Ask the Workout Window: The Microbrewery Glut ‘Ales’ a Lender

In each issue of The RMA Journal, veteran workout leader Jason Alpert gives advice on thorny workout challenges. Have a challenge you would like Jason to address? Send your question to WorkoutWindow@rmahq.org.   

QUESTION: One of our borrowers, a microbrewery, has suddenly gone from rousing success to habitually late on payments—and missing on covenants related to outside borrowing and operating performance. Our relationship includes a $250,000 unmonitored line of credit, a $250,000 permanent working capital loan (this was to help with an expansion-to-distribution strategy), and a $600,000 term loan secured by the brewery’s equipment, which was appraised at $1 million on a “net orderly liquidation value” at origination three years ago. The business is losing large parts of its clientele to a microbrewery that opened nearby with a full kitchen (our borrower relies on food trucks in the parking lot) and beer that is rated higher on the Untappd app. Our borrower wants very much to turn things around and continue paying on its loan. And we would like that as well, of course. Even more so than with other borrowers, we’re worried that, in a liquidation, the amount we would recover would be meagre because so many breweries have been failing, and there is a glut of related equipment available for sale. Can you provide some clarity on the pluses and minuses of working with this particular borrower vs. foreclosing? I have to admit that from my vantage point, things are looking pretty, well, hazy.  

JASON: What you described is typical of a very competitive industry with limited barriers to entry. The microbrewery industry is no different. As you identified, the microbrewing market is oversaturated. Meanwhile, consumer appetites are changing, with more people substituting other alcoholic drinks like hard seltzer for beer. This will be a factor in the path you choose. To get a better sense of the challenge, I reached out to Chris Burton of Chicago-based Loeb Equipment, which sells, appraises, and auctions off all kinds of equipment. Burton, an appraiser, told me: “Five years ago brewery equipment would retain most of its original appraised value, sometimes trading as high as 80- 90%; today the market is only bringing a fraction of that value at auction, many items bringing less than 20% of their original value.” 

In other words, in a foreclosure/replevin scenario, the bank can reasonably expect to recover only a fraction of the value of its collateral in cash. As you can imagine, such a big loss can make even the most “heady” banker sober up, and fast!  

Your bank would probably be best served by working with this borrower, assuming that they are transparent, and willing and able to do so. The bank will need to feel confident that the management/ownership team can make the right strategic decisions to work through their challenges and right-size the business. To start, your bank should formally default the loan(s), downgrade the credit, and transfer it to workout. From there, the bank should require updated financial information and obtain a new appraisal of the collateral (on a “net orderly liquidation value”) and the borrower’s strategic plan and projections to turn the business around in the face of this new competition.  

Assuming the going-forward plan is feasible and—most critically—you believe management can execute, restructuring the deal is probably the best option. Be sure to stress test the pro forma cash flow projections and have the customer walk through various revenue/cash flow generating activities. Some, such as opening its own kitchen or developing new products or distribution models, may require more capital. (It should be stressed that any capital for expansion or strategic change come from equity or outside the bank.) Investment might warrant payment relief on the debt, hopefully in exchange for additional guarantees and/or collateral. If the borrower has no resources to exchange, then a short-term loan modification (12 months or less) may still be warranted. But be sure to tighten up documentation, reporting, and covenants to closely monitor the loan. In addition, make sure to cross-collateralize/cross-default all loans and obtain a landlord lien waiver, as it seems that the borrower doesn’t own the real estate the business uses, and you will need access to the equipment in the event of future defaults or litigation. The last thing you want in a litigation scenario is to lack access to your collateral because the landlord has control of the property due to a default under the borrower’s lease obligation.  

If the customer doesn’t have the ability to turn the business around, or if the bank seeks to exit the deal, there are other options that may not require litigation, such as offering the customer a discounted payoff to refinance or sell the business (perhaps to the new competitor). Cheers. 

Jason Alpert is managing partner at Castlebar Holdings, a distressed debt fund and financial institution advisor. Jason led and managed workout and special asset teams at major financial institutions for two decades. He is on the editorial advisory board of The RMA Journal and is an adjunct professor at the University of Tampa. Email Jason at jason@castlebarholdings.com or reach out to him at 813-293-5766.    

Disclaimer: The Workout Window is not intended nor is it to be considered legal advice. As The Workout Window stresses, consult with legal counsel and your institution’s management to be sure you are acting within the parameters of your institution’s policies and banking law.  

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