In December 1996 Marvel Entertainment Group filed for bankruptcy. Marvel came up with a reorganization plan that meant that Perelman, Marvel’s largest shareholder, would invest $365 million in exchange for 427 million newly issued shares. Carl Icahn, one of the main bondholders, did not support this plan. On March 7, 1997, a confirmation hearing was scheduled at which both parties would vote on the proposed reorganization plan. In this case study, we will first look at why Marvel filed for bankruptcy. Then we will evaluate the proposed restructuring plan and explain why it will not be supported by Carl Icahn.
Moreover, we will explain why it will be more difficult for Perelman and his holding companies to issue debt in the future. Furthermore, we will discuss the decline in price of Marvel’s zero-coupon bond in November 1996 and explain why investors sold their Marvel bonds. Finally, we will give an overview of what happened to the company post 1997. 1. Marvel filed for bankruptcy On October 8, 1996, Marvel announced its default and filed for bankruptcy two month later. The bankruptcy was not caused by one single reason, but rather by a combination of internal and external factors.
We will discuss the reasons from the perspective of the market environment, company strategy and execution. As Marvel’s CEO Scott Sassa concluded, “it was like everything that could go wrong did go wrong”, the change of market environment inevitably influenced Marvel’s business. For years, speculative collectors who viewed comic books as a form of investment were part of Marvel’s most important consumer targets. However, collectors stopped buying in 1994 after failing to realize significant returns. Lacking of these consumers, the sales of comic books declined markedly.
At the same time, the trading card market was also impacted by the popularity of professional baseball and hockey. From the case, we can see that in 1995 these two divisions, Sports and Entertainment Cards and Publishing, account for 40. 2% of Marvel’s revenue. Therefore, the decrease in sales in these two principle lines must have influenced the total revenue of the company and thus the interest payment of debt. The market environment change impaired Marvel’s business, whereas it was not the only reason for Marvel to file for bankruptcy.
The ill-considered strategy also induced the bankruptcy. For years, Marvel capitalized on speculative frenzy of collectors, increasing the monthly titles and doubling the prices of the comic books. However, Marvel neglected the core value of comic book—the content, indirectly devaluated the comic books for collectors and this led to the loss of the core consumers. Another strategic mistake lies in its investment decisions. Under some conditions, diversification and consolidation is advantageous in that they allow holding companies to share net operating losses and minimizing tax.
However, lacking the consideration of current market environment and corporate financial capability, diversification and consolidation can be disadvantageous. Despite the sales decrease, Perelman continued diversification by acquired SkyBox International Inc. , a trade card maker, with a premium of 25% in 1995. Since the market demand for trade card was declining and the future of this industry was uncertain, for a company suffering from sales decline like Marvel, this acquisition was rather risky.
Few months after the acquisition, S&P downgraded the company debt from B to B- which reflected the market concern. Reviewing the company’s financial strategy, we can also find some potential risks. Marvel started its share repurchase to increase ownership by issuing debt. Perelman issued debt for three times in 1993, all debt like margin loans secured by Marvel’s equity. With the stock price trading above $25. 00 per share, the 77. 3 million shares of collateral had a value of more than 1. 9 billion, well above the face value of $894. 1 million.
This is attractive for bond holders. However, these debts will mature in 1998, which will lead to a huge cash outflow. This easily induces financial distress if the cash flow is not sufficient. Besides the reason we discussed above, the execution of the company should also be self-examined. The managerial team should always be aware of the market change and react timely. Under uncertain market environment, risky strategy should be undertaken more carefully. Furthermore, too much debt might easily lead to default and bankruptcy when revenue is not stable.
2. The restructuring plan. Marvel filed for Chapter 11 bankruptcy because this allows the reorganization of the company under the bankruptcy laws of the United States. Debtors have the exclusive right to propose a plan of reorganization for a period of 120 days. On the other hand, creditors cease their attempts to collect their debt. Moreover, Perelman obtained a $100 million Debtor-In-Possession financing from Chase Manhattan Bank to ensure Marvel has sufficient liquidity during the reorganization process. A peculiarity of this loan is that it is contingent on Perelman remaining in control and would become due if there is a change in control.
Perelman’s reorganization plan proposed an investment of $365 million in 427 million new shares, with an average price per share of $0. 85, which is less than the market price of one share. Under this scenario, Andrew Group maintains their control in Marvel and tax benefits can still be derived by incorporating Marvel into the holding’s tax reports. Another important part of the reorganization plan is the acquisition of Toy Biz. Perelman considered that Marvel and Toy Biz have close business relations and Toy Biz provided an important part of Marvel’s revenue.
