The precarious position of companies serving residential construction markets was made even worse in late 2008 by the turmoil in the financial markets. For Western Tool Supply, a distributor, and STO Industries, a fastener importer, it meant having to file for Ch. 11 bankruptcy protection so they could meet their obligations and restructure. In this article, the companies tell their stories. MDM also examines bankruptcy trends and the impact of bankruptcies on the distribution channel.
For Kevin Kiker, closing down or even selling the company he founded more than two decades ago was not an option.
When the housing market crashed, and the credit crisis hit, Kiker had little choice but to file for Ch. 11 bankruptcy protection last year to save what he could of Salem, OR-based Western Tool Supply, a tool and fastener distributor. “It never crossed my mind to give up,” he says.
The task would be no small feat. At its peak, his company had grown to 75 branches in the U.S. and Canada. But due to the credit crisis and weak cash flow, bills were coming due from landlords, banks, and other vendors.
Kiker knew he had to restructure the business, or the business would not make it. “It was excruciating,” he says.
Western Tool Supply is just one of many distributors both big and small in residential construction markets that have gone into Ch. 11 bankruptcy protection over the past three years. Others that have been forced to do the same: Stock Building Supply, Building Materials Holding Corp., Bison Building Materials and Wheeler’s Building Materials.
The impact of the recession has reached beyond these markets, with distributors outside of this sector also restructuring under the bankruptcy code. Sales of distressed distribution companies have driven mergers and acquisitions markets over the past two years.
Western Tool Supply’s story is illustrative of the challenges that many distributors and their channel partners have faced in one of the roughest markets in recent history.
Despite the recession’s being officially over, many in the industry expect the number of bankruptcies to continue to be high over the next year both among distributors and their customers. For the building supply industry, which is still bouncing along the bottom, the worst may be yet to come, according to some.
“I think unfortunately we’re going to see the biggest group of companies exit in the next nine months,” building supply industry expert Ruth Kellick-Grubbs says. She is the president of Kellick & Associates. “It’s been tough to manage the cash up to this point, and I don’t see it getting any easier over the next nine months. … We will have some markets rebound faster than others. But nobody is rebounding fast.”
She says that if companies are in trouble, they need to move quickly and gather the resources they will need, including an outside adviser, to turn the situation around. “If they decide bankruptcy is where they will go, the sooner they do it the more chance they have of preserving something.”
In the first half of 2010, business bankruptcy filings were down 4 percent, with Ch. 11 business reorganizations registering the sharpest decrease of 17 percent, according to the American Bankruptcy Institute. The data is not available by industry.
Still, while the number of business bankruptcy filings was down in the first half, the number is down from a high level. In 2009, business bankruptcies were up 40 percent from the 12-month period ended in 2008, the highest since 1993.
The number of businesses that succeed in reorganizing through Ch. 11 is low. Studies show that about a third of companies succeed in getting their reorganization plans confirmed in the courts, the final step before emerging from Ch. 11.
But as noted by industry experts interviewed by MDM and by a February 2009 paper, “The Success of Ch. 11: A Challenge to the Critics,” by Harvard Professor Elizabeth Warren and University of Texas Professor Jay Lawrence Westbrook, many companies wait until the last minute to enter Ch. 11, when it is already too late to save the business.
On the other hand, success rates for companies who have a plan for reorganization in hand after entering Ch. 11 can reach 70 percent, according to Warren and Westbrook’s research. That weeds out those companies that did not have a chance at success when originally filing. Cases for those companies that do not succeed in reorganizing are either dismissed by the courts or are converted to Ch. 7 bankruptcy, where the company’s assets are liquidated.
Western Tool Supply succeeded in emerging from Ch. 11 bankruptcy protection this year. Kiker’s reorganization plan was approved by creditors and the courts within nine months.
Western Tool Supply’s Story
Kiker was a plumber when the recession of the early 80s hit. He started his tool business out of his garage to supplement his income, and that eventually became his main business. “I knew the construction trades well,” he says. His father was a builder.
