The Insolvency Arena

In 2016, bankruptcy checked Performance Sports Group into the boards. But an unbeatable bid followed by a US$575-million asset sale to Sagard Holdings and Fairfax Financial Holdings saved its iconic hockey and baseball brands
SINCE IT IS TOO TEMPTING TO USE sports clichés when talking about the demise — and subsequent salvaging — of North America’s preeminent sporting-goods maker last year, let’s just shed the guilt and go with it. Performance Sports Group Ltd. (PSG), parent company of such globally iconic brands as Bauer hockey gear and Easton baseball equipment, got tagged hard by bankruptcy last year. Among its fouls, it tried to steal bases from its own independent retailers, it dropped the ball on sales, it was challenged by securities umpires — and, with all that, investors left the stands in droves.

On October 31, 2016, after months of uncertainty about its fading prospects, PSG, headquartered in Exeter, New Hampshire, voluntarily filed for insolvency protection under the Companies’ Creditors Arrangement Act (CCAA) in the Ontario Superior Court of Justice, and in the United States, under Chapter 11 of the U.S. Bankruptcy Code in the District of Delaware.

Facing a liquidity crisis, that same day PSG also announced a potential saviour: its major shareholder, Sagard Holdings, which held 16.9 per cent of its stock. A subsidiary of Montréal-based Power Corp. of Canada, headed by billionaire co-CEOs André Desmarais and Paul Desmarais, Jr., Sagard announced it was making a US$575-million stalking horse bid for the company in conjunction with fellow Canadian billionaire Prem Watsa, the founder, chairman and CEO of Fairfax Financial Holdings. Together, the Sagard/Fairfax line-up, along with several other existing lenders, offered PSG US$386 million in debtor-in-possession (DIP) financing so it could continue operations while it restructured under court supervision. An auction process was then launched to see if anyone would top the Sagard/Fairfax bid.

FAILED FINANCIALS

Performance Sports’ woes were hardly a surprise by the time it sought bankruptcy protection. Since August 15, 2016, an army of lawyers on both sides of the border had begun to amass around the company. That day, the company announced — to the horror of its investors, retailers, suppliers and creditors — that it was delaying its annual financial statements. That put PSG in danger of defaulting on hundreds of millions of dollars of loans. Ominously, PSG also announced that day that its audit committee had retained independent counsel to conduct an internal investigation into the company’s prior financial statements.

Two days later, PSG revealed it was under investigation by both the Ontario Securities Commission (OSC) and the US Securities and Exchange Commission (SEC). Though details were vague, the regulators were reviewing what circumstances led to PSG’s failure to file annual financials. Then PSG was hit with a shareholder class action. The statement of claim alleged that investors were duped when PSG failed to disclose that its supposedly record sales were the product of a “fraudulent scheme” pressuring retailers to buy more products than they needed under the threat of eliminating their volume discounts.

There was one positive note in all this: on August 30, PSG announced that it had negotiated a 60-day extension on its credit facilities with its existing lenders through October 28, 2016. If it were to file its 10K annual report by then, it might yet stave off default on its loans.

THE FUSE

That, recounts John Tuzyk, a Toronto partner at Blake, Cassels & Graydon LLP who  led a team of 27 lawyers on behalf of Sagard’s Canadian legal contingent, “effectively put a 60-day fuse on Performance Sports trying to figure out what it was going to do at the end of that period.”

That short fuse ignited more than six months of urgent and intense work by executives, lawyers and financial advisors trying to both launch an auction process and, should that fall short, rivet together a complex cross-border deal that, as prospective buyers, Sagard/Fairfax hoped would preserve the value of PSG’s Bauer, Easton, Mission, Maverick and Cascade brands before they were sidelined to history.

As the months wore on — though there were appraisers aplenty — no one else tried to top Sagard/Fairfax. No auction was ever held. The Sagard/Fairfax partnership bought virtually all PSG’s assets in a transaction that ultimately closed February 27, 2017, creating a new company, since named Peak Achievement Athletics Inc.

HAPPIER DAYS

With the history of its equipment and apparel brands, dominance in hockey and baseball, its ventures into softball, lacrosse and soccer, PSG’s ending was one few would have bet on.

Performance Sports Group traces its roots back to 1927, when Roy Charles Bauer started the Bauer Canadian Skate Co. in Kitchener, Ontario. In 1995 Nike purchased Bauer’s parent company, Montréal-based Canstar Sports Inc., for $395 million. Thirteen years later, in 2008, it sold Bauer to Québec-based Roustan Inc. and US private-equity firm Kohlberg & Co. for $200 million. It would list on the TSX in 2011, changing its name to Performance Sports Group (PSG) in 2014 when it also listed on the NYSE.