Moreover, the revenue generated by Toy Biz could be used to offset $100 million of net operating losses and for Marvel’s debt. Regarding the public debt holders, the plan proposed that they will exchange debt for shares by seizing their collateral shares and holding 14. 6% of the new shares. Considering that the bondholders bought the debt at 22% of the face value, this means that a share was valued at ($894. 1 million * 0. 22)/77. 3 million= $2. 54. Even though this was still a good exchange ratio, given the market value of $2. 75, there was a huge difference between this valuation and the $0. 5 per share that Andrews Group would have to pay. A positive aspect of this part of the plan was that all the secured and unsecured creditors would be paid in full. The plan might be adopted because many stakeholders have incentives to support it. For example, the secured and unsecured creditors will vote for the plan because they will receive their money back in full amount. The equity holders are also interested in voting the plan since they will have a chance of getting the company back on its feet and increase the value of their shares.
Even though the plan might be risky, if they do not vote for it they might lose everything in case of liquidation. One argument that this plan could be successful is that the cash flow from Toy Biz could prove to be very important and if the management could realize enough economies of scale or scope then Marvel could significantly improve its performance. However, the plan does not tackle some important issues. The causes that forced Marvel to file for Chapter 11 are not considered and solutions to these problems are not provided (decreasing demand, neglecting core customers, etc. . This suggests that the plan might not be feasible. Furthermore, it seems that even though the bondholders have stronger claims on the assets of Marvel, the shareholders have more favourable conditions. Given the arguments above and the fact that Carl Icahn already expressed his negative opinion after hearing the first restructuring plan, and also because the new restructuring plan does not contain major changes, we conclude that the proposed reorganization would not receive enough votes. 3. Difficulties for Perelman and his holding companies to issue debt in the future.
From our point of view, it will be difficult for Perelman and his holding companies to issue debt in the near future. Through MacAndrews & Forbes holding company and several subsidiary holding companies, Perelman owns a wide range of businesses including Revlon, Coleman, First Nationwide Bank, Consolidated Cigar and the Andrews Group. This company structure is complicated. However, it provides Perelman legal and financial protection. Consolidation allows the holding companies to share net operating losses across firms.
Since these companies are well connected, Marvel’s default and bankruptcy will influence not only the Marvel Entertainment, but also other holding companies. For Marvel, with the declining and unstable sales, the future revenue is unknown. Under these circumstances, investors will be worried about the company’s ability to pay the principle and interest on time. Besides, Marvel has issued debt for three times in 1993, all secured by Marvel’s share with maturity in 1998. Until 1997, Marvel already has a large amount of debt which increases the probability of default. It will be risky for new debtors to get the money back.
For other holding companies, like MacAndrews & Forbes Holdings Inc, debt issuance will not be easy as well. MacAndrews & Forbes Holding Inc started in 1978 with a loan less than 2 million. Through hostile takeovers, leveraged buyouts and acquisition with junk bonds, Perelman built his empire and reputation during 1980s. Until 1995, Perelman’s strategy was successful; it gained him great amounts of fortune. However, in 1995, Marvel acquired SkyBox, a trade card company, with 25% premium by financing $190 million of additional debt while the market demand of trade cards is declining obviously.
Because of Perelman’s unpersuasive investment, in July 1995, S&P downgraded the holding company debt from B to B-. In 1996, following Marvel’s announcement that it will violate specific bank loan covenants, Moody’s downgraded Marvel’s public debt, causing the price of the zero-coupon bonds to fall by more than 41%. The downgrade impaired the market confident of Perelman and his holding companies. This will inevitably make it difficult for Perelman and his holding companies to issue debt, at least in the near future. (Funding Universe).
4. Prices of Marvel’s zero-coupon bonds dropped. On November 8, 1996, the vice chairman of Andrews Group contacted Fidelity Investments and Putnam Investments, two of the largest institutional holders of Marvel’s public debt, and asked them about what they wanted to see in a restructuring plan. The next day, these two firms sold more than 70$ million of Marvel bonds at a price of $0. 37 per dollar of face value. Reporters asked both companies why they sold their bonds on Friday, November 8, 1996. Putman Investment said that they received various bids that were attractive while Fidelity said that they had been selling already since early October.
By the contact they had on November 8 with Andrews Group, they probably found out that Marvel was not doing very well and a restructuring was necessary. Bankruptcy costs were high and if the restructuring plan would fail, liquidation would be necessary. The risks were too high to keep the bonds of Marvel. Furthermore, in case of liquidation the shares they would get according to the restructuring plan, were worth even less because the equity holders are paid out later after liquidation than debt holders. They expected the bond price and the share price to decrease, and four days they found out that they made a good decision.
