Trouble brewing: Coping with bankruptcy, customers, cash flow

When Collins & Aikman declared bankruptcy this year, the plastics industry shuddered. What do you do when your customer files? MPW walks you through your options, looks at the state of automotive relationships,and reports on one molder''s cash plight.

When a major OEM files for bankruptcy protection in the U.S., its suppliers cringe. Even a Chapter 11 filing doesn''t

mean that the suppliers will get all the money owed to them; it''s just the beginning of a long process of reorganization in which suppliers can participate in hopes of getting some of their receivables-eventually. Knowing what to do when a customer files for protection can be beneficial.

When Collins & Aikman Corp. announced it had filed for protection under Chapter 11 of the U.S. bankruptcy code, it sent a shudder through its supplier community. One mold manufacturer, who did not wish to be identified, noted that C&A owed it a considerable sum, but had recently received a check for more than half the amount outstanding. That''s good news and bad news.

One of the first rules of bankruptcy is that any payments a vendor receives within 90 days prior to a bankruptcy filing may have to be returned if the payment was what is known as a "preference." The principle underlying preference is that of putting all creditors on equal footing, preventing a single creditor from picking apart the debtor before the debtor can file bankruptcy, explains Patrick McNally, CPA and partner in the consulting firm Blackman Kallick (Chicago, IL).

"If you receive payment you could be asked to give that money back, particularly payments that are not in the ordinary course of business, such as old invoices, for example. It also keeps debtors from picking out their favorite creditor and paying him, leaving the others hung out to dry. It''s a way to try and keep the situation fair."

You can also kiss debt collection efforts goodbye. "When a customer files bankruptcy, cease all collection activity immediately," McNally says. "This holds true even if you just hear about the bankruptcy or read about it in the paper. By law, you cannot ask for payment of any pre-bankruptcy-petition debts of a company. If you do, you will run afoul of the bankruptcy court and may end up having your entire debt disallowed or face other sanctions."

Where you are in the food chain is also critical, says McNally, as all creditors are not created equal. The highest-priority creditor is the senior secured creditor, and there also may be junior secured creditors. Administrative claims, such as attorneys and consultants approved by the bankruptcy court, and vendors who continue to sell to the company during the bankruptcy, have very high priority. "Pre-petition unsecured debts, such as most trade payables, have lowest priority," McNally notes.

In the event a customer files Chapter 11, the debtor has to continue to meet its current obligations. "The customer has to pay their post-petition debts currently," says McNally. "Customers who receive shipments of parts, or for whom you provide services, must pay according to the terms. If they do not, the court may convert the bankruptcy to a liquidation rather than a reorganization."

Moldmakers might potentially have a mechanic''s lien on molds, and some states actually have mold lien laws on the books that offer protection for molds not in the moldmaker''s possession.

The 341 Meeting

In any case, McNally strongly suggests attending the 341 Meeting, to which all creditors are invited. In a 341 Meeting, the trustee asks questions of the debtor and opens the floor for anyone to ask questions. To what extent you want to participate in these meetings depends on how much you are owed, explains McNally: "If you''re owed a substantial sum of money, you can send an attorney and he may even attend for free, as there is a vote to pick the attorney who will represent the committee and he might get that job. You might help him get other votes in support of representing the committee."

In the long run, doing business with a customer that has filed for bankruptcy may not be such a bad thing, notes McNally. "Once a company files for bankruptcy, its cash flow suddenly improves because it is not paying old debts, making it easier to pay its current operating expenses. If the debtor does not pay you for post-petition goods in a timely manner, you have a lot of leverage in court."

Law changes

There have been a few changes in the U.S. bankruptcy code recently. One of those concerns the right of reclamation. Under the Uniform Commercial Code (UCC), if you ship goods to someone who''s insolvent, you can demand the return of those goods within 10 days of receipt. Under the changes to the bankruptcy code, if you shipped goods within 45 days of the bankruptcy declaration, you may have greater reclamation rights. If the 45-day period expires after the filing of a bankruptcy, you have 20 days after the date of filing to reclaim your goods, McNally says.

