Loewen Group, Inc., a publicly-traded funeral home and cemetery consolidator, is facing impending distress as it struggles with its debt obligations. It is looking into debt restructuring but is seen to be expensive for creditors, shareholders, suppliers, and other stakeholders. Also to be considered when making the decision are cross-border and accounting issues which may add complications to the restructuring scheme.
Stuart C. Gilson; Jose Camacho
Harvard Business Review (201062-PDF-ENG)
November 02, 2000
Case questions answered:
Case study questions answered in the first solution:
- How was the Loewen Group, Inc. able to grow explosively in the first half of the 1990s? How did Loewen get to the position it found itself in 1999?
- Some might describe Loewen as financially distressed. Is this a fair description of the problem? What are the manifestations and apparent costs of this so-called financial distress?
- In what sense can you qualify Loewen as a family firm? Did this ownership structure have an influence on Loewen’s growth strategy? Should this affect the outcome of the restructuring in any particular way?
- If, in March 1999, you were an investor with a mandate for investing in distressed companies, would you consider acquiring a stake in Loewen? If so, how would you proceed? Would this help John Lacey?
- Besides restructuring the existing debt obligations of the company, what are Loewen’s alternatives? Does any of these strategies stand a chance of success?
- If it comes to a restructuring of the existing debt, which strategy would you recommend to John Lacey? An out-of-court restructuring or a Chapter 11 filing?
Case study questions answered in the second solution:
- Analyse Loewen Group, Inc.’s explosive growth and acquisition strategy followed until 1999. Did it make sense from a strategic perspective? Was the actual implementation of the acquisition policy-wise?
- How was Loewen’s growth financed? How do you evaluate the company’s financial policy?
- Analyze the firm’s actual performance and compare it against that of SCI. Did the actual implementation of the growth strategy produce the intended results? What mistakes were made?
- Analyze the offer made by SCI to acquire Loewen. Does it make sense? Can such a premium be justified? Was Loewen’s board wise to reject it?
- As part of the takeover defense, Loewen entered an agreement with Blackstone to jointly acquire Prime Succession and Rose Hills. How do we evaluate the acquisitions made in 1996, the high-yield debt issue, and the equity agreement with the private equity group? Would a financially stable company engage in such financing arrangements?
- What is the nature of the financial problems faced by Loewen in 1999? Is the company facing imminent financial distress? What are the immediate and most urgent problems to solve?
- Should Loewen file for bankruptcy? Propose a restructuring plan that, in your opinion, could be acceptable to all parties.
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Loewen Group, Inc. Case Answers
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Executive Summary – Loewen Group, Inc.
Loewen Group, Inc. is the 2nd largest player in the death care market in the US & Canada. It had been growing explosively. However, it is now facing difficulties mainly due to its massive acquisition strategy during the ’90s, mainly financed with debt.
The fact that these acquisitions were spread all around the USA (48 states), Canada, and the UK – decentralized acquisitions – and the bad conditions of the market – lower death rates – meant that Loewen was in trouble, and the industry itself was shrinking.
The growth strategy needed to incur debt since there were no internal funds available (negative operational cash flows). However, the aggressive usage of debt had many downsides, which could ultimately lead to complete financial distress.
Loewen was able to grow the business and successfully compete with already existing giants, so the goals of their strategy were met. However, it also committed several mistakes, like accumulating too much debt and being too dependent on original owners or managers.
SCI’s takeover offer
In 1996, SCI made an offer to buy out Loewen. It would be the perfect chance for them to further consolidate the market, take advantage of synergies and economies of scale, and eliminate one of their main competitors. Loewen Group, Inc. refused their offer mainly out of management pride. As they thought they were being undervalued.
Shareholders would have benefited from this transaction as SCI was offering a premium on the fair value of the shares. As a response to the offer, Loewen’s management accelerated the acquisition program again, heavily financed by debt, which eventually led them to the financial distress situation that they were in by 1997.
Loewen’s management invested $605m into these highly leveraged acquisitions to counter SCI’s acquisition proposal by making itself a less attractive target. Nevertheless, the acquisitions were attractive targets for Loewen’s growth strategy.
Growing was considered important due to the industry’s limited available properties leading to a “consolidation race.” The financing structure allowed Loewen Group, Inc. to keep parts of the acquisition costs off-balance sheet, as the partnership with Blackstone can be seen as bridge equity or, effectively, a loan. This allowed the acquisition to move forward despite Loewen’s high debt levels.
The nature of the financial problem Loewen is facing is insolvency due to excessive growth with leverage. The indicators, such as negative cash flows, overleverage, low solvency, and interest coverage ratios, confirm the financial distress of the company.
