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CTI Foods, LLC – Files Prepackaged Chapter 11, Looks to Shed $400mn in Debt

March 11, 2019 − CTI Foods, LLC and 17 affiliated Debtors ("CTI Foods" or the "Company") filed for Chapter 11 protection with the U.S. Bankruptcy Court in the District of Delaware, lead case number 19-10497. The Company, a foodservice manufacturer supplying U.S. restaurant chains and branded food companies, is represented by M. Blake Cleary of Young Conaway Stargatt & Taylor, LLP. Further board-authorized engagements include (i) Weil, Gotshal & Manges LLP as counsel, (ii) AlixPartners as financial advisor, (iii) Centerview Partners LLC as investment banker and (iv) Prime Clerk LLC as claims agent.

The Company’s petition notes between 5,000 and 10,000 creditors; estimated assets between $500mn and $1bn; and estimated liabilities between $500mn and $1bn. Documents filed with the Court list the Company's three largest unsecured creditors as (i) California Employees Class Action ($1.5mn litigation claim), (ii) Saratoga Food Specialties ($914k trade claim) and (iii) Darifair Foods, Inc. ($267k trade claim).

In a press release announcing the filing, CTI Foods advised that “CTI Foods...today announced that it has reached an agreement with the majority of its lenders on a comprehensive balance sheet restructuring that will reduce the Company’s debt by more than $400 million and provide significant financial flexibility to support continued investments by the Company on behalf of its customers. To implement the restructuring plan, the Company filed voluntary petitions under Chapter 11 of the United States Bankruptcy Code in the District of Delaware along with a pre-packaged plan of reorganization with the support of its major stakeholders, including members of an ad hoc group of creditors holding CTI’s first lien and second lien term loan debt (the 'Ad Hoc Group') and equity holders. ”

DIP Financing

The press release further noted that, “In conjunction with the restructuring plan, CTI has received commitments for $155 million in debtor-in-possession ('DIP') financing from its lenders, which, subject to Court approval, will be used to pay down existing debt and fund ongoing operations during the Chapter 11 cases.”

Events Leading to the Chapter 11 Filing

In a declaration in support of the Chapter 11 filing (the “Percy Declaration”), Kent Percy, the Company's Chief Restructuring Officer detailed the events leading to CTI Foods' Chapter 11 filing. The Percy Declaration noted, "While the Debtors’ business as a whole remains operationally sound, a number of market factors and other unexpected events have led to a decline in profitability and a liquidity shortfall for the Company.  Specifically...the Debtors have experienced increased competition, market softness with certain key customers, high upfront costs in connection with improving food safety and quality, a capital expenditure dispute,and large interest payments due under the First Lien Term Loan Agreement and Second Lien Term Loan Agreement.  Consequently, the Debtors have negotiated the Prepackaged Plan with their key creditor constituencies to de-lever their balance sheet and increase operational liquidity." 

The Percy Declaration provided the following further detail, "CTI’s recent profitability decline is attributable in part to an increase in the number of protein processors in competitive segments of the food manufacturing and food service industries, which led to losses in customer shares and a decrease in new business for the Company.  Simultaneously…the Company’s costs have increased over time.  The combination of increased competition and increased costs resulted in lower volumes and narrower profit margins.  The losses were particularly acute for taco meat production—historically one of CTI’s top three products by sales volume—with an approximately 43.1% decline in volume sold between 2016 and 2018.  While the issue was most severe for its taco meat production, the Company’s overall volume sold declined by approximately 13.6% over the same two-year period.

The Company has also been exposed to a number of unexpected operational costs. For example, CTI acquired Liguria in 2016 expecting to capitalize immediately on Liguria’s presence in a niche market of the protein processing industry, and to incorporate Liguria’s products into the menu of options available to CTI’s other customers.  Shortly after the acquisition, however, the Company discovered a number of issues at the Humboldt Facility that delayed CTI’s ability to take advantage of the Liguria acquisition and incorporate the Liguria business into the rest of the Company effectively.

Other segments of CTI’s business experienced a number of recent financial and operational setbacks as well.  For example, after expansion of its Owingsville Facility, the Company has been in the process of transitioning the production of certain meat products to the expanded Owingsville Facility.  The Company has come across a number of difficulties in effecting that expansion and transition, largely due to the more complex operational processes and products.  Additionally, several of the Company’s customer contracts provide that the Company bear the cost of freight.  Consequently, after a substantial uptick in freight costs, CTI incurred expenses that were significantly greater than anticipated.

The Company’s profitability also suffered from food quality incidents in 2017 and 2018.  Although the Company quickly identified and remedied the issues, those occurrences led to a loss of customer sales and to the incurrence of significant costs in remedying the situation and ensuring the integrity of products manufactured on a go-forward basis.  These costs, albeit temporary, have collectively had a material impact on the Company’s recent profitability levels.

CTI has also experienced diminished liquidity due to a capital recovery dispute with one of its customers.  Specifically, in connection with one of CTI’s product lines at the Owingsville Facility, the Company invested in certain specialized packaging equipment at the customer’s request.  CTI initially paid for the upfront costs of the equipment with the agreement that it would recover such costs through reimbursement payments during the life of the contract; however, the customer subsequently unilaterally stopped making the reimbursement payments.  As of the Petition Date, approximately $4.4 million in capital recovery expenses remain outstanding from the customer for the packaging equipment and CTI continues to evaluate potential resolutions.

Lastly, the immediate catalyst leading to the commencement of these chapter 11 cases is the approximately $9.25millioninterest payment on the First Lien Term Loan and Second Lien Term Loan that became due and owing on January 8, 2019.”

Ad Hoc Committee Retentions

Davis Polk & Wardwell LLP is serving as legal advisor and Evercore Group L.L.C. is serving as financial advisor to the Ad Hoc Group.

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