Debt Restructuring

DEBT RESTRUCTURING is a method oft employed by companies with outstanding debt obligations to alter the terms of the debt agreements in order to achieve some advantage. It is a process that allows com-pany facing cash flow problems and financial distress, to reduce and renegotiate its delinquent debts in or-der to improve or restore liquidity and rehabilitate so that it can continue its operations.

One possible way to achieve this goal is to issue a debt/equity or an equity/debt swap. In the case of an equity/debt swap, all specified shareholders are given the right to exchange their stock for a predeter-mined amount of debt / bonds in the same company. A debt/equity swap works the opposite way: debt is exchanged for a predetermined amount of equity (or stock). The value of the swap is determined usually at current market rates, but management may offer higher exchange values to entice share and debt holders to participate in the swap. After the swap takes place, the preceding asset class is cancelled for the newly acquired asset class.

Another way of debt restructuring includes issuance of callable bonds (i.e. bonds that can be redeemed by the issuer prior to its maturity; usually a premium is paid to the bond owner when the bond is called) by a company to allow it to readily restructure debt in the future. If interest rates have declined since a com-pany first issued the bonds, it will likely want to refinance this debt at a lower rate of interest. In this case, the company will call its current bonds and reissue them at a lower rate of interest. Companies can also restructure their debt by altering the terms and provisions of the existing debt issue.

Debt restructuring was also considered by some prominent economists as a potential solution to the sub-prime mortgage crisis. Economist Joseph Stiglitz testified that bank bailouts "...are really bailouts not of the enterprises but of the shareholders and especially bondholders. There is no reason that American...