All was well for the company, recalls Michael Wall, General Counsel of PSG from 2008 until the insolvency transaction. “I’d been with the company for nine years and the first eight were great,” says Wall, who’d previously been Chief Legal Officer for the Boston Bruins and TD Garden. “Bauer is an iconic brand and it had a great business. It was number one in hockey when Nike spun it off in 2008.”

In the years after Nike, Bauer underwent an ambitious growth spurt under CEO Kevin Davis. It made seven acquisitions in six years, including Cascade Sports (lacrosse) and Combat Sports (baseball and softball bats). Then, in 2014, it paid US$330 million for the baseball operations of Easton-Bell Sports. That made Bauer the largest sports equipment manufacturing company on the planet.

Barely two years later, Wall got his supreme test as general counsel. “I never had to face anything of this magnitude,” he recounts. “We seemed to be going strong. Then we hit the perfect storm of 2016.”

OFF-SIDE

PSG’s financial slide seemed to begin on January 8, 2015, when the company unveiled its strategy to open its “Own the Moment” hockey experience retail outlets. It opened the first such store in Boston that summer, and planned up to 10 in all in hockey-crazed cities like Toronto, Montréal and Chicago. But Davis didn’t count on the pushback from the retailers that PSG relied on, who were perturbed by next-door competition from their very own supplier.

News only got worse for PSG. There were a string of bankruptcies among major US sports retailers carrying its products. Then, on March 22, 2016, as dark clouds gathered and its hockey sales dipped 19 per cent (and CCM’s rose 18 as miffed retailers switched to competitors), PSG’s CEO skated away. The company, with a market cap of US$181 million, was also shouldering $440 million in debt.

And then there were those shareholder lawsuits accusing PSG of misleading investors: one, filed August 2016 in New York by the Plumbers and Pipefitters National Pension Fund, accused PSG of “channel stuffing” — that is, forcing its retailers to order more sports gear than they needed so PSG could falsely pad its net income and hide the failing state of its business.

A CALL TO ACTION

Stikeman Elliott LLP has had a deep relationship with PSG ever since the company was acquired by Raustan and Kohlberg. The firm helped with acquisitions and its listing on the TSX. Stikeman’s point-man, leading the Canadian legal team during PSG’s struggles, was partner Jonah Mann. When PSG ran into trouble, “it wasn’t like we heard, ‘Houston, we have a problem!’” says Mann, who works in Stikeman’s corporate group in Toronto. “It was incremental. Almost like a ball of yarn.”

A tangled ball. Mann had only to look at his office neighbor to find one of the first people he wanted on his team to help PSG: Ed Waitzer, head of Stikeman’s corporate group. “I didn’t have the relationship” with PSG, says Waitzer. “But I think the board took some comfort in having someone [with more experience] involved.”

For Mann and his team, the gloomy news now fast-flowing out of PSG in the summer of 2016 was a bugle call to action. “We recognized in August that we needed to give the board as many options as possible in terms of making decisions to preserve the business.” Early on, those options were anything from new financing or debt restructuring to possible M&A action. “One of the unique aspects of this transaction was working on multiple streams early on and trying to bring to the board as many options as possible to try and deal with the circumstances, which were fluid.”

Adds Waitzer: “The other work stream that was important was [that PSG] was still a public company. Serious allegations had been made, which the company set up appropriate procedures to investigate.” It was critical Stikeman help PSG maintain transparency with regulators from both the SEC and the OSC, as well as with auditors “who had expressed misgivings as to whether they were going to be in a position to issue an audit.”

“The death knell” for PSG, he continues, would have been if an auditor resigned or regulators launched proceedings “before we were in a position to do what was necessary to put the business in capable hands.”

… AND ALONG COMES SAGARD

PSG was lucky in some ways, says Waitzer. “Public confidence was going in the wrong direction. And that can easily turn into a death spiral. We put [PSG] into court protection to see if we could find a buyer. The lucky part was that Sagard, independently of all this, had by this time taken an equity position in the company before it went into a spiral. Sagard is effectively a subsidiary of Power Corp. Power Corp is the kind of investor that is long-term and well capitalized and is not afraid of shorter-term market cycles or opinions.