Additional indicators that confirm the company’s financial distress are covenant violation, a downgrade in credit rating, and a drastic decrease in the stock price. Concerning the urgent matter that should be tackled, Loewen should renegotiate the terms and restructure its bank loans if it wants to avoid filing for bankruptcy.
The most suitable solution would be to file for Chapter 11. Liquidation cannot cover all its obligations, raising debt is restricted by covenants, share issuance is unattractive and will dilute existing shares, and enhancing operations is not appropriate for short-term situations.
The next step is a Restructuring plan. To do so, Progressive Haircuts, Debt/Equity Swap, and Equity Injection – are valid decisions. Loewen Group, Inc. should balance each of these would translate into a less costly decision to guarantee a brighter future for the company.
Given that the liquidation value is smaller than the EV in the valuation of the ongoing concern, Loewen should not liquidate but instead file for bankruptcy since, for instance, noteholders would be less impaired.
To do so, an external investor has to be called to put in equity. By doing so, all secured debt holders are paid back, they are not impaired, and do not have any voting rights on the restructuring plan. After, the external investor can convert the debt bought into equity, giving him access to Loewen’s equity.
Company, Industry & Case Overview
The Loewen Group Inc.
The Loewen Group Inc. is a company in the death care services (provision of funeral, burial, and cremation services and related products) created by Ray Loewen in 1969 in British Columbia, Canada.
Loewen group had grown explosively, mainly by acquiring small independent funeral homes and cemeteries in densely populated urban markets. In 1999, it already owned over 1,100 funeral homes and more than 400 cemeteries only in the US and Canada (being also present in the UK).
Back in the ’90s, the death care industry presented a highly fragmented market, where the major operational firms were small family-owned companies that supplied local communities. Given that the demographics are very constant, it leads to the death rates being stable and predictable.
Based on this, it is important to highlight that a good service relies essentially on a good relationship between the owners and its consumers – many customers have stayed with the same company for decades.
Despite the high fragmentation, there were only a few market leaders in this industry, reflecting the lack of competition. Another important aspect is that there are high barriers to entry, from very strict regulations to the limited amount of land available for cemeteries.
Over the last 5 years (1993-1998), consolidated revenues had grown by nearly 30% a year, on average, from $303 million to over $1.1 billion. Despite this impressive growth, however, the company is now facing a major financial crisis, reporting losses of about $599 million in 1998. This loss seems to be mainly due to Loewen’s acquisition strategy, which had been aggressively financed with debt.
Loewen Group is the 2nd largest player in the death care market in the US & Canada. It had been growing explosively. However, it is now facing difficulties mainly due to its massive acquisition strategy, mainly financed with debt.
Loewen Group, Inc.’s exponential growth was based essentially on the numerous acquisitions financed through debt performed during the ’90s. The fact that these acquisitions were spread all around the USA (48 states), Canada, and the UK – decentralized acquisitions – and the bad conditions of the market – lower death rates – allows for the conclusion that the implementation was not as accurate as it should have been.
Explosive Growth & Acquisition Strategy
As companies were family-owned, they were typically passed on to the next generation. However, this meant that a big part of the family’s capital was tied up in the death care business.
Moreover, the heirs would rather work in other industries and, therefore, were only a few market leaders in this industry, reflecting the lack of competition. Recent trends moved towards higher pre-sales rather than “at-need basis,” and cremation became popular.
These small business units suffered from specific issues:
- A low number of services provided
- High fixed costs: employees’ salaries, costs associated with services
- Capital tied up: equipment stays unused for long periods of time
- Low bargaining power with suppliers
Later, managers understood the benefits of acquiring other small businesses: they would benefit from lowering costs (fixed and variable), increasing bargaining power, and thus being able to improve their margins, as many owners lacked managerial expertise. Although this seems to be a straightforward approach, different strategies can arise from it. Now, we are going to analyze exclusively Loewen Group, Inc.
Loewen Group, Inc. Acquisition Strategy
Ray Loewen’s strategy was based on buying majority stakes in funeral properties, letting minority stakes to the sellers, and giving them management autonomy.
At the same time, Ray wanted to keep the previous owners managing the operations since they had the knowledge and established relationships with clients. This approach leads to huge amounts of Premiums paid to these owners during the buying phase.
After the acquisition, Loewen Group, Inc. would finance itself – mostly through debt – to inject capital into the new property and improve merchandising, avoiding aggressive advertisement. Since the pre-need business represented a big portion of Loewen’s revenues, its accountings presented large values of deferred revenues.
Financial Performance Analysis
In theory, the acquisition plan performed by Loewen Group, Inc. would eliminate…
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