Sears Holdings Corp – Fate of Debtors Hangs in Balance as Weekend of Anxious Waiting Continues

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January 6, 2019 – At exactly 4pm (EST) on Friday an offer by Edward Lampert’s ESL Investments, Inc. (“ESL”) to purchase 425 of the Debtors’ stores on an ongoing basis (the “Going Concern Proposal”) and nominally save 50,000 jobs, either self-destructed like a Banksy painting, or perhaps more appropriately like a Mission Impossible recording,…or it didn’t. 

The moment of truth stemmed from the Debtors’ obligation to inform ESL and other bidders whether they had made the “qualified bidder” cut and were still in the bidding game.

As of Sunday morning, notwithstanding generous off-record input described further below, neither the Debtors nor ESL had made statements or Court/SEC filings as to where the Debtors’ bankruptcy now stands. Ostensibly, barring a yet further drawing of an ultimate line in the bankruptcy sand[1], the Debtors’ directors and ESL now know whether Sears will live, in the hands of ESL, or die in the hands of liquidators. 

In a letter to the Debtors board dated January 2, 2019 (now filed with the SEC), ESL laid out, for the second time in a month, the terms of a $4.4bn “going concern” offer for 425 Sears and Kmart stores. The letter actually contained two offers, (i) the Going Concern Proposal, replete with the lofty goals of saving the “iconic” retailer and as “the only way to preserve tens of thousands of jobs and bring continued economic benefits to the many communities across the United States that are touched by Sears and Kmart stores” and (ii) an alternative bid proposal (the “Alternative Bid Proposal”).

The Alternative Bid Proposal is a scrappy, piecemeal offer to purchase the Debtors’ assets, principally the freehold interests in @200 Sears and Kmart stores and the leasehold interests in almost 900 more. The ESL letter notes, 

“If we were required to bid on the different component assets separately, the aggregate consideration we would be prepared to offer would be significantly less than we have submitted in our Going Concern Proposal…we also are submitting bids with respect to individual assets in the event that our Going Concern Proposal is not declared a ‘Qualifying Bid’ and subsequently accepted.”  

The Alternative Bid Proposal is clearly positioned to serve as a carrot to the Going Concern Proposal’s stick and probably also to harry and confuse the Debtors’ directors who have been left in the invidious position of understanding not one, but two, almost indecipherable offers from ESL in addition to ascertaining the value of several further bids reportedly submitted by groups of liquidators.
The two offers, presumptively trying to create a sense of choice, share a common approach to ESL’s ability to credit bid the debt it holds and to generally wipe the ESL slate clean should either of the proposals be accepted. Each proposal states that it is, 

“… conditioned on (1) confirmation of Buyer’s right to credit bid the secured debt in the amounts described herein (and without any requirement to cash collateralize or otherwise backstop any portion of the credit bid) and (2) a full release by the Debtors of ESL and certain ESL-related parties from any liability related to any prepetition transactions involving ESL. “

The two offers run concurrently with both proposals, absent acceptance by the Debtors, self-destructing on Friday at 4pm. The ESL letter continues, 

“If the Going Concern Proposal has not been determined to be a ‘Qualifying Bid’ prior to 4:00 p.m., New York time, on January 4, 2019, the Going Concern Proposal and the executed Asset Purchase Agreement shall automatically terminate and be deemed withdrawn….If the Alternative Proposal has not been determined to be a ‘Qualifying Bid’ prior to 4:00 p.m., New York time, on January 4, 2019, the Alternative Proposal and the executed Alternative APA shall automatically terminate and be deemed.”

What News from the Boardroom?
It is not often that one finds oneself feeling pity for the directors of a large company or wondering whether a corporate lawyer might actually be under-compensated at $1,000 per hour, but this is one of those times. 

It is no surprise that there are reports of frantic Board meetings and it is a certainty that senior lawyers and financial advisers are being pushed to provide uncomfortably definitive advice as to what the ESL offers are actually worth. 

It is also no surprise that, in addition to valuation issues, the Debtors’ board is reportedly struggling with two of ESL’s most important asks, (i) the right to credit bid and (ii) the right to slip out of prepetition liability.

Bloomberg is reporting that the Going Concern Proposal has fallen short and that the Debtors are lining up to liquidate. Bloomberg states, 

“The retailer started laying the groundwork for a liquidation after a series of meetings Friday in which its advisers weighed the merits of a $4.4 billion bid by Lampert’s hedge fund to buy Sears as a going concern, said the people, who asked not to be identified because the discussions are private.”

Bloomberg continues as to what may have doomed the Going Concern Proposal, “Gaps remained in some of the financing for the proposal, and the plan wouldn’t have provided enough cash to cover costs incurred in the bankruptcy, the people said; it also undervalued inventory and other assets relative to what liquidators were promising to pay….Another key sticking point: much of Lampert’s bid rested on him getting ownership of the reorganized business in exchange for the forgiveness of $1.3 billion of debt he holds. But the validity of those very claims — racked up in a series of spinoffs, refinancings and other transactions — has already been challenged by a group of creditors. The ESL plan didn’t include a cash backstop for that part of the bid.”

On Friday, the Debtors scheduled a meeting for Tuesday morning which undoubtedly will relate to the Friday afternoon deadline. There is also a long-scheduled meeting for Friday the 11th which was supposed to cover any objections relating to the involvement of insiders in the bidding process. It is possibly in relation to this question of insiders, that on December 27, 2018 Edward Lampert took the unusual step of returning “1,327,137 shares of Holdings Common Stock, for no consideration, in order to effectuate a rescission of all the grants during the 2018 calendar year to Mr. Lampert of shares of Holdings Common Stock under the Sears Holdings Corporation 2013 Stock Plan.”

Given the fact that the Friday 4pm deadline is further to Court approved bidding procedures [Docket No. 816], it is not clear what sort of wriggle room the Debtors have left themselves in terms of engaging in yet another round of negotiations with ESL, if indeed ESL’s proposals have been rejected. 

Anything remotely appearing like a “do over” will be met with howls of protest from other bidders and possibly with a derisory response from the Court itself. 

As outlined in two recent Monthly Operating Reports filed with the Court in respect of October and November 2018 [Docket Nos. 1450 and 1451], the Debtors are burning through $100’s of millions a month; they little need further delays resulting from anything that looks like favoritism towards ESL or mis-management of the bidding process. 

One possible path for a board looking to play it somewhat safer, would be to name one of ESL’s proposals as a back-up bid to a “winning” bid from a liquidator. This second place finish would nominally keep ESL in the game and give the Board further time to evaluate ESLs runner-up bid against that of the winner. 

Given, however, that a winning bid is likely to be from a liquidator and that liquidating efforts would begin almost immediately, it is unclear how much more time and space a second place finish would afford ESL and the Debtors.

We will know more shortly…meanwhile those 50,000 employees and communities “touched by Sears and Kmart” wait very nervously indeed.

[1] ESL has agreed to serve as a back-up bidder in respect of both the Going Concern Proposal and the Alternative Bid Proposal in the event that another bid is chosen as superior by the Debtors. It is not believed that there is a further going concern bid, so it is unlikely that Sears would be named as a back-up bidder in respect of a its Going Concern Proposal. It is more likely that ESL could remain in contention as a back-up bidder to a winning bid submitted by a liquidator (or consortium of liquidators).

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