“So,” says Waitzer, “we at least had one bidder with a stake in PSG who understood the situation and was prepared to step up and put forward a stalking horse bid.”

That set a floor on the value of PSG’s physical and intellectual assets. Moreover, with the sagacious reputations of Sagard and Fairfax, it gave potential competitive bidders some solace that PSG was not a lost cause. “Without Sagard,” contends Waitzer, “there’s a real question as to whether we would have had a bid at all.”

TROTTING OUT THE STALKING HORSE

Taking the legal reigns of Sagard’s stalking horse bid was a team led by Blakes’ John Tuzyk in Toronto. His firm had gotten involved with Sagard in early 2016 when the company had reached 10-per-cent ownership of PSG’s stock and, under Canadian securities regulations, had to file an early-warning disclosure report of its position.

The news that PSG was delaying its audited financial statements and conducting an internal investigation, says Tuzyk, sent “a bit of a shockwave” through Sagard. And the fact that, two weeks later, PSG retained Centerview Partners LLC as its independent financial advisor told Sagard execs that Performance Sports Group was looking for a major transaction, quite likely a sale, to rescue it.

On August 31, Sagard quickly brought in Blake, Cassels & Graydon LLP (with 28 lawyers in all on the team) as it determined how it might save its investment in PSG. In the US, Sagard retained Kirkland & Ellis LLP as its legal representative (with 32 lawyers working the file).

Sagard, recounts Tuzyk, “recognized that, hey, this is going to be a complicated process, because the company is dual-listed and carries on operations in both Canada and the United States, not to mention the world.” Significant advice, financial and legal, would be required on both sides of the border. A few days later, after a flurry of intense activity, Sagard, on September 2, signed a non-disclosure agreement with PSG. That allowed it to do the necessary due diligence on PSG’s operations to determine if it might throw the company some kind of lifeline.

A rather intense period for the legal teams ensued, with the 60-day fuse on default burning away. Sagard and PSG, says Tuzyk, quickly “agreed that the primary objective of this whole exercise is to preserve the value of the iconic and innovative brands that the company has, Bauer and Easton bats among others, with time being of the essence.”

Philippe Bourassa, a Blakes partner based in Montréal with extensive experience in mergers and international transactions, worked hand in hand with Tuzyk. “To be able to have a proposal by the end of October in that two-month period, it meant our client had to run a full, detailed due diligence, had to negotiate and agree with the other party a fully detailed asset purchase agreement.”

Among the stickier points were those class action lawsuits that were beginning to emerge against Performance Sports Group. “Of course, we were not interested in being part of that class action,” says Bourassa. For consideration of the deal Sagard, along with its eventual partner, Fairfax, negotiated contractual assurances that the class action would not follow the assets they were buying.

THE BIG DIP

There was also the question of how to keep the insolvent company’s weakening heart beating while a life-saving deal was being sorted out.

To do that, explains Bourassa, Sagard Holdings “had to fund a substantial amount of financing to make sure that [PSG] would survive during that time period.” This would be the US$386-million DIP financing that kept PSG going until someone — whether Sagard or a higher bidder — came along.

The DIP financing was something Sagard didn’t intend to fund alone. It had stated it was looking to close a PSG transaction with help from partners.

FINDING FAIRFAX

As Sagard began preliminary negotiations with Performance Sports Group, others — pension funds, private-equity firms and companies — tuned in. Among them: Prem Watsa and Fairfax. Known as the “Warren Buffet of Canada,” the enigmatic Watsa is a contrarian investor who made his fortune in the insurance business. But he also hunts value in distressed mid-cap companies. In recent years Fairfax made a number of investments in struggling sports enterprises, including Golf Town and Sporting Life.

Fairfax partnered up with Sagard late in the game, very near the October 31, 2016, deadline when PSG’s 60-day extension to file its audited financial would expire.

David Chaikof, an M&A and capital markets partner with Torys LLP in Toronto, led Fairfax’s external legal team on this transaction. Working with Fairfax’s General Counsel, Derek Bulas, and his small internal legal team, Chaikof has deep ties to Watsa and Fairfax. He’s been Fairfax’s legal point man on many major transactions, including Fairfax’s current US$4.9-billion acquisition of Allied World Assurance Company Holdings.

In Fairfax, Sagard had found a solid partner. That bode well for PSG too, says Stikeman’s Waitzer. Fairfax “are folks that we know well and have done a lot of work with. And they know how to execute transactions. … Sagard understood Performance Sports’ business because they’d been looking at it a long time. And Fairfax are contrarians. They’re very experienced in doing transactions where others fear to tread.”

