How to Repair a Death Spiral Convertible

You have gotten through the audits, survived the filings and responses and clarifications. The symbol was issued. The money was raised, the value proposition understood, and everything seemed that it would be easy enough.

Who knew running a public company could take so much time and use up so much resource?

And then, seemingly out of nowhere, the stock price is down, no one seems to know where the selling is coming from, it just does not make sense. It has been costing so much more than budgeted to be public, and as always business issues pop up. You venture out to try and raise money, the more active you seem to be in raising it, the harder it gets, your stock price goes down, the terms get negotiated, renegotiated, and renegotiated.

And then you find out what the "reneg" part of renegotiate means. Now you are out of money as the process took 3-9 months.

And unlike in a private business, you have all these filings and regulations to address. Somehow you find yourself talking to a lender, you have been warned and yet they seem so reasonable, and besides you need the capital.

You agree to the spiral debt (floating floorless conversion or other form of toxic debt financing). It takes longer than you expect, and the amount of money you would have gotten had you closed when you thought you were closing would have gotten you through and able to pay the debt back without triggering the toxic features. Well, as we all know, everything in business seems to take three times as long and cost twice as much as originally estimated (sounds like contractors and car mechanics too) and now you are facing the wrong end of a "death spiral" piece of toxic debt. It is as though you have been given the scarlet letter and sent to the leper colony of public companies all at once. The stock price goes down, you now seem to be getting referred to all sorts of "questionable" "stock promoters", "consultants" and the like.

Not a happy place to be. What do you do now? You have so many friends who own your stock higher, employees who count on you, a business you have invested, likely substantial amount in, and years of time. If you are fortunate you will find someone (and engage them quickly) who has dealt with this successfully before. If not, perhaps this article will give you how we have helped to fix toxic debt or death sprials.

You ask yourself "How did this happen?" This is the time to perform due diligence on yourself with a critical and unbiased eye. Re-evaluate, analyze and document in a succinct fashion your business model, the financial model you are now working with, review your historical projections and compare them with actual results. Separate the public side of the business from the underlying business as much as is possible to evaluate each as separate business unit. Ask how have your publicly traded competitors been fairing? What are your projections now?

Take a hard look at all of your historical financials: the public part, the core business. Where are your leaks? What fires are burning now? How did they start? Where are they headed? Where does your business get the most profits? Do your best to understand this from the perspective of a banker/investor and what they will say when you are not in the room and they are reviewing analyzing your due diligence package.

Review all of your internal records: board meeting minutes, committee meeting notes, and team meeting notes.

Now you have an idea of how you got to where you are. And as always, when you can review the path you took in detail, it turns out that it can tell you where you actually are as opposed to where you thought you were. This exercise is of critical importance. As simple as it seems, many entrepreneurs and business people never practice it. These tools are what can help you transition from crisis and reactive based management back to proactive and planned goal acquisition.

Now it is time to reconstitute your business plan. Start with the creation of a one-page document. Next, expand the one-pager into a five page executive summary. Add to this a financial model with goals that are supported in the assumptions and are easy to explain. Review these documents along side your filings and previous business plans. Get your top people to collaborate on this and assemble a business plan that is a plan for the business. Think road map with clearly defined goals. Focus on your team. They are critical. We would rather bet on an "A" team with a "D" project than a "B" team with an "A" project, so focus on your team, their past successes, and why they will succeed by just staying to the facts. Avoid "first", "only", "biggest", "smallest", "best", "greatest" and anything that is too easy. Use the expensive experience of how you got to where you are to your advantage; demonstrate how this will ensure success now. You will not make those mistakes again because you already have made them.

Your current value proposition should now be easy to state and defend.

If after all this, do you have a business that ought to be a public company. FACE THE FACTS and work on spinning the business out and reselling the shell. Every day you wait you are harming yourself, your employees, and your shareholders.

Now that you know your business can one day reach justifiable valuations (based of comprehensive research of comparable public companies, their histories and valuations) of hundreds of millions if not billions of dollars, you are ready to TURN IT AROUND.

Here is how we are going to retire that toxic, "death spiral", floorless, floating conversion debt. What is fair valuation of your company based on comps (It better be SIGNIFICANTLY higher than you are trading at, otherwise see the "FACE THE FACT" paragraph) that do not have anchor like toxic debt weighing down the stock price?

Decide upon a strategy. Raise organization money quickly to stop the bleeding, put out the fires, and build the foundation to replace the toxic debt with the help of a banker, or replace the toxic piece in it's entirety. This will depend on your specific circumstances, such as: How big is the debt? How good is your relationship with your shareholders? How many shareholders do you have and what is their general profile?

Create a PIPE that is a real sweetheart, for example:

a. Zero Coupon, large discount (think 30%+ return for a 6-12 month note) with a substantial warrant kicker (warrants at 10% above stock price in parity with dollar amount at maturity, for example a $1mm note for a $0.90 stock might have a 1mm warrant kicker)

b. Equity at above market (wherever is reasonable based on a big discount to comp valuations, 50% or so) with a 200% warrant kicker (Example: Stock trading at $0.45, reasonable valuation of $1.95, placement price of $1. $100,000 gets 100,000 shares and a warrant for 200,000 shares at $1.10)

c. These give so much leverage that they can compel investors, that believe in you, your team, and the underlying business to gamble on a big enough piece to reverse path towards the rocks.

This should be done in conjunction with the hiring of an investment banker who will commit to helping you take out the toxic.

In addition to banker, you should be scouring your network, all previous investors, and every shareholder to make the first offer of the sweetheart transaction you have structured.

This sets the banker up for a slam dunk deal that will get them fees, a new client that will pay monthly, new retail clients from your shareholder list, a win for a stock that recovers from a toxic. It should pop nicely.

It can be done; we have done it, and will do it again and again.

Now more than ever is the time for being publicly traded. Now is the time for entrepreneurialism. Rise to the occasion, and remember: " Failure defeats losers, failure inspires winners" Robert T. Kiyosaki, author, entrepreneur, investor.


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Read more from the, Chairman of the Lenox Hill Private Equity Fund. at => http://lenoxhillpartners.com/lhpef/strengths