equity in the company.

What are some other liquidity management solutions to stave off distress and bankruptcy?

Amendments

Covenant waivers
Obviously this cannot continue in perpetuity if the company just asks creditors to waive each
time it is likely to breach its covenants
Distressed debt repurchases

An offer to buy back debt at a much reduced price to par

Can be privately negotiated with creditors through a broker or discreetly on the open market
Companies that are very distressed may avoid this to save cash and go into bankruptcy
instead to preserve liquidity
Subordinated repurchases may be limited by the revolver covenants

What is a coercive exchange offer?

Exchange offer that makes holdouts or non-participating creditors worse off or at the risk of being
worse off as opposed to a non-coercive exchange offer which includes a sweetener

Restructuring and Bankruptcy Dynamics

Questions
What may a corporate do right before they declare bankruptcy?

They will often fully draw on their revolvers so that they have cash and liquidity to breathe during
their Chapter 11. Banks hate this, obviously. Revolving credit facilities may have anti-
hoarding language to prevent this, so that banks may attain debtor-in-possession status during
postpetition financing.

Does the management always only have a fiduciary duty to shareholders?

When a company is obviously in bankruptcy and the equity value is zero, management has a
fiduciary duty to creditors as well (who are theoretically the new equityholders).

What happens if a potential debtor looking to restructure does not choose your bank?
You can pitch the creditors. The creditors’ adviser is paid for by the debtor, but the success fee is
usually less as a percentage and the quantum of the capital stack you are representing is smaller
(versus the entire estate for the debtor advisor).

The debtor side adviser would be the first choice in arranging private capital solutions or leading a
distressed M&A or asset sale mandate for the company.

What is a standard required rate of return on distressed debt that goes into workout situations?

30% is often industry standards – distressed debt funds use this as a discount rate for workout
situations which are usually short duration in nature (a few years max).

When does bank debt start to exit the capital structure?

Banks usually stay put because of their senior position and the debt is illiquid and thinly traded.
Once a company becomes more distressed, they generally want to avoid workout situations and
loan sales are auctioned off to hedge funds and other market participants well below par.

Capitalization Table Questions

If the enterprise value of the company is less than the face value of the debt, why is the equity
market capitalization still positive (the shares still trade above zero)?

At some point equity value becomes option value as the theoretical equity value is zero. The
securities in theory are priced based on the probability weighted outcomes. So while if there was a
liquidation today, the equity is ascribed a value of zero, in theory if there is a 10% chance that there
is equity value if the economy picks up or some major order goes through, the equity should be the
probability weighted value of that outcome. Of course it is often mispriced.

When can you see a mispricing in the market?

Often times there is a mispricing in the market – either the equity is mispriced or the debt is. Or
they both are, once institutional investors start running away.

A good example is a robust trading value for the equity in terms of market cap but the bonds are
trading like they are going to go bankrupt.

If bonds are senior to equity and equity is trading at healthy levels, in theory the bonds should be
at par. If the bonds are senior to the equity and the bonds are trading distressed, the equity should
be trading at option value.

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