“In both cases,” he adds, “Sagard and Fairfax are highly reputable. … The market may not have trusted the company, but in this transaction there was a high level of trust. Which isn’t to say there weren’t lots of issues we disagreed on and negotiated.”

Chaikof’s approach to handling the legal end of Fairfax’s transaction was rooted in Prem Watsa’s philosophy of business. Chaikof has worked with Fairfax for close to 30 years, beginning as a junior associate at Torys working under Eric Salsberg. Salsberg joined Fairfax in 1985 and is now Vice President, Corporate Affairs and Corporate Secretary.

Chaikof has continued to work closely with Watsa, Salsberg and others in the Fairfax executive ever since. “What I personally do before each deal, and this really goes back to my earliest days working on Fairfax deals, is read the very last page of Fairfax’s Annual Report, which has eight guiding principles in it.” Those principles, he says, also apply and are well understood by the Torys team. “Honesty and integrity are key to all their relationships and will not be compromised. They are results-oriented. They are team players with no egos. They are hardworking, but not at the expense of family. They encourage calculated risk taking and never bet the company on any one acquisition, and they believe in having fun — even at work!”

“At the end of the day,” continues Chaikof, “Fairfax stands for Fair, Friendly Acquisitions. And really that is how they, from their earliest days, proceeded on all their acquisitions. They have never walked away from a deal once they have committed to the transaction.” Before every deal, he reviews those principles with every member of his team.

Working with Chaikof on the 11-member Torys’ team was David Bish, a Toronto partner with expertise and cross-border experience in advising clients facing bankruptcy and insolvency matters.

Dealing with a company like PSG, embroiled in court-monitored bankruptcy proceedings in two countries, was a delicate process laced with potential land mines that could have destroyed its value before it was acquired. The question for Torys, says Bish, as it worked on behalf of Fairfax, was how to take a failing but valuable business, transfer it to a purchaser, “and still have all of that value at the end of the process that you had at the beginning of the process. If that’s not properly structured and executed ... value can be eroded as the public learns of the distress, as customers, buyers, etc., start to change their behaviours.”

MONITORING IT ALL

Watching over the process as the lawyer for EY, the court-appointed monitor on the Canadian side of things, was Robert Thornton. A partner in Thornton Grout Finnigan LLP, he’s one of the most experienced insolvency practitioners in the country. Thornton’s practice, as he puts it, is like working in an emergency room. “Stuff comes in bleeding every day. And you try to find a way to stop the bleeding and find a solution.”

He started in insolvency work about the time the Companies’ Creditors Arrangement Act was, as he put it, “rediscovered.” A barebones statute passed during the Great Depression, it was refined and became a foundational tool in Canadian insolvencies and restructuring when it was used as Dome Petroleum came close to bankruptcy in 1987 before being acquired by Amoco Canada for $5.5 billion.

Thornton’s job as monitor was to be an independent voice and to try to keep people from diverting the process from its most efficient course. Court proceedings were happening simultaneously at the Ontario Superior Court of Justice in Toronto and in the United States, in a Delaware bankruptcy court.

The co-operative courts were connected by video conferencing devices, and after motions were made, the Canadian and United States judges often retreated to private rooms and conferred by phone about motions and issues.

Largely, says Thornton, few things had to be litigated, mainly due to the diligent work the lawyers for PSG, Sagard and Fairfax had done on both sides of the border. “This was a pretty calm proceeding.”

But, adds Thornton, in Delaware, the judge and lawyers weren’t quite sure what to make of his role. “Our American cousins try to figure out what a monitor is and in what box they should fit it. But it really is a different beast than any other concept that’s involved in American restructuring proceedings.”

THE SALAD (AND STRESS) DAYS

As the fuse crackled towards default, the Canadian and US courts heard from concerned creditors, investors and PSG about how it should restructure or sell itself.

Meanwhile the Sagard/Fairfax stalking horse bid did what it seemed cleverly designed to do: it both attracted potential bidders, just in case someone else might offer more money for the company, and  at the same time repelled them. With its US$575-million bid, not to mention a $20.1-million break fee and $3.5-million reimbursement owed to Sagard if a higher bidder emerged, Sagard Holdings and Fairfax Firancial appeared determined to hang on to Performance Sports Group.