Kiker opened his first store in Albany, OR, and then moved to Salem, OR, where Western Tool Supply’s headquarters now are.
He expanded throughout the Pacific Northwest. “As the market grew, we grew,” he says. In fact, excluding the past few years, the company has grown at an average annualized rate of 25 percent per year for 27 years.
In 2001, he acquired a chain of stores in California named Post Tool, and in 2002 expanded into the mountain states with an acquisition. The distributor continued to grow through both organic and acquisitive growth.
In 2004, Western Tool Supply moved into western Canada with the acquisition of House of Tools. Sales in Canada grew to about $50 million. Around the same time, the distributor bought a company with 13 stores in New England called Woodworker’s Warehouse/Trendlines.
At its peak, Western Tool Supply reached $127 million in sales, 75 stores and 500 employees. “And then it all came crashing down,” Kiker says. The U.S. crash was big – with housing starts falling 74 percent from January 2006 to August 2010 – but Kiker says that western Canada, where most of his business was, was also hit hard by a deep decline in the oil industry, and that had an impact on his markets there.
While Kiker was fighting to meet his obligations to banks, vendors and others, his channel partners and customers were also struggling. Suppliers were downsizing or being acquired. Customers struggled to pay their bills. “We had huge losses in our receivables,” Kiker says. “We didn’t get paid, so we couldn’t pay. It was just a big meltdown.”
Kiker filed for bankruptcy in Canada first, and soon after closed operations there. He filed for Ch. 11 in the U.S. soon after. He then shifted his focus to saving his U.S. business. As Kiker put it, there were “two raging infernos and only one fire hose.”
He expects to reach up to $16 million in sales this year from a much smaller footprint in the U.S.
The Perfect Storm
Like many distributors, Western Tool Supply’s already precarious position due to its exposure to residential construction markets was made worse by the turmoil in financial markets, which peaked in late 2008. Banks have either shut down credit lines altogether, or decreased the percentage value of assets that they would lend on – at a time when the value of those assets has dropped. For distributors serving construction channels, the challenge has been even greater.
“On the corporate level, banks are saying we have too much exposure into this channel,” Kellick-Grubbs says. “… Our industry is persona non grata to banking institutions.”
This credit squeeze was the main reason Washington-based fastener importer STO Industries filed for Ch. 11 bankruptcy protection last year. STO’s bank, with a large portfolio of loans linked to real estate markets, started calling loans due.
As a result, President Jacob Davis’ line of credit also came due – within four weeks – despite the fact STO Industries had never missed a payment. He could not pay in the time frame set by the bank, and no other banks were lending.
Compounding the problem, STO Industries, which sources product from Asia, stocked up before the Beijing Olympics in the summer of 2008. “Every factory said there would be a huge bottleneck that would take months to clear out,” Davis says. But the bottleneck never materialized, and Davis’ orders came in all at once – right when financial markets crashed at the end of 2008 and demand tanked.
“The only reason we filed (Ch. 11) was because the bank called the note,” Davis says. “And our dollars were tied up in inventory.”
When attempts to come to an agreement outside of court failed, Davis says his only recourse was filing for bankruptcy protection. The company’s plan of reorganization includes payments over several years to the bank, providing STO with the ability to continue investing in the business.
Like Kiker, Davis never thought twice about his decision to continue, though filing Ch. 11 did briefly rock his confidence. “You second-guess your ability as a business owner,” he says.
But after 25 years of success, Davis says he recognized his company had been the victim of a perfect storm. “The reality is that it was a situation that was unavoidable by many of us. It was one blip in time,” he says. “You know that time is what makes things right. And if you believe in your business, you will stick with it. There’s no other choice.”
What’s more, he says, others depended on his decision to move forward – namely his factories and employees. “A lot of responsibility comes along with whether you’re going to keep at it or not,” he says. “There was no thought not to do it.”