Selling their bonds saved the companies approximately $14 million in extra losses. On November 12, 1996, Andrews Group announced the details of the proposed restructuring plan. Marvel’s stock price fell by 41% and its zero-coupon bonds fell by more than 50%, to $0. 18. Why did the price of Marvel’s zero-coupon bonds drop on the day they announced the restructuring plan? First of all, the situation became uncertain. They knew the company needed a cash input. A restructuring plan was necessary to save the company and debt holders wanted to sell their part.
It was not sure if they would get their money back. Furthermore, the restructuring plan was not in favor of the debt holders. The plan meant that the debt to equity ratio would become very high and this meant also high bankruptcy costs. They knew the company might go bankrupt and they would not get everything back. Selling at that moment would be better than waiting for liquidation. Also, part of the restructuring plan was that the debt would be exchanged for shares, which were decreasing in value. And after liquidation, equity holders were the ast one to get their money back. Last of all, the share price dropped because of the bad situation and because even more shares would have been issued. The debt was secured by equity so the bonds became worthless. 5. What happened post 1997 In the battle between Icahn and Perelman that took place during the years nobody became a winner. Mr. Icahn and his bondholders almost obtained the bankruptcy court’s approval to acquire a controlling stake in Marvel but the banks were worries about the large credits they had extended to Marvel and they questioned Icahn’s intentions.
On the other hand, Isaac Perlmutter and Avid Arad, co-owners of Toy Biz, decided to pool resources with the banks in order to complete the merger between Toy Biz and Marvel. Bondholders were left with a large loss of their initial investment because in their lawsuit against Perlman, that has been initiated on the grounds of corporate negligence, the court ruled that the latter had not been guilty of any unlawful action. (Funding Universe). During the transition from a bankrupt to a profitable company, transition was developed between 1997 and 2000.
In this period the company was led by F. Peter Cuneo (the appointed CEO of Marvel from 1999-2001) and Ike Perlmutter (the CEO of Toy Biz and a Marvel director). After 1997 there were 3 time periods that can be considered important in the recovery process: (1) the “Bankruptcy Years” from 1997-1998, (2) the “Repositioning Years” from 1999-2000, and (3) the “Stable but Uncertain” Years from 2001-2008. (Funding Universe). We start by describing the first period that last from 1997 to 1998 and in which the management tried to meet the bankruptcy covenants.
In this period several unprofitable entities were divested, like Heroes World Distribution and Fleer Confections which is an unprofitable children’s magazine. The management also fired 300 people and renegotiated expensive artist contracts. In the attempt to recover, the management maintained its comic book, licensing and toy businesses and entered into a film contract for the ,,Man in Black” and ,,Blade movies”. In this year, total expenses were reduced by 63%. (Funding Universe). The period 1999 – 2000 was considered to be the ,,Repositioning year”, period in which Marvel was freed from Chapter 11.
The company finally started to focus on building a better future. Marvel’s management divested Fleer/Skybox in February 1999 and Panini in October 1999, which had lost $400M since acquisition. They also signed important licensing deals for motion pictures, including with Sony to produce Spiderman, with 20th Century Fox to produce X-Men I and II, Fantastic Four and Silver Surfer. Another thing that happened was that they reorganized the business around 5 units in order to focus their attention on their most profitable activities. These 5 units were: licensing, publishing, film/TV/DVD, internet/new media and toys.
Management further reduced operating costs by making large labor cuts. However, the company in 2000 was still making net losses. The small positive operating profit in 1999 was due to the one-time cash advance from Sony for the Spiderman license. In 2000 this disappeared. (Funding Universe). In the third period, from 2001 to 2008, the company was successfully transformed into a cash flow generating machine: low capital expenditures, low debt, low overhead and large licensing revenues based on motion pictures based on popular characters. The Wall Street analysts seemed to think of Marvel as a stable company.
What was very important for Marvel, was the ability to adapt and to continuous innovate because it’s success depended on the success of the movies and characters, something that is very hard to predict. (Funding Universe). On August 31, 2009, The Walt Disney Company acquired Marvel Entertainment, Inc. The deal was valued at about $50 a share, a 29 per cent premium. Marvel shares shot up 25 per cent to $48. 37. Acquiring Marvel made Disney a partner with Paramount Pictures, Sony Pictures Entertainment and 20th Century Fox, all of which have long-term deals to make or distribute movies based on superhero characters. ,Disney is the perfect home for Marvel’s fantastic library of characters given its proven ability to expand content creation and licensing businesses,” said Ike Perlmutter, Marvel’s Chief Executive Officer. ,,This is an unparalleled opportunity for Marvel to build upon its vibrant brand and character properties by accessing Disney’s tremendous global organization and infrastructure around the world. ” (Barnes and Cieply, 2009). Being part of The Walt Disney Company, Marvel Entertainment is currently led by Robert Iger, the President and CEO of Disney.
