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Tough Economic Times May Save LNT

It's difficult to miss the irony in the Linens 'n Things proposed plan of reorganization. The very same tough economic conditions that the company has repeatedly blamed for dragging it into Chapter 11 bankruptcy last May, could provide the best hope for approval of the plan and LNT's survival as a going concern.

At the center of the proposal, the retailer's senior secured noteholders would emerge as the company's new owners in a partial debt-to-equity swap for their more than $650 million in notes.

In a better economy, it's arguable that LNT's liquidation value including inventories and leaseholds might yield a higher return and, as a result, offer a more attractive alternative. But LNT store closing sales and lease auctions have yielded returns that reflect the suffering retail environment and a glut of empty retail space. That will likely provide a stronger argument for the noteholders to take the equity deal and buy more time for Linens to engineer a turnaround.

For its part, LNT's interim ceo Michael Gries and the company's advisors considered a liquidation scenario. But the reorg plan reckons that the company will return more to its stakeholders over time by continuing in business.

"The debtors believe that their businesses and assets have significant value that would not be realized in a liquidation," LNT said in the disclosure statement filed with the court.

LNT filed the plan on the eve of the Labor Day weekend. It proposes to emerge from Chapter 11 in early 2009 with new ownership. It will seek $500 million in exit financing, including a sub-facility letter of credit for up to $250 million, according to the documents.

Despite the new debt the company would take on, LNT said the plan provides for a significant "de-leveraging" of its capital structure through the conversion of about $650 million of its secured debt into 100% equity in the reorganized retailer. Additionally, it would require a $100 million secured note with no payments during the first two years. Moreover, the company would seek to substantially lower its occupancy costs through new agreements with many of its landlords.

Who Gets What

There's something for almost everyone in Linens 'n Things proposed reorganization. It's just that it may not be exactly what they'd like:

  • DIP lenders would be paid in full in cash.

  • Administrative claims totaling $14 million, mostly in post-bankruptcy trade debt, with $25 million in administrative claims for May's rents, would be paid either with common stock, an unsecured note or perhaps cash, at the discretion of the senior noteholders.

  • Other post-petition administrative claims totaling $1 million would be paid in cash on terms set in the plan.

  • Priority tax claims totaling $38 million would be would be paid in full, over a five-year installment plan.

  • The current equity owners, led by Apollo Management, would lose control of the company — except insofar as they are part of the noteholders' group.

  • The $1.1 billion in general unsecured claims, including $164.7 million in trade debt, would receive warrants for common stock, although the plan addresses the possibility for a pro-rated payout to the unsecureds, based on available funds.

In a statement, the company said the "plan process" is supported by senior lenders, the unsecured creditors committee and the ad hoc committee of noteholders.

DiNicola Out

With the filing of the plan, the retailer disclosed that Robert DiNicola, the former ceo and currently executive chairman, resigned. He will remain on the board of directors and serve as non-executive chairman until the plan is confirmed. DiNicola, who is affiliated with Apollo, has a nominal direct equity interest in LNT.

The plan envisions a ceo chosen by the new owners, but stated that it expects to retain most of the company's existing management. At the same time, there's already been some executive flight. Merchandising evp Robert Homler left the company last week and DiNicola's associate, svp marketing, Michael Larkey, departed in mid-August to join Charles Chinni at Fortunoff.

As it filed the plan, LNT also asked the federal bankruptcy court in Wilmington, Del., to extend to Nov. 27 the "exclusive" time during which only it may file a plan, and the exclusive voting period through Jan. 27, 2009.

The original exclusive period expired Sept. 2. Such extensions are common in bankruptcy cases and provide the debtors with additional breathing room to attempt to secure approval of their reorganization proposals.

Still, if the disclosure statement isn't approved by Oct. 12, or if the reorganization plan isn't approved by Dec. 1, the retailer would be in technical default under the debtor-in-possession credit facility and "their ability to consummate a plan will be significantly imperiled," the disclosure stated. If the exclusive periods are extended, LNT might be expected to seek an extension of those deadlines, as well.

The Business Plan

Assuming the plan is approved, LNT will emerge with essentially the same business plan that has been evolving since its acquisition in 2006. Although the reorganization plan makes no specific reference to the by now somewhat infamous "nine-year-turnaround" effort, the basic components and direction for the retailer will remain the same.

Noting that its average 33,000-square-foot stores typically carry 25,000 skus, LNT said it is "committed to maintaining a consistent in-stock inventory position and ensuring that its stores carry a broad and deep merchandise selection."

The disclosure stated: "The company is also focused on reinvigorating its textile and tabletop categories with a concerted emphasis on sheets, towels, pillows and comforters in textiles, and on dinnerware, glassware and flatware in tabletop."

LNT noted that it buys from about 1,000 vendors, 18% of which are overseas. Last year, its 25 largest vendors accounted for 43% of its purchases.

The "back to basics" plan will continue to rule. The company said it will continue to rationalize skus and reallocate space for its assortments. The "Best Bets" program, emphasizing in-stock positions for its top-100 sellers, will continue.

It will drive traffic into the stores and "re-invigorate" the marketing of the brand through a "more diversified mix" of media and a heavier emphasis on national advertising.

The plan also aims to improve operating free cash flow, cut working capital and boost inventory turns.

Finally, the business plan projects improved financial performance as "recently opened stores" — 104 of them opened since 2005 — mature.

Yet, since its bankruptcy filing on May 2, Linens 'n Things has begun store closings involving roughly a third of the chain, which numbered 589 stores at the end of 2007. The company first announced closings of 120 stores in a first round, but the second round of closings became something of a moving target as LNT first said that 87 stores would close then began changing the total regularly. At last check, it appeared the second and third rounds of closings would amount to another 62 stores.

Based on those counts, LNT could emerge from Chapter 11 with about 407 units, assuming no additional doors shut before that.

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