Carry That Weight

By THOMAS McCARROLL

For corporate America, the past decade was a time of easy money and hell- bent expansion. As capital poured in from eager lenders in the U.S. and overseas, American firms went on an unprecedented credit binge. Commercial IOUs soared from $829 billion in 1980 to $2 trillion last year, enabling corporations to finance a record number of buyouts, restructurings and stock buybacks. But with the economy on the verge of a recession and many businesses leveraged to the hilt, companies are struggling to shape up and reduce debt loads. "Corporations are discovering that debt is a double-edged sword," says Edward Tyburczy, a senior vice president of Standard & Poor's, the debt- rating agency. "Those who lived and grew by the sword are now in danger of dying by it."

An alarming number of U.S. companies have been crushed by debt this year. From January through September, some 44,000 firms have failed, an increase of nearly 15% from the same period in 1989. The latest notable victim is Southland, the Dallas-based operator of the 7-Eleven chain of convenience stores, which filed for Chapter 11 protection last month after failing to manage its $2 billion in obligations. Financial analysts warn that many other debt-ridden businesses could be headed for bankruptcy unless they find a way to lighten their load. None of the methods are easy, but many firms are doing just that. With the same zeal they showed for leveraging up, companies are vigorously deleveraging. Their techniques range from old-fashioned cost cutting to modern tactics like debt-for-equity swaps.

One of the most common methods to survive debt is to refinance. Lenders will usually keep extending a company's debt, but often at higher interest rates on the new loans. At the moment, though, many lenders are pulling back because of rising defaults, so the refinancing option is becoming more remote. In fact, analysts warn that this has produced a credit crunch that could push many over-leveraged companies closer to failure. The situation is worst for firms that borrowed heavily by issuing junk bonds. The investment house that controlled most of the market for those securities, Drexel Burnham Lambert, has gone out of business, making the refinancing of such debt all but impossible.

Yet companies have other ways to restructure their debt, notably by using corporate stock. Firms in relatively good financial health can raise money by offering new shares on the market. Mr. Coffee, which was leveraged to the hilt as the result of a 1987 buyout, was able to wipe out almost half its LBO debt through a new issue last May. Another technique is the debt-for-equity swap, in which corporations retire their bonds by giving lenders corporate stock. That strategy was employed by furniture maker Interco, which last week announced that it will swap 95% of the stock in the company for $400 million worth of its bonds. But selling equity has become difficult in the bearish stock-market climate, and stockholders in troubled corporations often protest new issues that would dilute the value of their shares.

Excess debt inspires many firms to put some of their assets on the block. Unocal, the Los Angeles-based oil company, has been able to slash one-third of its $6 billion debt by selling coal mines, refineries and even its headquarters. But these sell-offs become less attractive as too many companies rush to unload assets. With so much merchandise on the block, prices have been depressed. Harcourt Brace Jovanovich, which incurred heavy debts fighting off a takeover bid, sold its Sea World theme parks last year for $1.1 billion, about $400 million less than many analysts expected. The market is expected to deteriorate further, which may force some companies to sell even more assets to raise the cash they need.

One of the most obvious ways for companies to make ends meet is to cut costs, which includes heavy trimming of the payroll. Over the past two years, Goodyear has pared its work force by some 6,000 workers, to 109,000. Businesses are also reducing overhead by cutting expenses and perks. Marriott, the highly leveraged hotel chain, recently instituted a salary freeze of up to one year for senior managers and three months for administrative and clerical help. Harcourt sold off its fleet of corporate jets and got rid of its chauffeur-driven limousines.

In order to hold on to precious capital, companies are increasingly delaying the payment of bills. Says C. Richard Lehmann, head of the Bond Investors Association: "Companies are writing checks but waiting for creditors to call and ask for payments before mailing them." But that doesn't mean that corporations are any more understanding of their own customers. They are stepping up their pressure on businesses that owe them money.

Many corporations have dreamed up creative means to pare down their debt. Vail Associates, the Colorado ski-resort operators, paid down part of its interest expenses in free ski passes rather than cash. And FPA, a Pennsylvania real estate developer, retired $19 million in junk-bond debt by giving its creditors raw land that it owned.

For companies that fail to get a handle on their onerous debt, bankruptcy looms. Once a shameful solution, even Chapter 11 is growing in appeal as other options disappear. For one thing, it allows indebted companies to keep operating while they reorganize. The newly revised tax law could add significantly to the number of firms seeking bankruptcy shelter. Under the new law, transactions in which debt is converted into equity will be taxed, thus increasing the costs of restructuring. But the tax will be waived if the company is under Chapter 11 protection.

Overleverage doesn't necessarily lead to the poorhouse. Some companies have been able to dig themselves out. Santa Fe Southern Pacific, which borrowed $4 billion to elude a hostile takeover bid in 1987, managed to repay the debt last March, four years ahead of schedule. The Chicago-based company sold its timber business as well as its pipeline, construction and leasing divisions. Media and entertainment giant Time Warner, which has nearly $11 billion in borrowings, hopes to grow its way out of debt without selling off assets. Says N.J. Nicholas, co-chief executive: "We can live with debt. It only becomes a problem when you have poorly managed businesses and no one wants to buy your products." As a hedge, however, Time Warner has said it may seek foreign investors that would take a minority interest in some of the firm's businesses.

Some business leaders believe that debt, in moderation, can have a positive influence. According to the so-called creative theory of debt, the discipline of working under leverage inspires managers to work harder and be more innovative. Says Robert Amman, chief executive of Western Union: "Some people thrive in a crisis environment. It's like ballplayers who perform under pressure during the World Series or the Super Bowl."

Not everyone buys this theory. Some complain that debt is more of a distraction than a disciplinarian. Managers can become so absorbed with cutting costs and staying one step ahead of creditors that they often neglect day-to-day operations. Some companies, including Harcourt, appoint executives whose sole duty is to manage debt. Says Peter Jovanovich: "The Superman approach doesn't work. If the CEO tries to do it all, deal with the bankers and run the business, he'll probably do it all badly."

Under those circumstances, debt can make firms less competitive. Since RJR Nabisco's leveraged buyout in late 1988, in which the corporation assumed some $25 billion in debt, the company has lost market share to rival Philip Morris because RJR's management is so absorbed with managing the huge LBO, many analysts contend. In addition, loan payments, which average 30% of corporate cash flow, often divert money away from more productive pursuits, including research, advertising and capital spending. While Phillips Petroleum was digging out from under its $9 billion debt, the corporation had to pass up several opportunities to acquire crude-oil reserves at bargain prices.

Levels of corporate debt tend to ebb and flow in a cyclical pattern. For the + moment, leverage is out of style. "Companies may have learned a valuable lesson," says William Rifkin, a managing director at Salomon Brothers, "but they're doomed to repeat the same mistakes in another 20 years." Maybe so, but that means the business managers who have survived the debt swamp will be unwilling to return to it until well into the next century.

CHART: NOT AVAILABLE

CREDIT: TIME Chart

CAPTION: Corporate debt outstanding as a percent of GNP.

With reporting by Michele Donley/Chicago and Matt Rothman/Los Angeles