In fact, in mid-November, a few weeks after Sagard and Fairfax announced their stalking horse bid and their proposed auction process for PSG assets, scheduled to run from January 4 to 9, 2017, an ad hoc committee of shareholders filed a legal objection in the Delaware court. They complained that the short timeline through the Christmas holiday season and the deal’s structure had the appearance of an “inside job” that would undermine an auction process “where a board favourite had the ‘inside track’ to winning.”

The courts eventually extended the auction timing by two weeks, to January 25, for a bid deadline and to January 30 for the auction. “This was a trust thing,” says Waitzer. “The company didn’t enjoy trust. So it was very easy for those who were against the process to argue that we were setting up a sweetheart deal with Sagard. Ultimately when we got to the finish line, everyone was happy with the deal and with the process.”

In the meantime, however, Centerview Partners did its job in attracting parties interested in looking under PSG’s hood. Eventually, estimates Jonah Mann, some 30 companies signed non-disclosure agreements. The flurry of bidders visiting PSG’s New Hampshire headquarters to conduct due diligence massively increased the work Stikeman and its US counterpart, Paul, Weiss, Rifkind, Wharton & Garrison LLP, had to do.

“We were going 24/7 since August,” recalls Mann. “People had really sacrificed in order to make very tight deadlines at the end of October when the extension for the lenders was going to expire, and we had to sign our deal by that date.”

He gives the example of Frank Selke, a Stikeman associate in Toronto. “Frank had had his first daughter in August, and was on paternity leave when this started. We summoned him back to the office as soon he had a decent amount of time to get things together.”

Besides his own work, Selke, with extra panache, arranged the feeding of the Stikeman troops for months on end, when almost every meal the team had was at the office, including all-night meetings. “Frank,” says Mann, “has now developed a reputation, firm-wide, for his expertise in ordering fine cuisine takeout.”

“Taking a break to eat,” remembers Selke, who ordered salad bowls from places like the Garden Gangster or pastas from Terronis or Trattoria Nervosa, “was really the only downtime we had throughout the day. … The days were filled with endless meetings, calls, negotiation and drafting of all the transaction deliverables, of which there were many.”

Stikeman lawyer Raman Grewal spearheaded regulatory engagement on behalf of PSG with the OSC — a role that required some tightrope walking. In most normal M&A transactions direct contact with regulators is uncommon. With PSG under the microscope by the SEC and the OSC, says Grewal, “they were regularly connecting to us. So we had this additional, real, live moving issue of managing our relationship and the company’s relationship and disclosure with the regulators while many things were transpiring.”

Grewal and her team of up to four lawyers were tasked with assessing what Performance Sports Group’s disclosure obligations were. When and what information should go to market was critical. But with different securities regulations in Canada versus the US — some overlapping, some not — there was heightened risk of secondary-market liability for PSG officers should any disclosures be deemed unfair to shareholders or potential investors.

“There are guidelines and there are legal tests set out in the legislation,” explains Grewal. “But with everything there is a level of judgment that has to be applied to determine when that legal test is triggered.” Her contact with the OSC proved refreshing. “They were mindful of their obligation of protecting investors but at the same time very sensitive as to ensuring the role they were playing was also a positive role and one that was ultimately helping the process to get to the sale of the assets and not in any way hinder it.”

CROSS-BORDER APPROVED

On February 6 of this year, PSG announced that, with no bidders coming forth to top Sagard/Fairfax, both the Canadian and US courts approved the sale of substantially all of its assets to that duo. On February 28, the transaction closed.

It wasn’t the hardest deal Ed Waitzer ever worked on, “but it was highly unique. Some aspects of it were extremely complex. Other aspects of it were pretty straightforward. But we were able to save a good business caught in bad circumstances and put it into the hands of new owners at a time when it clearly couldn’t survive as a public company. And at the same time [the deal] protected the interest of creditors.”

In fact, from Robert Thornton’s perch as a restructuring/insolvency lawyer, the lawyers involved in putting together this transaction may yet pull off something rare: finding money for equity shareholders.

There remains an outstanding shareholder equity class action in the US against the estate of Old PSG Wind Down, the non-operating company left from PSG, which holds and will distribute to various creditors the proceeds of the $575-million sale. (The OSC inquiry and SEC investigation into Old PSG remain open but idling.) But if remaining legal costs can be kept down, Old PSG may find residual money to at least partly pay off several common shareholder groups.

“When a company goes into an insolvency proceeding, you often see equity wiped out entirely … so this case was unique in that regard,” says Thornton. Though returns for equity claimants haven’t happened yet, he adds, “I will keep my powder dry on that. But that may very well happen over the course of the case.”
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