I’m reading other definitions online and it says that it allows companies to restore liquidity & be more flexible. How? What do they mean by more flexible?
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Debt restructuring usually means changing a loan so that:
– You pay back less money (lower interest rate, in some cases lower principal) and/or
– You pay back money over a longer period of time
Debt restructuring can be an ordinary routine move by a financially healthy company. When economic conditions cause interest rates to fall, or when the company’s credit rating improves, it borrows a bunch of money and uses it to repay the loans it already owes. This is a win for the borrower since the new loans have a lower interest rate.
Debt restructuring can also be an extraordinary deal worked out by a financially stressed company and its creditors (banks and other lenders). For example if you run a company that makes $1 million a year, but borrowed $15 million from the bank and is supposed to pay $2 million a year to the bank for the next 10 years. (A very good deal for the bank, as the bank will turn $15 million into $20 million if your company makes all the payments.)
Your company files for bankruptcy. Basically this means you notify all your creditors about your financial problems, break the news that there’s no way you’ll be able to pay them all, and go through a legal process supervised by the court system. You might offer the bank a deal: You pay $1 million a year for the next 10 years instead.
If the bank doesn’t like that deal, the bank does have the option of telling you to pound sand and ask the judge to close your company and sell off the inventory / buildings / etc.
But closing your company might be a whole lot worse for the bank than your offer. If the stuff that would be sold is only worth $2 million or $3 million, the bank might decide that letting you stay in business, and maybe being able to get $10 million over 10 years, is a better bet than forcing you to liquidate and only getting $2-$3 million today.
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