Furthermore, if you have delivered goods within 20 days prior to the filing, the new code moves at least this portion of the amount you are owed higher in priority for payment.

"If the debtor cannot pay for the goods shipped within 20 days of filing for which you have made a valid claim for reclamation, you may be entitled to an administrative claim for that portion of your debt," explains McNally. "If there are no assets available to pay you, you may seek to have a portion of the debtor''s collateral `carve out'' to secure your claim. If there are not sufficient funds to pay you or sufficient collateral to secure your claim, you can petition to convert the bankruptcy to a Chapter 7. This right gives you more leverage."

McNally also recommends the following actions:

1. Get a bankruptcy attorney, not your everyday business attorney. "There are lots of special and arcane rules in the bankruptcy code, so you''d better have someone who knows them," McNally says.

2. Get involved with the 341 Meeting and involve yourself in this process, particularly if you suspect fraud. "People do abuse the bankruptcy process for their own personal gain, so keep an eye on it," says McNally.

3. Move quickly when you get wind of a customer''s bankruptcy. "This is really important," McNally emphasizes.

4. Know when to cut your losses. "Be careful not to spend good money to chase after bad," McNally stresses. "Realize that you may already have lost the amount owed you, and being actively involved in the bankruptcy may not do anything to help you to collect it." CG

A new low in automotive?

To be certain, when General Motors announced that it lost more than $1 billion in the first quarter and that it''s planning 25,000 job cuts, as much pain as the automaker may be in, its suppliers, and subsequently their vendors, are in for even greater duress.

Meager profits posted by Tier 1s like Delphi and Visteon, as well as the bankruptcy of Collins & Aikman, bear witness to that fact. And it is also evident in automotive supplier surveys, which provide an unvarnished forum for suppliers to vent. Not just a rant against the American domestics, the surveys, and the record profits of the foreign "transplants" of Honda, Toyota, and Nissan, serve as a tribute to their magnanimous supplier treatment.

In its latest survey, automotive consultant Planning Perspectives Inc. (PPI; Birmingham, MI) reached two milestones: the lowest ranking for an OEM ever achieved, by GM (trailed closely by Ford), and the highest rankings ever, for Japanese transplants Honda and Toyota, with Toyota the highest.

"[GM] has always been the lowest since we began these surveys," explains PPI''s John Henke, whose company undertakes such surveys for multiple industries, "but supplier trust this year is the lowest of anything we''ve seen over the last 15 years."

PPI has developed a metric to quantify these relations across 1112 buying situations using questions to rank the OEMs in five areas that comprise 17 business practices. Conducted in March and April of this year, the survey tallied responses from 259 Tier 1 suppliers, including 63 of the top 100. These suppliers represent 51% of the OEM''s annual component purchases.

Given the industry mean of 259, Toyota was tops at 415, with Honda (375) and Nissan (298) trailing, and GM (161), Ford (167), and Chrysler (175), bring up the rear. Contrary to conventional wisdom, however, the low marks aren''t apparently related to the constant price-reduction pressure, which has become legendary in the automotive industry.

"Honda, Toyota, and Nissan are pressuring the dickens out of their suppliers to get costs down," Henke explains. "It''s just that they do it working with them to get cost out of the system, and in a manner where they still treat suppliers fairly. They treat them as valued partners; they honor their contractual obligations, where clearly GM and Ford do not."

Jeff Wincel, currently with the Lean Supply Chain Forum, has seen this battering first hand, working with Ford and GM as well as Tier 1s like Donnelly, TRW, and American Sunroof. "It''s not that the Japanese are less demanding," Wincel says. "They''re probably more demanding, especially in terms of quality, but when Toyota tells you something, you know it''s the truth."

Vicious cycle

Many of the Tier 1s succumb to a cycle of abuse, being equally aggressive with their vendors. "Interestingly enough, [Tier 1s] treat their supplier the same way they''re being treated," Henke says. "It seems as if the purchasing departments at the Tier 1s don''t talk to the sales departments at the same company."