Distributors in the hardest-hit sectors or regions continue to struggle with the hard decisions required to survive and thrive. But when facing trouble, some have done too little, and acted too late. If they lose a big receivable or a bank pulls a note, it can push them over the edge. “These markets are very finely balanced,” Indian River Consulting Group’s Mike Marks says, and a bankruptcy filing can come quickly.
STO Industries and Western Tool Supply have both succeeded in reorganizing so that they could continue business, but, as noted above, two-thirds of Ch. 11 bankruptcy filings do not result in a reorganization plan, but instead are dismissed or converted to Ch. 7 bankruptcies – leaving a gap in the market. In Ch. 7, businesses liquidate and capacity leaves the market. Competitors pick that up.
Hoboken Wood Flooring, Wayne, NJ, a nearly $600 million wood flooring distributor, filed a voluntary Ch. 7 bankruptcy petition in 2007. Sales losses over that year were attributed to the housing downturn, competition from manufacturers going direct, and the company’s push to expand nationally.
Hoboken was the largest in its sector, and its bankruptcy and closing had long-reaching effects. Among them: the shifting of a large volume of sales to the next largest in the industry, including J.J. Haines and Company Inc., Glen Burnie, MD, and other former competitors. “All of a sudden $600 million in sales dropped into someone else’s lap,” Marks says.
The closing of a distributor also affects vendors. Suppliers are likely to look for another distributor or distributors to pick up the sales capacity they lost. Depending on the sector, they may also ask those distributors to drop other lines to make room.
The recession and credit strain has also had an impact on relationships thanks to an increased diligence when extending trade credit. Distributors across sectors continue to see declines in available credit from suppliers and other companies they do business with. Payment may be expected upfront. “A lot of the elasticity is gone to absorb anymore of the hits. People are a lot more rigorous in who they choose to do business with,” Kellick-Grubbs says.
To offset potential issues with customers or vendors, both Western Tool Supply and STO Industries made communication a priority.
“It didn’t take long for our competition to hear about the filing,” Davis says. “But when it happened, letters were already composed, and we were already on the phone talking to the customers. It was the same with the factories.”
Davis says customers were supportive – that may in part be due to the fact they were feeling the pain of the recession, as well. “That was a big motivator to keep going. The emails flowed in telling us that they were going to support us.”
Kellick-Grubbs says that distributors should make it clear to their vendors what steps have been taken to turn the business around, and what the next five steps will be. “So that vendors know you have a plan, that you’re on top of it, and that things are improving,” she says.
But while filing for bankruptcy may not have the stigma it used to – especially in this most recent downturn – it will continue to be a last resort for many businesses. “If you’re going through it, it’s the last thing you want to do,” Kellick-Grubbs say. “Our industry is full of high-integrity people; it’s the last thing they want.”
If he could go back, would Kiker do anything differently? “I think we made a mistake – and everyone else did, too – in thinking that the good times were going to go on forever, that they were never going to stop,” he says.
“Going back, I should not have assumed those times were going to go on forever. Because they certainly did not. And when they stopped, nobody could have seen that it would get so bad so quickly for so long.”
But, he says, you can’t undo what happened. You just have to deal with it. “Would I have done things different? There’s not much point in second-guessing. Put your energy into improving, and move on.” That’s now Kiker’s focus.
He seems to have reemerged with a much smaller but stronger company intent on diversifying end-markets outside of residential construction and trying new strategies, including expanding his outside sales force, and expanding its website. The company is also trying Facebook, Twitter, YouTube and blogs to reach new and younger customers.
Companies like Western Tool Supply – restructured and refocused after the worst recession in recent history – that are focused on growing smarter in the ‘new normal’ are likely to come out ahead.
“The whole industry is going to have to rebuild in some sense. We feel like we’re starting over,” Kiker says. “We have a chance to keep this going – but it’s a whole different ballgame now.”