The consequences for this behavior are two-fold: Automotive suppliers continue to shift their resources to "Detroit South" in the southern U.S., which has become home to the profitable half of what''s now evolved from the Big Three to become the Big Six, with Honda, Toyota, and Nissan. And they focus less on quality product for GM and Ford. In terms of supplier turnover, for Honda and Toyota it is close to 1% or less, while at Ford and GM it''s more than 10%.

"The bottom line is suppliers see a greater opportunity to make a profit at [Honda, Toyota, and Nissan] than they do with Ford or GM," Henke says.

Wincel argues that the response to abuse for many suppliers is a passive aggressive one, where they don''t directly confront or leave GM or Ford over maltreatment. Instead they might cut staff or machinery dedicated to the companies, buy cheaper materials, and, in general, let quality slip. "Suppliers cut corners when they''re forced to by their customers," Wincel says.

In his discussion with suppliers, Henke says suppliers freely admit to having "A" and "B" teams within their plants, with lesser-skilled B teams taking on jobs for less-preferred customers. "They''re pulling back the services and support they''re giving," Henke says, "because they''ve got to compensate for the price reduction." TD

When cash goes, dominoes fall

No doubt about it: For vendors to the automotive sector, life is not easy. But what happened to Technische Teile Türkheim AG (TTT; Türkheim, Germany) appears to be what processors are increasingly facing in today''s fast-moving economy.

Injection molder TTT employs 380 in Germany and 220 abroad (the Czech Republic, Poland, and China) making parts such as exterior vehicle mirror casings, medical devices, and keyboards for the computer industry.

On May 9, the company was forced to file bankruptcy despite full order books because its customers weren''t paying for delivered goods. In particular, one of its largest customers, Gert Kösling GmbH (Riedstadt, Germany), owed TTT more than €1 million. Kösling itself had filed for bankruptcy on April 1. Short of cash, TTT was forced to throw in the towel.

At press time, the court-appointed insolvency administrator, Bruno M. Kübler, from the law offices of Sozietät Kübler (Munich, Germany), which specializes in such cases in Europe and the U.S., had been able to set up a temporary rescue company, Motion Türkheim GmbH, to keep production going and to reassure customers and suppliers.

Kübler says his job is to reorganize the processor so it can emerge from insolvency and, because of its good order books, find an investor. First negotiations are underway, he says. The case was opened before the district court at Memmingen, Germany on June 16. Production and customer delivers from Türkheim are continuing without interruption, says Kübler.

"The formation of a rescue company, in this case Motion Türkheim, is the best way to master this crisis. The company can continue to operate within the market as long as the court proceedings continue," Kübler says. "The prerequisites for a sale of this operation are good. The production is continuing to operate and the customers, despite the problems, have shown their solidarity with the company and its staff."

Lawyer Dieter Kühne, partner in Sozietät Kübler, says there has already been interest in this branch from investors. Production has continued at the Czech operation without a break.

The idea, says Kühne, is to find an investor for each operation so that they will not have to be broken up and sold piecemeal. RC

VW takes a different tone with suppliers

For its part, German automotive giant Volkswagen is looking to change its supplier relations in an effort to reduce costs. In early June, the company met with 150 of its major suppliers in Hanover, Germany and announced a plan to replace the competitive bidding it currently uses to source jobs and institute a program wherein the OEM would work closely early on with its vendors to generate ideas for reducing costs. In the past, the company pitted potential suppliers against each other, using the lure of its sizable component orders to receive competitive bids. The company says it will still bid out jobs, but once a supplier is secured it will immediately begin cooperation on cost-reduction efforts, revealing all its own internal costs in an "open-book" fashion, and hiding little from the vendor.

For the time being, the new program is moving forward on a trial basis with 30 suppliers. The company has set a target to reduce material costs by $1 billion between 2006 and 2008, again working in conjunction with suppliers in a program dubbed Forum Material Costs. Going forward, Volkswagen will pool purchasing money with suppliers to increase leverage in things like resin and steel buying.

Clare Goldsberry [email protected]

Tony Deligio [email protected]

Robert Colvin [email protected]

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